Q3 2023 Rackspace Technology Inc Earnings Call
Okay.
Good day, and thank you for standing by welcome to the rack space Technology third quarter 2023 earnings webcast. At this time all participants are in a listen only mode. After the speaker's presentation there'll be a question and answer session to ask a question during the session I'll need to press star one on your telephone.
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Please go ahead.
Thank you and welcome to access technologies third quarter 2028 earnings Conference call.
I am sorry go ahead by Investor Relations.
Joining me on today's call I'm going to look at all our Chief Executive Officer, and Bobby Malone, Our Chief Financial Officer.
As a reminder, certain comments we make on this call will be forward looking these statements involve risks and uncertainties, which could cause actual results to differ.
A discussion of these risks and uncertainties is included in our SEC filings.
Based technology assumes no obligation to update the information presented on the call except as required by law.
<unk> includes certain non-GAAP financial measures and adjustments to these measures, which we believe provide useful information to our investors.
In accordance with SEC rules, we have provided a reconciliation of these measures to the most directly comparable GAAP measures in the earnings press release and presentation, both of which are available on our Investor Relations website.
Please note that unless stated otherwise all results are presented as non-GAAP, except revenues.
I'll now turn the call over to Omar for an update on the business.
Thank you saw there.
Fiscal third quarter 2023 results exceeded the midpoint of our revenue operating profit and EPS guidance.
Our two business unit operating model is now fully implemented and our leadership teams that are executing to their plants.
Additionally, we remain committed to aligning our cost structure with our current needs.
These measures continue to improve our operating efficiency and execution.
As has been widely noted the overall economic and demand environment remains uncertain.
Organizations of all sizes and spanning various industries have been cautious on it spending.
And so we continue to see extended sales cycles and delays in customers new initiatives.
We continue to focus on fine tuning our organization aiming for more effective execution of our current operations.
We are strengthening and preparing rackspace technology to capitalize on an uptick in demand as and when it occurs.
As mentioned in the last earnings call, we launched foundry for AIB rackspace or fish.
Since launching in June we've announced offerings with all three Hyperscale partners AWS <unk> and Azure.
Among the offerings is AWS feel secure landing zone, a solution that assists our customers across diverse industries and securely harnessing this platforms need to AI services.
We also showcased our AI capabilities at Google Cloud next event to a positive response from customers.
In addition, we continue to work with Dell and Nvidia and implementing a private cloud a reference architecture for customers requiring secure performed private cloud landing zones.
I am pleased with the progress we have made AI is a long term secular trend Jenny I is set to revolutionize every facet of companies and their operations.
Its implementation promises to elevate business performance, improving productivity enhancing business agility and enriching customer experiences.
So presently navigating the initial phase of air adoption.
Prioritizing the security safety and reliability of their deployments.
Our first initiative is distinctive in that it caters to both service and infrastructure requirements for AI, allowing for a safe secure and responsible deployment.
We are confident in a strong position within this fast evolving market.
Now turning to updates on our business units and private cloud, we continue to see traction in our vertical market strategy in industries, such as healthcare and financial services across all regions.
We maintain a sharp focus on building our pipeline with approximately one third of it consisting of new prospective clients.
In healthcare, we won a multiyear contract to host and manage the industry, leading electronic health record application in a private cloud for a prominent children's hospitals in the U S not best.
We won this new client due to a differentiated high it will pretty solution fanatical customer support and years of experience in hosting and managing mission critical workloads.
We also entered into a multiyear contract with a leading U S provider of home medical equipment consolidating the two data centers into our Xps data center.
This consolidation and was <unk> 400, and other Virtualized workloads migrated and managed in rack spaces managed hosted private cloud.
In financial services, we signed a multiyear contract with a leading Asian bank to advance their cloud transformation initiative and support our growth agenda.
Rackspace is enabling this complex transformation by providing a comprehensive private cloud solution that delivers business agility and financial flexibility for the bank.
We also signed a deal with a leading payment technology company in the Americas for custom disaster recovery as a service, enabling full data replication and rapid recovery of the critical systems in the event of an outage a breach.
In addition, we had nine product launches and enhancements across the private card portfolio in the third quarter, including disaster recovery solutions and S&P harnessed certifications for software defined data center business and enterprise environments.
We are also excited about multiple innovative offerings in a private cloud roadmap that are slated for release over the next two quarters.
Here are a few examples.
First in the software defined data center anywhere offering.
This is rackspace Vmware based turnkey edge solution for enterprise and mid market customers that are sensitive applications and data locality and compliance needs.
This solution allows customers to deploy compute where they need them.
On premises customer colo or in any data centers globally.
Second offering is called spot spot as a true compute market exchange service perfectly suited or developer and cloud native customer base.
It is a kubernetes cluster suited for preemptively workloads.
This solution provides real time market pricing empowering customers to use compute capacity on demand.
Now turning to public cloud.
Despite a challenging environment in public cloud, we saw good traction in pipeline and bookings in the third quarter. We continued to focus towards more high value services, making notable strides in attracting a wide range of customers and introducing new innovative offerings on the customer front, we have established a partnership with <unk>.
Leading fortune 500, biotech company committed to propelling medical innovation and enhancing patient outcomes across 100 countries worldwide.
Serving as the preferred cloud infrastructure partner in AWS, we expanded our enrollment to encompass advisory and professional services focusing on their multi cloud strategy technology modernization and application migration utilizing our advanced global delivery model.
This collaborative initiative.
Is empowering them to address customer needs more efficiently and expedite the implementation of digital products and services.
Typically leading to improved patient outcomes.
For two of the largest multinational transportation logistics and warehousing companies operating out of Asia Pacific and the U K.
We are offering a broad range of cloud modernization services, including modern operations.
These new clients that a competitive win against some of the leading global system integrators.
What differentiated Rackspace technology was a business outcome focused solution that drove business agility and operational efficiency for our customers.
On the offerings front, we also launched nine public cloud offerings in the third quarter, including full stack managed services for hybrid multi cloud, allowing customers to manage their entire book of lifecycle in hybrid and multi cloud environments.
Comprehensive managed security solution, combining cloud native detection and response with $24 seven cyber security experts.
We have also partnered with Google to launch Google accelerated cloud migration and exclusive rapid and cost effective path for migrating virtual workloads to Google cloud.
Overall, it was a good quarter for both our private cloud and public cloud businesses on multiple fronts.
We recently had a successful industry analyst day in Boston.
We presented our strategy and showcased our full suite of private cloud and public cloud products and services offerings.
This was well received and positions us strongly as a hybrid multi cloud and AI solutions company.
Before I wrap up I would like to welcome Thomas call as the newest member of our board of directors.
Thomas has over 37 years of experience in banking.
This is another example of how we are strengthening our organization with highly skilled and accomplished professionals.
Now, let me wrap up by reiterating our top four priorities, we outlined at the start of the year, which we are focused on to turnaround our company's financial performance.
First reversed the decline in private cloud and position this business to capitalize on the growth opportunities in an attractive market.
Second grew out public cloud services business at or above market rate.
Third build a highly efficient cost structure.
And ultimately drive sustained growth in operating profit and free cash flow.
With that I will turn it over to Bobby.
Thanks Omar.
I'll cover the total company results for the third quarter, then share some details on our segment performance followed by our Q4 guidance.
We maintain our commitment to enhancing the efficiency of both businesses as part of our disciplined financial strategy.
We've effectively manage working capital and bolstered liquidity, notably through a more detailed focus on collections and the implementation of our new accounts receivable securitization program. Additionally.
Additionally, we will continue to identify additional cost reduction opportunities in areas that do not align with our current strategy.
Now looking at the results for the quarter total company GAAP revenue of $732 million was at the high end of our guidance down 2% sequentially and down 7% year over year, driven by declines in both private cloud and public cloud <unk>.
Total net revenue was $430 million.
Down, 4% sequentially and down 12% year over year.
Gross profit of $162 million was 22% of GAAP revenue and 38% of net revenue.
We remain on track with our prior guidance for sequential quarterly operating profit improvement for the remainder of 2023 after the second quarter trough.
For the quarter operating profit was $46 million at the high end of our guidance up 17% sequentially.
This was down 43% year over year, primarily due to revenue declines in our private cloud business unit.
Operating margin was 6% of GAAP revenue and 11% of net revenue.
Loss per share was <unk> <unk>.
Which was within our guided range of four to six cents loss per share in.
In the third quarter, we recorded approximately $214 million of noncash impairment charges, primarily as a result of the decrease in our market capitalization additional details of these noncash expenses can be found in our SEC filings.
Cash flow from operations was $267 million and free cash flow was $239 million in the third quarter.
Our reported cash flow includes cash received through the new AR securitization.
Normalizing for the AR securitization cash flow from operations would have been $61 million and free cash flow would have been $34 million in line with our expectations.
Let me provide a little more insight on the AAR securitization, we executed at the end of September.
The primary objective of this securitization was to bolster our already solid liquidity position and allow us to opportunistically take advantage of the dislocation in our debt pricing.
In the third quarter, we deployed $30 million of cash to Opportunistically repurchase another $85 million of our senior unsecured notes in the marketplace.
Through October year to date, we have repurchased a total of $274 million of senior unsecured notes using $96 million of cash at an average price of 34 cents on the dollar.
We believe the combination of this facility and these buybacks is positive for shareholders, allowing substantial discount capture on our debt and increasing our available liquidity to $653 million, including $278 million of cash on our books.
We continue to monitor and assess further opportunities to deploy capital in accretive downside protected ways for shareholders.
Total capex for the third quarter was $28 million with a capex intensity of 4%.
We continue to expect Capex, and our typical 5% to 7% Capex intensity range for the full year.
Turning to our segment results for private cloud GAAP revenue for the third quarter was $300 million, which was at the high end of our guidance. This includes legacy open stack revenue of $31 million.
Total private cloud revenue was down 4% sequentially due to customers rolling off old generation private cloud offerings.
Private cloud gross margin was 38% up one percentage points sequentially driven by cost reductions offsetting the impact of revenue declines.
Segment operating profit was $85 million at an operating margin of 28% essentially flat quarter over quarter.
In public cloud GAAP revenue of $433 million also at the high end of our guidance was essentially flat quarter over quarter, primarily due to consumption driven growth on infrastructure resale volumes offset by declines in services.
Public cloud services revenue was down 4% sequentially, given a tightening of discretionary spending.
We expect our pivot to a stronger services led focus to pay dividends as the macro environment improves and our go to market strategy matures.
Public cloud net revenue, which includes our public cloud services revenue and infrastructure retail profit was $130 million down 4% sequentially.
Gross margin for our public cloud segment was 11% of GAAP revenue up one percentage point sequentially.
Gross margin was 37% of net revenue up three percentage points sequentially, driven by utilization and efficiencies from cost savings.
Segment operating profit in public cloud was $22 million, which was 5% of total segment revenue up one percentage point sequentially and 17% of net revenue up four percentage points sequentially.
Now onto our Q4 guidance.
We expect our fourth quarter GAAP revenue to be approximately $710 million to $720 million total operating profit is expected to be $46 million to $48 million and loss per share of $3 <unk>.
From a segment perspective, we expect private cloud revenue of $284 million to $289 million and public cloud revenue of $426 million to $431 million.
Our tax rate is expected to be 26% and other income and expense of approximately $57 million to $59 million and expenses.
The share count is expected to be around 221 to 223 million shares.
We expect full year cash flow from operations and free cash flow to be positive on both a reported and normalized basis.
I will now turn the call over to saga.
Thank you Bobby that.
Let us begin the question and answer session. We ask everyone to limit discussion to one question and one follow up.
Please go ahead.
Thank you ladies and gentlemen, if you have a question or comment at this time. Please press star one on your telephone. If your question has been answered or you wish to move yourself from the queue. Please press star one again, we will pause for a moment, while we compile the Q&A roster.
Okay.
First question comes from Ramsey El <unk> with Barclays. Your line is open.
Hi, Thank you for taking my question Tonight.
I was wondering if you could comment on how the shift towards selling value added services versus infrastructure has been going.
What was value added services growth in the quarter, our clients increasingly open to that approach maybe how can you support that that strategy going forward.
Yes, Thanks, Greg.
Great question. So the focus on selling services lift pricing center of what we're doing in the public cloud business.
We have made a lot of structural changes in the company as you know we're organized across to be used and with focus on both public and private cloud public cloud. We are very much focused on selling higher value added services.
We have also aligned our go to market accordingly.
Similar to private cloud, we also have global market.
Across verticals in public cloud, we also have aligned it very close to the Hyperscale. So that we can go drive more migration modernization services, along with our Hyperscale.
We have also changed our sales resource mix situated underperformed list in sales.
Continue to higher services and.
Business outcome focused sales execs, we've launched a number of new offerings and services LLC.
<unk>.
Nine months close to 30, new offerings last quarter itself we.
Launched nine new offerings one of Deckers.
Managed services or hybrid and multi cloud environment. So a lot of a lot of changes a lot of structural changes that are taking hold now what did we see in public cloud services as we like most of the services.
Companies in the ecosystem.
Cyclical headwind in public cloud services business and what we're seeing is customers are very much focused on cost optimization projects, which we are working with them very closely we are capturing those cost optimization projects new initiatives in services are getting delayed but as I always tell our salespeople.
During good times and bad times, you have to stay close to the customer, but the other state closer to customer bidding and the macro environment is uncertain. So we continue to work with our customers, helping them plan for new initiatives. So that will be ready when we can go capture that demand when it returns so feel good about the structural pivot, we're making from <unk>.
Low margin intra resale to higher margin services now you will see our services business has declined year on year as well as sequentially sequentially and Thats. A result of the cyclical headwinds that we are seeing in generally in the in the services business.
I see okay.
And I also wanted to ask you for a little bit more commentary on the sales delays, which you might be seeing out there which is consistent with many of your peers.
Are you seeing delays in signing new work or more delays converting bookings to revenue or maybe on both sides.
So I think Thats a great question I think what we're seeing here is the pipeline if I look at the pipeline both on public cloud and private truck perspective, our pipeline is growing it has sequentially grown so the top of the funnel looks great, but I think the decision making cycles have have basically extend it and thats extended that.
Bill cycle. So the conversion from pipeline to bookings is taking more time and because customers are very very cautious on that spend.
Given the macro.
<unk>, which remains uncertain I think we always typically see services business are very cyclical. So thats. What we are seeing so sales cycles are getting extended decision, making is taking more time and what the top of the funnel. It looks okay. We suggest the conversion of pipeline to bookings is taking more time.
I see alright, thank you very much.
One moment for our next question.
Our next question comes from Frank Louthan with Raymond James Your line is open.
Great. Thank you can you walk us through how many new logos, you signed up in public cloud and private cloud.
First question.
Follow up question.
You recently changed your sales comp for public cloud and drive better engagement and various services how has that gone in the third quarter and how is that tracking.
Yes.
So let me just give you some color on our bookings.
Generally and I'll also answer your question on the new logos.
So given the macro backdrop Frank.
Had a fairly good quarter from a bookings perspective with over 200, new customers across both public cloud and private cloud.
And the public cloud bookings actually grew sequentially. So this also answer some of the question does actually had about the top of the funnel and have you seen those services and refurbishment within public cloud holding spanning out in private cloud. We did see two large deals slip into our December quarter, and we anticipate to close.
These deals in this quarter. So we do expect Q4 or December quarter to be a strong quarter for private cloud bookings.
And just as a reminder, based on a large private cloud deals are typically multi year deals anywhere between three to seven years.
It is very sticky.
It's quite lumpy too and so we are very thoughtful in making sure that we close deals that are a win win for both customers as well as rack space. So so feeling good about the bookings overall and how it might pan out in Q4 for private cloud.
From a pipeline perspective, we see growth in both private cloud and public cloud.
And as you know.
Using a vertical strategy health care as the first vertical that we double down on and what we're seeing is health care vertical is a significant contributor to the <unk> pipeline and which is now sort of aligned to our overall vertical strategy and focus.
Regarding the sales comp changes.
Sales of changes, we made to make sure that we pivoted our sales focus from low margin business to higher margin business, which is mainly services.
And Thats working well it is doing is working through the system typically it takes some time.
As I mentioned earlier my earlier remarks, and response to Ramsey's question. The top of the funnel looks good the conversion, especially in the services business is taking time as decisions are getting sort of extended sales cycles are getting longer so but it is it is I think driving the right behavior. That's the key.
Key for us driving the right behaviors in our sales organization to pivot to higher margin services.
Okay, great. Thank you very much.
Thanks, Good morning.
Our next question comes from Bradley Clark with BMO. Your line is open.
Alright. Thank you I wanted to ask about the margin performance for the first time in a number of quarter sequentially grew both adjusted gross margin and operating margin could you talk about the drivers of margin improvement between say mixed.
Ts.
So youre doing internally and then my second question would be you have announced here on January 10.
Weekend partnership Okay. Thanks, Kelly how are you thinking about the timeline that it takes for generative AI services too.
A meaningful or even modest impact on your bookings Android revenue. Thank you.
Now let me take the first question on the margin and the expansion in the gross margins. So.
Yeah, that's right. So we talked about the fact that we are.
Taking a lot of cost reduction.
This year as a result of the macro headwind.
And we've seen that play out we've talked about the fact that we will see operating profit improvement on the back of cost reductions and Thats exactly what we executed.
I'll just give you a little color on public cloud we also.
Had mentioned that we had staffed up in our delivery organization or an expected demand.
At the beginning of the year, but given the cyclical headwinds given the macro environment.
That was coming through in <unk>.
Experiencing an underutilization so as part of our cost reduction we took some actions there we've improved utilization as a result, you're seeing that flow through in the gross margins.
Also in the.
Opex Youll see improvements there as well this quarter flowing through from the cost actions we've taken.
A lot of it is on the back of cost reductions and Youll see that as well in Q4.
So let me take the journey I question first of all thanks for the question.
This is a very exciting space.
<unk> for us.
<unk> as you know we had.
Really workload centric company.
And for US AI engine AI is a net new workload that didn't exist before so it's a massive tam expansion for us and what we did to capitalize on this trend, which we believe.
As it is is a secular trend that will accelerate rapidly.
We launched a foundry for AI by rack space are fair.
Back in June and since as we launched <unk>, we refinanced a part of the organization, we spun up the organization with with resources within the company, we had a lot of resources.
Yes.
Very well worked with AI and we saw good traction in the last six months I'll, Let me give you a little bit of a color on what it is from a bookings perspective, where we landed.
The increase interest in Gilead has increased we roughly have about 900 active leads in our pipeline and this is to what we saw when we reported last quarter.
Close to about 100 qualified opportunities broadly across all three regions Americas, Europe and Asia Pac.
These are pure journey ideals.
Which are paid engagements after we launched fit and most of these deals are in what we call as the ideation, which is a discovery and incubation phases and the deal sizes tend to be smaller as expected since we got in early phases of January adoption. So when we start moving into what we call it the industrialization.
Our production phase, which will involve both fine tuning in influencing the models, we expect this to scale.
So.
As I mentioned in my prepared remarks, we work with all three hyper scaler to launch joined AI solutions on public cloud and we have won deals across all the three Hyperscale is we are also working on implementing the private AI cloud referenced architecture collaborating with both Dell as well as in media. So early stages early phases.
So to speak.
It will take time, but.
Most important thing for us is to go.
I'll get the part leadership, which will lead to more mind share, which elite then finally to wallet share and we can help customers wherever they are in the <unk> today.
Today, it's all about consulting services, it's all about building and has been done building those application ultimately it has to it has to work on on certain infrastructure and the landing zones can be the public cloud or private cloud and Thats, where the real monetization happens and it's now really started really started driving popular.
Leadership in this space, so I would say.
More to come.
And we are just in the early innings so to speak.
Yes.
One moment for our next question.
Our next question comes from Matthew Roswell with RBC. Your line is open.
Yes, good evening two questions I guess first.
Pricing and competition for both public cloud what are you seeing this quarter and how has it changed over the last couple of quarters and then following up on the AI conversation.
I think as you go in and do these these ideation deals that clients often need to sort of do preliminary work for example move move Morgan that workload in the cloud things like that before they can even take advantage of Jan Thank you.
Yes, let me so was the first question around pricing.
Correct pricing and competition.
Yes pricing competition.
Listen I think in public cloud.
We play in the market. So, let's let me give you a little bit of a color on the markets. We plan so that you get.
The scanning of who we compete against site. So we address all three market segments enterprise mid market and commercial and enterprise. We are very focused because enterprises, where you'll find a big GSI global system integrators, and we are very focused we think about 50 accounts and we have a selective penetration strategy.
So we don't go head on with the GSI.
When it comes to mid market, that's a sweet spot mid market customers with between $300 million to about $3 billion. In revenue you don't have large GSI on these customers. These customers have the same complexity and challenges that had enterprise CIO will have this is a sweet spot for us. This is where we want to expand and Thats, where we are.
Built a big business and commercial is is is $300 million and lower it is also a sweet spot for us. So when you take a look at competition, we see depending on which market quickly we see competition in that market, obviously those services business right now.
Is it cyclical headwinds and so and everybody is chasing the same business, but it's more important for us to remain engaged with the customers. So that when the demand returns we're going to capture the demand. That's how we're approaching this okay now talking about AI and your question around <unk> and whether customers are ready for innovation.
Question by the way because right now I think a lot of customers are looking for use cases. In fact, we are also very surprised that some of the customers already have use cases. So we actually go into the integration phase with this customer we help them to pick what we call as the large language models predicted open model auditors a proprietary model with <unk>.
Has it been to architect the data and then make sure that we obtain these models on the data center.
Data coming to AI AI applications are going to the data. So that we can go but the real monetization what happened in the industry elevation in the production phase as I mentioned earlier, that's when I think you will have to create massive data lakes, but what we are seeing is currently customers are using that existing data.
And running what we call as for pilots. So we have created many intelligent co pilots for enterprise call. It S. ICD and this is where we are winning a lot of in fact, we have created a lot of intelligence copilot for enterprise, even internally at rack space and we ran a big.
AI readiness program at rack space.
Five months ago, we decided it took a very bold step and making sure that we get entire 6000 of brand twice already.
And we said we should be ready by by 12 months to be honest in the last four or five months since we implemented we are about $3.
75% of our 6000, plus Workforces are ready so lot of things to come here and this is what we're also going in and helping our customers. So a lot to do here I think this is the early phase, but it's a good question.
Excellent. Thank you very much.
And I'm not showing any further question at this time I'd like to turn the call back over to CCAR for any closing remarks.
Thank you everyone for joining us if you did not get to your question I think we have a follow up please E mail us at IR at <unk> Dot com.
Good evening everyone.
Ladies and gentlemen, this does conclude today's presentation. You may now disconnect and have a wonderful day.
Yes.
Okay.
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