Q3 2022 SolarWinds Corp Earnings Call
So mobility evolution.
I'll touch on some of these before turning it over to Buck for more color on the quarter as well as our financial outlook for the balance of the year.
In Q3, 2022, we delivered revenues of $179 million.
Down 1% year over year.
Excluding an approximately $1 million currency headwind since we provided guidance.
The new assuming foreign currency exchange rates used in our previously issued outlook would have been within our guidance range and on a constant currency basis, we delivered a 1% year over year growth.
I am excited to report that in Q3, our ink quarter maintenance renewal rate was 91% and our trailing 12 month renewal rates are now at 91%.
Mmk and the opportunity to expand our lifetime value with festivals.
We ended the third quarter of 2022 with 880 to customers, who have spent more than $100000 with us in the last 12 months.
An increase of 12% over the comparable period in the previous year.
More and more we are helping customers reduced students progress achieved comprehensive visibility across multicloud environment.
Eliminate less fatigue and accelerate their digital transformation, leading to larger sizes.
<unk> EBITDA was $73 million, representing an adjusted EBITDA margin of 39% in line with the outlook we provided.
Now I'd like to take a step back and reflect on the strategy, we laid out at our analysts and investors day, one year ago.
What we have accomplished since then.
Last year, we talked about our retain evolve and grow spread.
We committed to our customers and to the industry that we will retain the best of what made Sullivan what it is today.
Wall with our customers needs and grow together in our mission to help customers accelerate their business transformation through simple powerful and to kill solution designed for hybrid and multi cloud in Miami.
I believe our portfolio and exit Houston enable us to deliver that.
Trying to value best time to detect issues and the best time to remediate issues in our customers multicloud environments.
We aim to be the best at improving our customers security productivity and total cost.
A portfolio is broad and we believe addressable market is large they're making strong progress in our database performance monitoring and service management part the business, but today I'll focus on our evolution to observe ability and its significance to our future growth.
A key element of our strategy is transitioning from monitoring to Observability solutions to address the productivity cost and complexity challenges.
<unk> increasingly face.
He made clear Mendez progress during Q3, and many of you joined us for a first ever Sullivan date, even two weeks ago barely barely made exciting announcements.
But we unveiled Sullivan observability based on our Sullivan platform.
This will be the basis for all future solution.
This fullstack.
Software as a service solution is built to unlock the productivity of <unk>.
Desktop cloud off and.
Of profession.
We also announced an updated version of our Sullivan hybrid cloud Observability solution less than six months after its initial introduction.
Hybrid cloud Observability now features enhanced anomaly detection capabilities.
Artificial intelligence and machine learning, while continuing to enable sullivan's customers to migrate from on premises to sat at their own pace and while making the most of their investment.
Additionally, business focused on tool, which monitored network system.
Applications and databases.
However, hybrid and multi cloud.
Are becoming increasingly complex and more challenging for customers to manage.
The ability solutions are designed to solve that problem by providing comprehensive visibility into the complete environment in both public and private clouds to expedite anomaly detection and resolution.
<unk> was born built on a foundation and commitment to providing customers with simple secure in value based solutions to help them basically transform their company.
His latest announcement reinforce foundations.
Another element of a retain evolve and growth strategy, we talked about at last year's analysts and investors B was expanding our customer reach and importantly growing partner ecosystem.
Two decades, we announced the launch of our Sullivan transform partner program last month.
Transform represent.
Hence focus on semi growth and development and we believe improve the b b partner with technology distributed.
Value added resellers.
Global system integrators.
Managed service providers and cloud partners across the globe.
We're excited to strengthen our relationship with our partners in a shared vision to help customers accelerate their business transformation.
We also make key leadership highest to support our talent growth, including Chatterley's.
Who joins Sullivan during the quarter as our president Medicare sales and global challenges.
Capturing 25 years of technology industry experience, serving in leadership positions at IBM and most recently at Vmware.
Now I want to take a moment to address the macro environment.
Amongst others one thing that has stood out to me during my tenure at Sullivan is the <unk> of our business model and the stickiness offer solutions, particularly during challenging period.
We believe are highly cost effective solution.
Diversified customer base.
Pending value proposition and high velocity transaction model enable us to operate successfully re challenging macroenvironment.
This is reflected in a consistently strong customer retention as reflected by our strong renewable rates.
In addition, although we continue to see healthy demand and commitment from our customers like many of our software tears, we did experience some delays in D closures during the quarter, particularly in Europe .
We'll continue to monitor the environment closely but we remain confident in our long term opportunity and are sharply focused on exiguity on our strategic priority.
We are and always have been focused on our capital allocation and extent balancing.
Continue to seek to balance growth and margin expansion.
<unk> team has led companies through previous downturns, and we intend to diligently manage costs across our businesses.
These attribute remain a foundation of <unk> and over the years. We have built we have worked hard to build an even steadier business model on this foundation.
With that I will turn it over to Bud to expand on our financial performance.
And to provide an updated.
But.
Thanks for darker and thanks again to everyone joining us on today's call.
I'd like to start by reminding everyone of our 2022 strategic focus around growing with a subscription first mentality.
With this it is important to emphasize that our subscription transition will be multifaceted.
The first phase of the transition until selling subscriptions or both of our existing on premises products and our hybrid cloud absorbability product.
Second phase of the transition begins with the recent launch of our SaaS Observability solution.
It is our belief that the two models that subscription growth will persist in our business and our overall focus is to grow subscription.
While exercising operating discipline or third quarter results reflect our ongoing progress with this transition and represents another quarter of execution of our strategy.
Turning to the numbers, we finished the third quarter with total revenue of $179 $4 million, which is a slight decline compared to the prior year and below the total revenue range of outlook, we provided at $180 million to $185 million [noise].
Total revenue assuming the foreign currency exchange rates used in our previously issued outlook would have been $183 million and within our guidance range.
Like other companies with foreign currency exposure, we felt the impact of the decrease in the value of the euro compared to the U S. Dollar.
On a constant currency basis, or total revenue would have been approximately $184 million, which is a slight increase over the prior year.
We ended the third quarter with total a R $623 million roughly flat compared to the prior year and on a constant currency basis are total IRR would've represented an increase of approximately 2% over the prior year.
Our subscription IRR as of September 30th was $159 million, which is an increase of 23% year over year.
This growth is mainly due to the execution of our subscription first strategy as well as the conversion of a portion of our maintenance phase to the hybrid cloud Observability solution.
Digging into the revenue details are third quarter subscription revenue was $42 million up 31% year over year.
Our subscription revenue growth reflects the ongoing success of our subscription first efforts.
Transition to a subscription first strategy creates headwinds in the current quarter total revenue. However, we believe that an increasing percentage of new deals made on a subscription basis will result in a higher recurring revenue in the long term.
Maintenance revenue with $114 million in the third quarter, which is a decrease of 4% from the prior year.
We have discussed recently or maintenance revenue has been impacted by the conversion of a portion of our maintenance customers with subscription as.
As well as the lower euro the U S dollar conversion rate in 2022 compared to the prior year.
Our maintenance renewal rate is at 91% on a trailing 12 month basis as well as our in quarter rate for the third quarter.
These rates are consistent with our historical performance and both are impacted by currency headlines.
We believe this is a testament to the loyalty of our customer base are focused customer retention and expansion efforts over the past 12 18 months.
Note that as we convert maintenance customers to subscription arrangements, we will exclude those customers from the renewal rate calculation.
For the third quarter license revenue was $23 million, which represents a decline of approximately 22% as compared to the third quarter of 2021.
Keep in mind that our new perpetual license sales performance will continue to be impacted by our subscription first focus.
Noted previously or increase sales of subscriptions offset the decline in license revenue in the quarter.
Earlier in the year, we talked about how our federal customers slowing to reach spending decisions.
And we are pleased that we felt improved sales performance from our federal and public sector customer in the third quarter compared to a year [noise].
We finished the third quarter of 2022 with 880 to customers, who have spent more than $100000 with us in the last 12 months.
Which is a 12% improvement over the previous year.
This marks the third consecutive quarter with double digit growth in this metric.
To continue to supplement our traditional high velocity low touch sales approach with a targeted efforts to build more strategic relationships with our enterprise customers, which we detail that our analyst and Investor day, one year ago.
I'm also pleased to report that we delivered another quarter of strong non-GAAP profitability.
Third quarter, adjusted EBITDA was $73 million, representing and adjusted EBITDA margin of 39%, which is in line with our outlets for the quarter, even as we continue to invest collectively in our business.
Excluded from adjusted EBITDA in the third quarter are one time costs of approximately $10 $8 million of litigation and governmental investigation car and other professional fees related to December cyber incident.
We expect one time cyber incident related cost of fluctuate in future quarters.
And these onetime cyber costs are difficult to predict.
Turning to our balance sheet net leverage at September 30th was approximately $3 nine times are trailing 12 months adjusted EBITDA.
Our cash cash equivalents in short term investment balance was at $493 million at the end of the third quarter <unk>.
Bringing our net debt to approximately $1.1 billion.
In September we made a voluntary that prepayment in the amount of $300 million.
Our debt matures in February of 2024.
And we expect to make an additional payment to further reduce our level of gross debt in parallel as we work on a potential refinancing.
I will now walk you through our outlets before turning it over to the Doctor for some final thoughts.
I will start with our fourth quarter guidance, and then discuss what that means for the full year.
We arrived at our guidance taking into account the macro environment FX headwinds and the impact of our subscription first business model transition.
For the fourth quarter, we expect total revenue to be in the range of 178, two $183 million.
Getting a slight 3% year over year decline it at the midpoint.
On a constant currency basis revenue at the low and high end of the range would be approximately $5 million higher.
And it would represent a range of 2% decline to 1% growth year over year.
Adjusted EBITDA margin for the fourth quarter is expected to be approximately 38, 39%.
non-GAAP fully diluted earnings per share is projected to be 23 to 25 cents per share.
Assuming an estimated $162 2 million fully diluted shares outstanding.
And finally, our outlook for the fourth quarter as soon as a non-GAAP tax rate of 25% and we expect to pay approximately $9 $8 million in cash taxes during the fourth quarter.
While our business model is proven to be resilient during challenging economic conditions, and we remain confident in our business transition. We are lowering our full year guidance. This is primarily driven by our cautious approach that macro economic conditions could deteriorate further and FX headwinds may continue.
We are appropriately accounting for the fact that we remained early in our subscription transition for the full year. We now expect total revenue to be in the range of 700, and $750 million, which is a slight 1% year over year decline and compares to prior guidance of 715% to 725 million.
On a constant currency basis are total revenue guidance would be $725 million to $730 million or growth of 1% to 2% over here.
Adjusted EBITDA margins for the year are expected to be approximately 39%.
Which is consistent with the guidance, we provided last quarter.
While we continued to manage our expenses, we remain focused on our product roadmap.
<unk> core execution and subscription first strategy.
non-GAAP fully diluted earnings per share is projected to be 80, 70 to 89 cents per share.
Swimming, an estimated 161.7 million fully diluted shares outstanding.
Our full year in fourth quarter guidance as soon as a euro dollar exchange rate. This point 90 sevens.
Finally, when you review our GAAP financials, you will notice an additional impairment of our goodwill, which resulted in a $279 million non-cash charge in the third quarter.
We determined impairment was appropriate in light of the current macroeconomic environment and the continued deterioration in the equity markets.
We are happy to announce that last week, we agreed to settle our securities class action lawsuit pending in the Western district of Texas.
Or an amount that will be covered by insurance.
While we still have ongoing government investigations related the cyber matters and we'll continue our approach of transparency in collaboration.
Having resolve this litigation will enable the company to focus on our strategy.
Can find a more detailed update on our litigation in government investigations and are 8-K file today.
With that I'll turn the call back over to Sudhakar, Bruce closing remarks.
Thank you Bob.
The midpoint of the outlook bought provided still represents year over year growth on a constant currency basis, which reflects our continued belief in the relevant capacity ocean.
Execution, the ability of our teams and most critically that trust, our customers and partners play tennis.
I'm very pleased with the momentum building for a new innovation and I'm confident as ever in the long term trajectory of our business.
As we look to Q4 and two next year I would like to share three creek near term priorities for us.
First we have a robust renewal business with over 90% plan you will be.
We remain very focused on customer retention and expansion expert as we have been for the past 18 months.
Second which continue to aggressively seek to drive subscription adoption across our business.
While this is the result, it and will likely continue to result in some variability in early posted revenue.
Accelerated shifted subscription is consistent with how our customers want to consumer products and a key to our long term strategy to achieve a billion dollars Arif at mid forties, adjusted EBITDA margins in the coming year.
And third we will continue to exercise.
<unk> discipline in an increasingly challenging macro environment.
As we look to 2023.
To continue to look for opportunities to invest selectively to manage expenses tightly and to improve our operating margins. We have an experienced management team and they have led company through many economic factors.
I'll conclude again.
By taking our employees partners customers and shareholders for the commitment to Sullivan.
And I will now be happy to address your first question.
Thank you at this time I would like to remind everyone in order to ask a question press start and the number one on your telephone keypad.
We'll take our first question from carrying 10 minute Trish Securities.
Oh good morning team. This is Connor pastor all on <unk>. Thanks for taking my questions first one would love to just take a little bit deeper into federal this quarter.
It seems like it was pretty nice quarter Q3, the busy season I'll just curious on any important trends you saw amongst offerings to product adoptions during.
During the quarter for these customers and maybe how the ship disaster federal stacked up against.
<unk> any color there would be helpful.
So thanks for your question on the federal side as in spot mentioned and not highlighted.
Uhm.
Good growth in Q3. This as a result of not just like one quarter of activity.
We have continued our engagement with our customers.
For for a long time and in particular for the last two years and.
Look at the quarter results as a further.
Reflection of the confidence that does have your customers have enough and broadly speaking public sector, because we did well across the entire public sector said add sled last quarter.
Combination of factors that would take one is I keep highlighting the sticky next offers solutions and relevance in the value that we deliver to customers.
Is the execution off our overall public sector teams in terms of engaging with customers, reaching out supporting them through college challenging times and building pipeline. So this is the time that I expect to continue to improve as we move forward as well.
Perfect. That's helpful. Thanks for the color or maybe just as a follow up so you think about international markets like Europe . It seems that you know there's still a continuation of longer sales cycles over there how should we think about the pipeline in Europe and maybe the return of those details as we move into next year. Thank you guys.
Yes.
Europe with regards to the foreign exchange issues, you, obviously know them all so I'm not going to belabor that.
Except to highlight that it did have an impact on reported revenues with regard to demand as it relates to pipeline generation.
Demand has been strong across all regions Europe included.
That being said due to let's call it local conditions b as in southern Europe , and Central Europe , Some bills get pushed which is going to happen in every business almost in every quarter and particularly accentuated, let's say in these environments.
But at the same time the trajectory of demand is on the up and we are managing a risk across the business in terms of the closure rates.
The beauty of our company I would say is we have a very large part of our business. That's a transaction that high velocity business and we had increasingly supplementing it with partner activity and call. It a high touch part of the business.
Great I appreciate it thank you.
Well, maybe next time asking had forget RBC capital markets.
Everyone. This is similar non friend that had been thanks for taking a question. My first question is that with the continued pressure can you give us any update on Anthony spending and if there continues to be heightened scrutiny.
Scrutiny on deals over there.
A lot more scrutiny happens to be in.
The upper mid market and enterprise.
The SME segment typically in these environments, and especially with the cost effectiveness of a solution.
Continues to be more robust quite simply because of the base of customers that we have and so has my concentration is really really low and unlike let's say a pure play enterprises.
Vendor, we are very broadly diversified across the large base of customers. So I wouldn't say that there's anything, particularly soft about the SME itself.
Okay got it and then also you recently announced the launch October when <unk>, how it that initial Wisconsin and what would you say are the key benefits to that platform.
Absolutely I, it's it's been.
A little over two weeks <unk> since we launched it.
The initial response from call us our pre trial standpoint with customers has been very positive.
And quite as with analysts.
We recognize that this is going to be a journey of evolution from monitoring to observe ability. So don't look at it as we stopped what we are doing and then shipped to everything over to this as much as it's a continuum for customers as they deploy multi cloud environment as they think about evolving from Pam.
As to the cloud and to the advantages that we provide state them quite.
Quite simply R. One is that we are the only vendor that provides name a full continuum from premises to Monte cloud <unk> number one.
Number two is that we provide the same level of simplicity and cost effectiveness ease of use that we have always been known for and we are able to deliver the best fullstack capabilities might not what I mean is a combination of network system.
Application and database Observability, including security Observability on the same platform.
So.
Continued focus on cost effectiveness continued focus on ease of use ease of deployment and continued ability to give them visibility too that anti environment.
Got it thank you.
We'll take our next question from tactics shall set theory.
Hey, guys congrats on a great quarter and thanks for taking my question I guess first I just it sounds like your partner strategies, just continuing to evolve. So I'm just wondering if you could talk a little bit about how you see the partner ecosystem progressing in light of the current macro conditions and what the recent product announcements you hadn't stoller Wednesday, how important that partner ecosystem and you'd like to bring a solution is to.
Market.
Absolutely.
Again, thanks for your comments and questions Uhm.
First I'll, let me start with the high end on a higher end of the customer segment that we've been reaching out.
The velocity of the transaction side of the business has always relied on partners and to think of this as amplification of it with both traditional value added resellers as well as msp's.
Ah now coming to the new products that you mentioned.
The focus has been to work with large global system integrators.
Relevant offers to them is only increasing.
We have had very.
Very strong and close relationships now building with the global system integrators, where they're able to put their entire sales teams to work and integrated solutions into Dan offerings and helpless participate in larger digital test formation initiate it.
The recent for highlighting that four from our perspective as we have the technology supplier in this.
Overall equation that same market that we traditionally have not accessed quite simply because it also tends to be longer sales cycle and more expensive.
But having <unk> on our side.
He's going to help us reach better through the transform program and also do it in a cost effective manner. So I'm I'm very excited about our opportunities in the broader enterprise space as we basically transform customers with the solutions to date, we did not have those solutions, but now we do and we also know.
Have the relationships.
Great. That's very helpful caller, and then just a quick one on renewal that just give an ongoing macro uncertainty how should we were thinking about the renewal level is the low 90% range sustainable even if we do enter into more challenge macro period, and and are you seeing renewal rates diverged based on either the customer cohort sizes are geographies.
No as back mentioned, despite currency headwinds that'd be being able to maintain or get to 91% trailing 12 months renewal rates and my belief.
In talking to customers and looking at various partners is that that will continue to sustain.
Great. Thank you guys. So much of my questions.
We'll go next to Eric temperature at JMP Securities.
Yes, Thanks for taking my question first off Bart.
<unk> noted margin expansion and fiscal twenty-three.
Curious if you can give us any context in terms of what you would would you despite your for their.
And then secondly can you talk a little bit about what is going on with from an interest expense perspective as as race move up how should we be modeling.
Interest expense.
And then lastly.
Darker when when you're when you're talking about your partners. Your your global system integrators, working with solar winds.
When are they using solar winds as part of their portfolio versus other observability technologies.
Technologies.
Maybe I can address that first and then botkin chairman on the on the margin expansion, but I'll also highlight that will give us full view of 2023, when the product Q for results as well, including margin those that we have established and as I wrote as I mentioned in my prepared comments.
Expense discipline and margin expansion <unk> hierarchy for us as we are.
<unk> 2023.
Now coming to your question, Eric I would say it is.
<unk>.
We are engaged with.
A few very large and significant global system integrators.
At this point.
At least in one or a couple of cases, the strategy and approach given the comprehensiveness.
Overall portfolio, especially now with both hybrid cloud of availability and fast.
Is that we will increasingly become beds.
Availability vendor.
That is that is the stated strategy I can go into a lot of details yet because those have not yet been fully announced but that is the path. We are taking so just like we are consolidating tools.
And reducing tools problem with our customers. We had also helping gsi's essentially consolidate different vendors monitoring solutions onto a common platform that has the broadest.
Applicability to customers as David <unk>, So that's kind of one approach.
The other approach and some of the system integrators, it's much more.
Meaning that they will either take our database monitoring solution as the first solution into the customer all for that matter Our service management solutions, so providing both the integrated platform as well as some of the more discreet.
Solutions helps them pick and choose in that context.
But increasingly we are seeing their interest in the whole portfolio given the advancements we've made in the last 18 months or so.
Great. Thank you and the birth and irregular.
<unk>, our our interest expense goes.
In the process of trying to work on refinancing our debt. So it's a little it's a little difficult for me to tell you exactly what to say is from from a modeling perspective, obviously the recent spike in interest rates has caused our cash tax or cash interest.
To go up I think it was around $14 million of interests that we paid in the in the first quarter that number is up to about $24 million in the third quarter.
And obviously that was impacted by Uhm, a thing down some of our data in the third quarter.
So when youre modelling it out you should assume that somewhere in that there'll be a little bit it will be in that $24 million range may be slightly less because we made a payment in the middle of the quarter.
Very good alright, thank you.
Mmm.
Our next question comes from by playing at Morgan Stanley .
Hi, This is Bob <unk> just a question on your Absorbability product that you wrote out on <unk>.
Maybe can you talk about pricing in these products and in terms of holiday.
Back up again competitors in terms of pricing.
Definitely so our goal is to continue to be a cost effective solution I would say across the industry. So in that sense T.
Compare very favorably.
Competition.
The it'd be very difficult to.
Provide like exact apples to apples, because we tend to package and sell multiple stack capabilities and that has again has the same connotation that is highlighting on the hybrid cloud absorbability of two's consolidation and simplification of deployment environment, So but on the other hand.
I will reinforce that uprising strategy continues to be not so much a prize leader in other words I have mentioned this at the end of the day, we're not that cheap and cheerfully company so to speak as much as we delivered serious business value at a compelling platform.
Price point.
Alright, thank you.
And as a reminder, she would like to ask a question press star one what kind of extra crap at Evercore ISI.
Yeah. Thanks soccer accused on the <unk> on the Observability side could you just talk about sort of the the thought process about where the customers come from meaning are are these customers better early on in the the journey to the cloud are these potential customers that have started down the path with another vendor I'm just trying to get a sense on how much of this <unk>.
For you all it's gotta be greenfield versus maybe replace and how that might be you know.
My my go over the over the long term thanks.
Absolutely. So I'll give you kind of a trend that we've seen to date since the introduction of a hybrid cloud up the ability solution in April and then.
<unk> shorten how to think about this as he gets into 2023.
As it relates to hybrid cloud up the ability I would segment.
<unk> of the solution in two ways one is.
Existing customers, who are in a maintenance arrangement.
Evolving and expanding with heavy cloud up the ability for two reasons. One is the Tory and comprehensive functionality that we deliver to them as well as the on ramp that we provide them to the cloud. So in other words, they can move to the cloud at the pace at which they are ready to move too. So that's one set of customers the second.
Customers, which represent greenfield opportunities for us.
Estimates displacing I would say legacy monitoring solution in favor of hybrid cloud Absorbability again for the reasons I mentioned consolidation of two strong elimination alert fatigue and so on.
Now coming to the SaaS observe ability, which will again be a continuum of the hybrid cloud observability.
I expect more of the customers in the initial phases to be call. It our traditional application monitoring customers and largely speaking in the mid market, but evolving to the enterprise segment.
But that's early days still given that we just announced two weeks ago. Okay.
Okay. That's very helpful. And then you mentioned that the federal business did better this quarter I guess is there anything specific going on there just in terms of normal back buying patterns, returning and and how should we think about that as vertical as an opportunity.
Yeah, you know just the federal space is always the third quarter is always are most active quarter from when it comes to our federal business just because that's the end of their fiscal year. That's always been the case. We also earlier in the year that we talked about we.
We actually made a small acquisition of a company called monolithic, which is a service provider to to some federal customers of ours. So we we made a lot of investments in time with that customer base over the last.
Year, and a half or so uhm for obvious reasons and so we continue to see opportunities we see those that market expanding for US now that we're past the cyber incident.
Great. Thank you all.
Mmm.
And that does conclude our question and answer session. At this time I'll turn the conference back over to management training closing remarks.
I think that concludes our call. Thanks, everybody. Thank you all.
Thank you and that does conclude today's conference call. Thank you for your participation you may now disconnect.
[music].