Q3 2022 Avaya Holdings Corp Earnings Call

Okay.

Thank you.

Welcome to our lives call to discuss certain preliminary fiscal 2022 third quarter financial results Ellen Macerich, a vice president and CEO and Kieran Mcgrath Executive Vice President and CFO will lead this video conference and share with you some prepared remarks.

Press release and Investor slides referenced on this video conference are accessible on the Investor page of our website as well as in the 8-K filed today with the SEC.

He should aid in your understanding of a bias preliminary financial results.

All financial metrics referenced on this call are non-GAAP with the exception of revenue. We've included a reconciliation of such non-GAAP metrics to GAAP in the press release and Investor slides, which were filed with the SEC earlier today.

Also during this call we will be making certain forward looking statements, including statements concerning our future prospects financial results liquidity cost cutting initiatives internal controls ongoing investigations by our audit committee, our strategies investments industry trends and our ability.

To successfully responsive business risks, including those related to the spread of COVID-19 inflation and increased raw materials costs and other supply chain issues such statements are considered forward looking statements under the private Securities Litigation Reform Act of 1995 and are subject to.

Certain risks and uncertainties, which could cause actual results to differ materially from those contemplated by our forward looking statements.

Information about these various risks and uncertainties maybe found in our most recent filings with the SEC, including our Form 10-K, and our Form 10-Qs ripped.

Reported results should not be considered an indication of future performance.

Also note that the forward looking statements on this video conference are based on information available to US as of today's date, we disclaim any obligation to update any forward looking statements, including guidance, except as required by law I will now turn it over to Alan.

Yeah.

Good morning.

<unk>, Erik and I'm pleased to be speaking to you for the first time as <unk> CEO .

I'll start by addressing our disappointing results for the quarter.

But before we dive in let me highlight two points.

First my commitment to you is that our team and I will share information and open honest direct and transparent manner.

Second.

I've always considered a bias opportunity for success.

Much greater than its past performance.

I've been interested in a buyer for a long time, because I see many parallels to my experience, leading vantages transformation, which I'll describe more later.

With respect to our preliminary Q3 results.

Please refer to the investor deck, and which we highlight the components of the Miss and we reconcile Q3 results prior public guidance.

The largest component of the revenue Miss was $64 million lower subscription revenues versus the internal forecast reflected in our public guidance.

In Q2.

Q3, total contract value was less than our internal forecast because average contract duration and average contract size decline.

Subscription revenues are based on total contract value. So these declines in duration and size meaningfully depressed current quarter revenue recognition.

Declines generally happen because some customers side shorter term contracts, while others renewed maintenance agreements instead of signing long term software subscription agreements.

The net result of these changes reduced the software and subscription revenue, we could recognize per the 606 accounting standard.

Yet in spite of this large decline velocity and demand for subscription remained strong and we actually signed nearly 120 more subscription contracts in Q3 than we did in Q2.

The other large element of the revenue Miss was $43 million related to Capex license deals that were either delayed into Q4 downsized or lost.

This revenue mess happen proportionately across the theaters and we are working with our teams and our channel partners to determine root causes.

To summarize the lower subscription total contract value.

The sequential quarterly increase in maintenance bookings and the accelerated decline of Capex licenses theme.

Seems to imply that customers became cautious on making longer term commitments to avaya.

<unk> due to concerns about the bias near term debt maturities.

Given the very public nature and extended length of time it took.

Pre market launch and complete the financing during Q3.

Moving forward.

We need to accelerate our contract booking and corresponding revenue recognition assessment and recording so we can more quickly report guidance more quickly report performance.

Subscription contract booking and accounting systems need to be more automated, particularly given the large quantity of contracts that require manual review.

In Q3 of <unk> signed over 300 subscription contracts greater than $100000 PCV.

Each of which required manual review to determine revenue recognition.

We plan to analyze the necessary upgrades to our systems.

Feed up our processes, particularly related to revenue recognition reviews around bespoke contracts.

In parallel with our internal work.

Our audit committee has engaged external counsel as a matter of good governance to conduct an independent investigation of Q3 results.

Given the time it will take to complete this work we will delay filing our third quarter 10-Q until the review is completed.

No.

Let's shift gears to actions underway to improve avaya is near and long term prospects.

In the July 28 press release, the company announced a cost reduction initiative to eliminate between 225 at $250 million of costs as we operationalize these cost savings and define our go forward business plan. We may increase the size of this cost reduction initiative.

Because the goal is to right size avaya its cost structure to align with our contractual recurring revenue business model.

My goal is to reduce enough cost for avaya. So that we generate positive net operating free cash flows in fiscal 'twenty three <unk>.

Excluding the restructuring costs.

We intend to operationalize as many of these cuts as possible in this Q4.

And for reductions recording requiring more time, the company will accrue pending restructuring charges at year end.

So now let's return to why I wanted to join Avaya as CEO .

I joined because I'm not a stranger to business transformation, most recently I guided bondage through its own journey.

I'm, a voip based residential phone provider that was in multi year revenue decline.

A global Enterprise Cloud Communications company, with increasing revenues and profitability that led to significant equity value appreciation.

I know what it takes to succeed in a highly competitive.

Global Communications marketplace I also understand the challenges in transitioning to a subscription based cloud model.

So while all transformations are tough.

Avaya has an enviable set of assets that are foundational to our success.

<unk> is an iconic brand with a truly global customer footprint of <unk> 90000 customers and 190 <unk>.

Countries across a massive partner ecosystem.

<unk> customer base includes many of the world's largest enterprises and avaya maintain some of the world's largest communications deployments.

So while our Q3 revenue and EBITDA is highly concerning let's not forget our bias positive accomplishments in the quarter. Let me just cite three.

First.

Our bias transformation to subscription and cloud delivered services remains well underway in Q3, one cloud <unk> increased to $838 million Thats, an increase of 12% sequentially and 97% year over year.

This underscores the continued progress of our business model transformation and the strength of our offerings.

Second of ISI 92 deals in Q3 with PCB is greater than 1 million Bucks demonstrating continued strength with enterprise customers. We added approximately 13 100, new logos with over 60% of those signing up for our cloud and subscription offers.

And third recurring revenue was 70% up from 64% a year ago and our remaining performance obligations, commonly referred to as revenue backlog remained steady at $2 3 billion.

Now notwithstanding these positives are buyer has much to improve on.

I've already discussed the need to right size our cost structure.

We also need to develop the products necessary to accelerate our transformation to cloud based solutions.

This said, we have a strong technical foundation from which to build including over 4000 patents many of which are seminal to our industry.

And importantly, this shift to cloud based technology is precisely the transition.

<unk> advantage.

I also believe that our cultural revitalization as necessary.

We revitalized Vonage is culture and I intend to do the same here.

I want avaya to become the preferred destination place to work for the most talented in our industry.

As I told Avaya as employees during live video presentations and the entire company last week.

Pair to win.

Payer to win.

This message of winning is the same message will bring to <unk> customers and partners.

We want to be the world's best communications supplier.

We will focus our investments on driving innovation and advancing the product development that our customers expect from us and as such we intend to win our customers business every day.

To our customers I would say I want to hear from you to listen to your perspectives and ideas and to strengthen our partnership.

I invite you to reach out to me directly at.

And I'll be doing the same.

To our partners.

I recognize and appreciate the tremendous value you provide to avaya and to our customers and the critical role you play in <unk> future.

Committed to strengthening our relationships. So we jointly deliver the best solutions possible for our customers.

In closing.

I want you to know that our priority right now is to be heads down.

Executing on what I've outlined today.

We will be refreshing our outlook as we finalize our go forward plans and our cost reduction initiatives.

I will provide updates as soon as available.

And as such we will not be taking Q&A today.

Thank you for your thank you for your support.

And thank you in advance for your patience.

Now I'll now turn the call over to Kieran for.

The CFO commentary.

Thank you Karen.

Thanks, Ellen and welcome to Avaya, we're happy we're happy to have you here.

Good morning, everyone.

As a reminder, all figures mentioned in this call are as reported rates unless otherwise indicated in constant currency.

I also wanted to note.

That all of the third quarter of fiscal 2022 results that we are discussing here. This morning.

Including any related comparisons to prior periods.

Our preliminary financial results that.

Have not yet been reviewed or audited.

Or based on good faith estimates.

Okay.

More importantly.

Our prepared prior to the completion of our financial statements closing process.

So these preliminary results should not be considered final until we file our Form 10-Q for the quarter.

In the first quarter and pardon me for the third quarter of our fiscal 2022.

Revenue was $577 million.

This was down 21% as reported and 20% in constant currency.

The $732 million reported in the year ago period.

<unk> $716 million reported in Q2 of fiscal 2022.

Our one cloud annual recurring revenue or <unk>.

<unk> grew this quarter.

$888 million to end the quarter at $838 million.

Sequential growth was 12% and 97% growth year over year.

Revenue contribution from caps.

<unk> Alliance partner and subscription represented 53% of our total revenue versus 40%, 40% a year ago, but in absolute dollars was down approximately $85 million sequentially, primarily to the reduction in subscription point in time revenue that you heard Alan discussed.

For our third fiscal quarter recurring revenue accounted for 70% of total revenue.

Software and services revenue represented 88% of our total revenue.

Software revenue alone.

<unk> totaled <unk>, 62% of our revenue.

Now, let me turn to over to profitability.

non-GAAP gross margin was 51% in the third quarter compared to 61, 5% in the year ago period, and 56, 7% sequentially.

Our product margins of 43, 8% was down three percentage points sequentially, primarily due to lower hardware gross margin.

Year to year gross margin is down 17 percentage points, primarily due to the decline in high margin Capex licensed software revenue.

Services margin was at 53, 9% down seven points sequentially eight eight points year on year.

The sequential decline is due to lower Q3 subscription revenue.

As it relates to the year on year decline or subscription revenue grew the growth was not sufficient to offset the declines in the high margin maintenance revenue over the same period.

Third quarter non-GAAP operating income was $20 million.

And non-GAAP operating margin of 3% versus 20% in the year ago period.

Adjusted EBITDA was $54 million representing.

Representing an adjusted EBITDA margin of 9% down from 24% last year due to the aforementioned revenue reductions partially mitigated by the expense reductions previously announced in Q2.

non-GAAP was negative 24 cents in the quarter.

A positive 75 to the year ago period, and positive 53 sequentially.

Now you will note in the accompanying preliminary financial statements contained within our Q3 press release that we expect to record a $1 $2 72 billion noncash impairment charge against the carrying value of our trade names and goodwill intangible assets.

This charge is a preliminary estimate and our analysis is still ongoing.

Finally, our cash cash flow from operations was negative $85 million Kantar.

Contributing to a third quarter ending cash balance of $217 million.

Adjusting our third quarter ending cash balance of the net proceeds of the incremental term loan and exchangeable notes financing, which was completed on July 12 are biased cash on hand will be composed of $440 million of cash and cash equivalents and $221 million of.

Of restricted cash held in escrow.

Let me conclude by reinforcing what Alan has noted.

We are not standing still.

We have taken an aggressive set of actions to reset our run rate of cost and expense.

We expect to generate between 225 and $250 million of annual cost and expense reductions and have already begun to operationalize. These plants.

As Alan stated as we finalize these plans we may increase the size of the cost initiatives.

We are intently focused on liquidity and maintaining our financial and operating flexibility. So as to continue to invest in our business and sustaining the transition of our business model.

With that let me hand, it back to al.

Thanks, Karen.

And thank you all again.

I understand very clearly that there is disappointment there is worry there is concern.

Out there across.

Effectively all of the bias stakeholders.

I get it.

But I think it would be a mistake to look at sort of the Q3 Q3 results and extrapolate that out and say this is the future of the company I don't believe that at all.

As I mentioned transformations are tough.

But I came here.

Wide open.

Because I fundamentally believe that.

That we can fundamentally improve the performance going forward.

If I didn't believe that I wouldn't have come here as CEO . So.

So I spoke to what I see our <unk>.

Assets that are just completely irreplaceable far far in excess of what any other competitor has.

Now we've got lots of work to do make no mistake, but I think the way in which transformations happen. Then obviously I have got very specific experience about this is you got to be very resolute about it and that's what I intend to do that's what I intend to be.

So as I said at the end of my prepared comments.

I want to thank you for your support and I'm going to thank you in advance for your patients.

Give us some time to demonstrate.

A better future.

As I said to my colleagues throughout Avaya prepare to win.

Prepare to win so thank you all very much and we look forward to getting back in touch just as soon as our plans firm and again, we appreciate your support thank you.

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