Zscaler, Inc. — FY2019 Form 10-K
Reporting period: Fiscal year ended July 31, 2019. The filing also reports the quarter ended July 31, 2019. Amounts are in U.S. dollars.
Business context
Zscaler sells subscriptions to its cloud security platform, principally Zscaler Internet Access and Zscaler Private Access, with related support. Subscription and support revenue represented about 99% of revenue and is generally recognized ratably over one-to-three-year contracts. At year-end, the company reported more than 3,900 customers, including over 400 Forbes Global 2000 companies. It operates one reportable segment.
Financial performance and liquidity
| Metric | FY2019 | FY2018 | Change |
|---|---|---|---|
| Revenue | $302.8 million | $190.2 million | +59% |
| Gross profit / margin | $243.2 million / 80% | $152.3 million / 80% | Margin unchanged |
| Operating loss | $35.3 million | $34.6 million | Loss increased slightly |
| Net loss | $28.7 million | $33.6 million | Loss narrowed |
| Operating cash flow | $58.0 million | $17.3 million | Improved |
| Free cash flow | $29.3 million | $2.1 million | Improved |
FY2019 revenue growth reflected both expansion among existing customers and new customer additions. Dollar-based net retention was 118%, versus 117% in FY2018. Calculated billings increased 51% to $390.0 million. Deferred revenue was $251.2 million, and remaining performance obligations were $554.2 million.
At July 31, 2019, cash and cash equivalents were $78.5 million and short-term investments were $286.2 million, totaling $364.6 million; working capital was $234.1 million. Total liabilities were $295.6 million, including $251.2 million of deferred revenue. The balance sheet presents no borrowings or debt balance. Operating cash flow benefited in part from a $87.2 million increase in deferred revenue from advance customer billings.
FY2019 sales and marketing expense was $169.9 million, research and development was $62.0 million, and general and administrative expense was $46.6 million. Stock-based compensation totaled $46.4 million, up from $11.2 million in FY2018. Management’s non-GAAP measure showed operating income of $25.1 million, excluding stock compensation, specified litigation costs and acquired-intangible amortization; GAAP operating results remained a loss.
Fourth-quarter snapshot
For the quarter ended July 31, 2019, revenue was $86.1 million, compared with $56.2 million in the year-earlier quarter. Net loss was $5.3 million, versus $7.0 million. Operating loss was $7.9 million, versus $7.9 million.
Changes, outlook, risks and unusual items
- Revenue growth remained strong, while gross margin held at 80%. Operating expenses rose 49% overall, reflecting continued hiring and investment; stock-based compensation rose substantially following the shift toward restricted stock units after the IPO.
- Management expects continued investment in sales and marketing, research and development, platform capacity and international growth, and expects net losses to continue for the foreseeable future. It stated existing cash, cash equivalents and short-term investments should fund operating and capital needs for at least 12 months; no quantified revenue or earnings guidance is provided in this filing.
- Channel partners accounted for 96% of FY2019 revenue. The top five channel partners and affiliates represented 42% of revenue, creating partner concentration and execution risk. International customers contributed 51% of revenue.
- Symantec patent litigation remained unresolved; the company reported no loss accrual because it did not consider a loss probable. Finjan litigation was settled in April 2019 for a $7.3 million payment; $4.1 million of incremental expense was recorded in FY2019. Litigation expenses totaled $13.1 million for the year.
- FY2019 acquisitions included Appsulate, for an aggregate purchase price of approximately $12.9 million, and another smaller acquisition. The company also entered a San Jose headquarters sublease with a stated initial-term rent of approximately $37.3 million, net of free-rent periods. Total contractual obligations were $83.3 million, including leases and data-center commitments.
- Key risks include intense competition, customer adoption and renewal uncertainty, dependence on continuous cloud availability and security, reliance on channel partners, intellectual-property claims, privacy and regulatory compliance, and execution of rapid growth. The auditor issued an unqualified opinion and concluded internal control over financial reporting was effective as of year-end.
Important facts for investors to verify
- Progress toward GAAP profitability and whether cash generation is sustainable apart from advance billings and non-cash stock compensation.
- Customer retention, expansion, renewal trends and the durability of 59% revenue growth and 118% dollar-based net retention.
- Channel-partner concentration and any changes in contribution from major partners.
- Developments, potential costs and accounting treatment of the Symantec litigation and other legal matters.
- Future stock-based compensation, share dilution, and the costs and occupancy schedule of the new headquarters lease.