RingCentral, Inc. — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018; balance-sheet figures are as of March 31, 2018. RingCentral provides cloud-based business communications and collaboration software as a service. Comparative 2017 figures have been adjusted for the company’s retrospective adoption of Topic 606.
Financial performance
| Metric | Q1 2018 | Q1 2017 |
|---|---|---|
| Total revenue | $150.3 million | $112.2 million |
| Software subscription revenue | $137.0 million | $104.1 million |
| Gross profit / gross margin | $114.7 million / 76% | $84.9 million / 76% |
| Operating loss | $1.4 million | $2.2 million |
| Net loss | $2.7 million | $2.2 million |
| Operating cash flow | $12.2 million | $8.7 million |
| Investing cash flow | $(25.8) million | $(6.8) million |
Revenue grew 34% year over year; subscription revenue rose 32% and other revenue 65%. Subscription revenue was 91% of total revenue. Software subscription gross margin improved to 82% from 81%, while total gross margin remained 76%. Operating expenses increased 33% to $116.0 million, including sales and marketing of $71.9 million, research and development of $22.7 million, and general and administrative expenses of $21.4 million. Interest expense rose to $1.4 million, primarily from amortization of debt discount and issuance costs on the new notes. Diluted and basic net loss per share was $0.03, unchanged from the prior-year reported amount.
Liquidity, debt, and other key metrics
Cash and cash equivalents were $555.0 million, compared with $181.2 million at year-end 2017; total current assets were $651.1 million and current liabilities $138.1 million. Operating cash flow was $12.2 million. Investing outflows included $18.5 million for the AT&T customer-base acquisition, $4.6 million in property and equipment, and $2.8 million in capitalized internal-use software.
In March, RingCentral issued $460 million of 0% convertible senior notes due 2023, receiving approximately $449.5 million net proceeds. The notes’ balance-sheet carrying amount was $352.0 million, reflecting discounts and issuance costs; disclosed fair value was approximately $463.8 million. The initial conversion price is approximately $81.45 per share. The company spent $49.9 million on capped calls and repurchased 239,425 shares for $15.0 million. Management said it currently intends to settle note principal in cash. The company reported compliance with the notes’ covenants and believes available liquidity will cover requirements for at least 12 months.
Annualized exit monthly recurring subscriptions (ARR) were $589.0 million, up from $450.8 million a year earlier; Office ARR was $509.2 million versus $373.0 million. Net monthly subscription dollar retention was above 99% in each of the five quarters presented.
Material developments and outlook
- RingCentral acquired AT&T’s existing Office@Hand customer base for estimated consideration of $24.1 million, including earn-out consideration. Customer transition is expected to finish by January 2019; the company said it is in the early stages of the transition.
- Management attributed subscription growth to new customers, customer upsells, increased mid-market and enterprise sales, channel-partner sales, and a greater mix of RingCentral Office customers. Core subscription revenue excluding AT&T was $124.6 million, up 37% year over year.
- Management expects gross margin to remain fairly consistent, while research and development, sales and marketing, and general and administrative expenses are expected to increase in absolute dollars. It expects capital expenditures to grow with the business and anticipates continued operating cash use as it invests in growth. The filing gives no specific full-year revenue or earnings guidance.
- The company adopted Topic 606 using the full retrospective method. The 2017 comparison reflects the adjustment; adoption increased reported 2017 operating results primarily because eligible sales commissions are deferred and amortized rather than expensed immediately.
Risks, contingencies, and unusual items
RingCentral reported continuing losses and an accumulated deficit of $212.2 million, and said it expects losses for the foreseeable future. Key risks include intense competition, customer retention and acquisition costs, dependence on carrier, reseller, data-center and other third-party providers, service interruptions and cybersecurity incidents, international and regulatory exposure, and the ability to scale operations. More than 90% of revenue was derived from the U.S.; one carrier represented 20% of accounts receivable at quarter-end.
Three disclosed lawsuits remain unresolved: a TCPA fax-related class action on appeal, a separate TCPA matter involving alleged prerecorded political calls, and Uniloc patent-infringement actions concerning Glip that are stayed pending patent review proceedings. The company said loss amounts or ranges could not be estimated and reported no accrued liabilities for these loss contingencies. It also recorded a $2.3 million long-term estimated sales-tax liability and $9.8 million of current sales-tax liabilities.
Important facts for investors to verify
- Progress and customer retention in the AT&T Office@Hand transition, including any effect on subscription growth.
- Whether ARR growth and retention above 99% persist, and how efficiently the company converts growth into profitability and cash generation.
- Cash needs and dilution or settlement implications of the 2023 convertible notes, including the capped-call protection and the company’s stated intent to pay principal in cash.
- Changes in operating expenses, capital spending, and working-capital requirements as the company expands up-market and internationally.
- Developments in the TCPA and patent cases, sales-tax exposure, and compliance with evolving privacy and telecommunications rules.