Tucows Inc. — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018. Amounts are in U.S. dollars. Tucows provides mobile and fiber internet services and domain registration and related services through its Network Access Services and Domain Services segments.
Financial performance
| Metric | Q1 2018 | Q1 2017 |
|---|---|---|
| Revenue | $95.8 million | $69.6 million |
| Gross profit / margin | $22.6 million / 23.6% | $16.9 million / 24.4% |
| Operating income / margin | $5.7 million / 5.9% | $3.1 million / 4.4% |
| Net income | $3.7 million | $2.4 million |
| Diluted EPS | $0.35 | $0.23 |
| Adjusted EBITDA | $10.4 million | $6.3 million |
| Operating cash flow | $9.6 million | $2.4 million |
Revenue rose 38% year over year, while gross profit increased 34%. Network Access Services revenue grew 23% to $23.6 million; Domain Services revenue grew 43% to $72.2 million. The reported gross margin declined despite higher gross profit. Q1 2018 income tax expense was $1.2 million, compared with a $0.1 million tax recovery in Q1 2017.
Cash, debt and liquidity
Cash and cash equivalents were $16.6 million at March 31, 2018, down from $18.0 million at year-end. Operating cash flow was $9.6 million; investing activities used $6.3 million, including $5.1 million for property and equipment and $1.2 million to acquire the remaining interest in Ting Virginia. Financing activities used $4.7 million, principally for debt repayment. Property and equipment additions were primarily related to fiber expansion.
Loan payable was $72.4 million, including $18.3 million current and $54.1 million long-term, compared with $76.9 million at December 31, 2017. The $140 million secured credit facility carries variable rates and is secured by substantially all company assets. Tucows reported compliance with its financial covenants. Management said operating cash flow should be adequate for working capital, capital expenditures and debt repayments for at least the next 12 months.
Material changes and unusual items
- Revenue included $14.6 million of accelerated recognition of previously deferred domain revenue following the court-ordered transfer of 2.65 million domains to Namecheap. Related accelerated domain registry costs were $14.5 million, substantially offsetting the revenue contribution to gross profit.
- The eNom acquisition and Otono mobile roaming assets contributed to year-over-year growth. One customer represented 18% of Q1 2018 revenue; no customer exceeded 10% in Q1 2017.
- Domain names under management fell to 24.4 million from 29.6 million a year earlier, including the Namecheap transfer and another reseller migration of approximately 0.5 million names. New, renewed and transferred-in registrations were broadly flat at 4.9 million.
- Ting managed 286,000 mobile subscribers and 165,000 accounts, compared with 280,000 subscribers and 171,000 accounts a year earlier.
- The company adopted ASC 606 on January 1, 2018 using the modified retrospective method; prior-period figures were not restated. Management said the adoption did not materially affect revenue timing. It recorded a $1.4 million contract-cost asset and a $1.1 million increase to opening retained earnings, net of tax.
Outlook, risks and contingencies
Tucows expected capital expenditures for fiber-network construction to increase significantly in 2018 and anticipated launching service in Sandpoint, Idaho, and Centennial, Colorado, in the second half of 2018. Management cited competitive pressure in mobile and domain services, possible subscriber churn, customer migrations, foreign-exchange exposure, debt-service requirements, and risks to fiber expansion. The company estimated that a hypothetical 10% adverse currency movement would reduce quarterly net income by approximately $0.9 million before hedging; a one-percentage-point rate increase would raise annual interest expense by approximately $0.7 million at the reported debt balance.
The EU General Data Protection Regulation became effective May 25, 2018. Tucows warned that compliance uncertainty could increase costs, affect WHOIS privacy revenue, or result in penalties, litigation or market-share loss. In the Namecheap state-court action, the domain transfer was completed in January 2018; Namecheap also seeks damages. Tucows disputes the claims and said it did not consider the litigation material. Management reported no material adverse effect expected from other ordinary-course claims.
Investor verification points
- Separate underlying operating growth from the one-time accelerated Namecheap revenue and related costs.
- Assess the sustainability of domain customer relationships and the impact of the decline in domains under management.
- Monitor customer concentration, especially the customer contributing 18% of quarterly revenue.
- Review fiber-network spending, launch progress and funding needs against variable-rate debt and covenant limits.
- Track GDPR compliance effects and developments in the Namecheap litigation.
- Note that Q1 2017 comparisons were not restated for ASC 606 adoption.