Qualys, Inc. — Q1 2017 Form 10-Q
Business context and period. Qualys provides cloud-based security and compliance subscriptions, generally billed annually in advance and recognized over the subscription term. This unaudited report covers the three months ended March 31, 2017, compared with Q1 2016. Vulnerability Management solutions contributed approximately 75% of revenue.
Financial performance and position
| Metric | Q1 2017 | Q1 2016 or prior date |
|---|---|---|
| Revenue | $53.1 million | $46.2 million; up 15% |
| Gross profit / margin | $40.8 million / 77% | $36.7 million / 79% |
| Operating income / margin | $7.7 million / 14% | $7.6 million / 16% |
| Net income | $21.9 million; diluted EPS $0.56 | $4.8 million; diluted EPS $0.13 |
| Adjusted EBITDA / revenue | $16.8 million / 32% | $16.1 million / 35% |
| Operating cash flow | $32.4 million | $17.1 million |
| Free cash flow | $27.9 million | $12.8 million |
| Cash, cash equivalents and investments | $308.5 million | $289.6 million at Dec. 31, 2016 |
| Total liabilities | $157.1 million | $148.6 million at Dec. 31, 2016 |
Revenue growth reflected new customer subscriptions and increased purchases by existing customers: $4.8 million of the increase came from U.S. customers and $2.1 million from foreign customers. Cost of revenue rose 29%, faster than revenue, primarily from personnel, data-center and equipment depreciation, overhead, and software costs. Operating expenses increased 14% overall; R&D rose 21%, sales and marketing 13%, and general and administrative 7%.
Cash and investments totaled approximately $308 million, including $3.5 million held abroad that the company said it did not intend to repatriate for domestic operations. Management expected existing liquidity and operating cash flow to fund operations for at least 12 months. No borrowings or debt balance is listed in the supplied balance sheet; operating lease commitments totaled $50.2 million, including a $38.6 million headquarters lease commitment.
Material changes and unusual items
- Net income rose sharply, but primarily because of income-tax accounting rather than operating growth: the company recorded a $13.8 million income-tax benefit versus a $3.0 million provision in Q1 2016. It reported a $16.1 million benefit related to excess stock-compensation tax benefits, following adoption of ASU 2016-09. Management cautioned that this change would make the effective tax rate more volatile.
- Operating income was nearly unchanged despite 15% revenue growth, while gross margin declined two percentage points and Adjusted EBITDA margin declined three points.
- Operating cash flow increased to $32.4 million, supported in part by an $8.0 million increase in deferred revenue and a $5.4 million decrease in accounts receivable. Cash flow also reflects substantial noncash tax adjustments.
- Financing cash flow was a use of $8.5 million, including $14.1 million of payments for taxes related to employee net share settlement, partly offset by $5.6 million of option-exercise proceeds.
- Shares outstanding increased from 35.8 million at year-end to 37.0 million at March 31. The company also reported 5.9 million outstanding options and 0.6 million restricted stock units and awards.
Outlook, commentary, and risks
The filing provides no specific numerical revenue or earnings guidance. Management described continued investment in data-center capacity, R&D, sales personnel, marketing, and international expansion, and said future capital needs would depend on growth and investment plans. The company’s interim results are not necessarily indicative of full-year results.
Key disclosed risks include reliance on Vulnerability Management for most revenue; customer renewal and cross-selling performance; competition and pricing pressure; the ability to scale and secure the cloud platform and data centers; long and variable sales cycles; dependence on channel partners, which generated approximately 41% of Q1 revenue; foreign exchange and international operating risks; and execution of growth investments. Management reported no material contingency liability and no legal proceeding expected to have a material adverse effect. Disclosure controls were assessed as effective, with no material change in internal control over financial reporting reported for the quarter.
The company planned to adopt the new revenue-recognition standard on January 1, 2018, and was still assessing its impact. It identified possible effects involving sales commissions and contract costs and financing components of certain long-term contracts; its adoption method had not been finalized, though modified retrospective was then planned.
Important facts for investors to verify
- How much of Q1’s net-income increase reflects the one-time or timing-sensitive stock-compensation tax benefit, and what earnings imply without it.
- Whether revenue growth can be sustained while gross and Adjusted EBITDA margins are lower year over year.
- Renewal, bookings, deferred-revenue, and customer expansion trends, given ratable subscription revenue recognition and the concentration in Vulnerability Management.
- Cash generation quality after considering working-capital movements, noncash tax adjustments, and employee equity-related tax payments.
- The ultimate balance-sheet and expense effects of the planned headquarters lease and upcoming accounting-standard adoptions.
- Potential share dilution from outstanding options, restricted awards, and future equity-plan grants.