OpenText Corporation: Q1 Fiscal 2013 Form 10-Q Summary
Business context and reporting period
OpenText provides enterprise information management software, including enterprise content management, business process management, customer experience management, information exchange and discovery solutions. The filing covers the three months ended September 30, 2012, with results reported under U.S. GAAP in U.S. dollars. The company had approximately 5,000 employees and 58.5 million common shares outstanding at October 22, 2012.
Results include EasyLink Services International Corporation from July 2, 2012. EasyLink provides cloud-based electronic messaging and business integration services.
Financial performance and condition
| Metric | Q1 FY2013 | Q1 FY2012 | Change |
|---|---|---|---|
| Total revenue | $326.2 million | $288.0 million | 13.3% increase |
| Gross profit | $205.6 million | $186.6 million | 10.1% increase |
| GAAP gross margin | 63.0% | 64.8% | Down 180 basis points |
| Income from operations | $40.1 million | $27.1 million | 47.7% increase |
| GAAP operating margin | 12.3% | 9.4% | Up 290 basis points |
| Net income | $19.4 million | $35.0 million | 44.5% decrease |
| Diluted GAAP EPS | $0.33 | $0.60 | Decrease |
| Operating cash flow | $61.8 million | $45.3 million | 36.2% increase |
- Revenue mix consisted of license revenue of $55.7 million, cloud services revenue of $44.9 million, customer support revenue of $162.1 million and professional services and other revenue of $63.6 million.
- License revenue declined 14.3%, primarily because 11 deals above $0.5 million closed versus 22 in the prior-year quarter, with additional pressure from a weaker euro.
- Customer support revenue was essentially flat and represented approximately 50% of total revenue. Cloud services revenue was newly presented as a separate category and was primarily contributed by EasyLink.
- Non-GAAP diluted EPS was $1.31 versus $1.03, and non-GAAP operating margin was 28.7% versus 25.3%. These measures exclude, among other items, acquired-intangible amortization, share-based compensation and restructuring charges.
- The effective tax rate was 45.5%, compared with a 3.9% tax recovery rate in the prior-year quarter. The comparison was affected by prior-year tax benefits from an international reorganization and a Canadian tax election.
- Cash and cash equivalents were $302.2 million at September 30, 2012, down from $559.7 million at June 30, 2012. The reduction primarily reflected the $315.3 million cash acquisition of EasyLink, partially offset by operating cash flow.
- Total debt was $589.2 million, including a $577.5 million term loan and an $11.7 million mortgage. The company had not drawn on its $100 million revolving credit facility.
- The term loan bears interest at LIBOR plus 2.50%; a 100-basis-point increase in LIBOR would increase annual interest expense by approximately $5.8 million based on the quarter-end balance.
- Current assets were $544.9 million versus current liabilities of $497.6 million. The company stated that cash, available credit facilities and committed loan facilities should fund expected requirements for the next 12 months, although additional acquisitions may require further financing.
Material changes versus the prior comparable period
- EasyLink was acquired for $342.3 million in cash consideration, with $171.0 million of goodwill and $197.1 million of acquired customer and technology intangible assets recorded. EasyLink contributed $43.5 million of revenue and $0.6 million of net income during the quarter.
- Goodwill increased to $1.21 billion from $1.04 billion, and acquired intangible assets increased to $468.7 million from $312.6 million, primarily due to EasyLink.
- Cloud services revenue and related costs were presented separately for the first time; prior-period amounts were not material and were not reclassified.
- Operating income improved despite higher amortization and restructuring costs. Operating expenses increased 3.7%, while research and development and sales and marketing expenses declined modestly.
- Special charges increased to $9.6 million from $7.1 million. The quarter included $7.6 million under a new restructuring plan involving workforce reductions and facility consolidation. Total costs under this plan were estimated at approximately $15 million, leaving approximately $7.4 million potentially to be recorded.
- Net interest expense increased to $4.4 million from $2.8 million because of the larger term loan entered into in November 2011.
- Operating cash flow increased, but investing cash use rose to $320.6 million from $262.1 million due primarily to the EasyLink acquisition. Financing cash flow was an outflow of $3.3 million versus an inflow of $55.8 million in the prior-year quarter.
Guidance, outlook, risks and unusual items
Management did not provide specific quantitative revenue or earnings guidance in the filing. Management expects customer support to remain approximately 50% of revenue, views its geographic diversification as a mitigant to regional economic weakness, and intends to expand its positions in enterprise content management, business process management, customer experience management, information exchange and discovery. Management also expects to continue pursuing strategic acquisitions.
- The EasyLink purchase price allocation remained subject to potential unrecorded legacy liabilities involving litigation, onerous contracts and sales-tax matters; management expected to finalize the allocation by June 30, 2013.
- EasyLink faces a New York telecommunications excise and franchise tax assessment of approximately $10.5 million, plus a separate approximately $0.5 million sales-tax assessment and related audits.
- OpenText and EasyLink are involved in patent litigation with j2 Global and Advanced Messaging Technologies involving fax-related products. No liability was accrued, and management stated that any potential aggregate loss was not expected to be material.
- Gross unrecognized tax benefits could decrease tax expense by approximately $17.7 million over the following 12 months, although tax examinations remain open in several jurisdictions.
- The company is exposed to foreign-exchange risk, particularly through its international operations and foreign-currency cash balances. Approximately 54% of cash was held in currencies other than the U.S. dollar.
- Contractual obligations totaled $805.3 million, including $650.9 million of debt obligations, $147.7 million of operating leases and $6.7 million of purchase obligations.
- Management reported effective disclosure controls and procedures and no material changes to internal control over financial reporting during the quarter.
Most important facts for investors to verify
- Whether EasyLink produces the expected recurring cloud-services growth and margins without materially increasing integration, litigation or tax liabilities.
- The remaining cost and timing of the Fiscal 2013 restructuring plan and whether additional special charges will reduce GAAP earnings.
- The sustainability of revenue growth given the 14.3% decline in license revenue and the company’s reliance on acquisitions and recurring support revenue.
- Compliance with the term-loan leverage and interest-coverage covenants, particularly under higher interest rates or weaker operating performance.
- The outcome of EasyLink’s New York tax matters, related sales-tax audits and the unresolved purchase price allocation.
- The effect of acquired-intangible amortization, share-based compensation, restructuring charges and tax-rate variability when comparing GAAP and non-GAAP results.