Strategy Inc (MSTR) Q4 2014 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen and welcome to the MicroStrategy Q4 2014 Earnings Conference Call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will be given at that time. [Operator instructions] As a reminder, this conference call is being recorded. I would now like to turn the call over to your Mr. Michael Saylor, Chairman of the Board and Chief Executive Officer. Please go ahead.

Hello. This is Michael Saylor. I am the Chairman and CEO of MicroStrategy. I want to welcome you all to today’s conference call regarding our 2014 fourth quarter financial results. I’m here with our Presidents Jonathan Klein and Paul Zolfaghari, and our CFO Doug Thede. First, I’d like to pass the floor to Doug who is going to read the Safe Harbor statements and make some comments on our results for the fourth quarter.

Thank you, Michael. Appreciate it. Various remarks we may make about our future expectations, plans and prospects may constitute forward-looking statements for purposes of the Safe Harbor provision under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors, including those discussed in our most recent quarterly report on Form-10-Q filed with the SEC. These statements reflect our views only as of today and should not be reflected upon as representing our views at any subsequent date. We anticipate subsequent events and development will cause the company’s view to change. However, while the company may elect to update these forward-looking statements at some point in the future, the company specifically disclaims any obligation to do so. Also during the course of today’s call we will refer to certain non-GAAP financial measures. There’s a reconciliation schedule showing GAAP versus non-GAAP results currently available in our press release issued after the close of market today, which is located on our website at www.MicroStrategy.com. Now turning to the press release we issued earlier today, since I assume that you’ve all seen the press release, I thought it was best to simply note some highlights and make some brief observations on our fourth quarter results. As stated in the press release, our total revenue of $149 million reflected a decline in our product license and subscription services as compared to the fourth quarter of 2013. While we did have a promising 64% increase in our subscription services revenue, this was more than offset by a decline in our on-premises product licenses revenue, which approximately 56% was generated domestically and 44% internationally. Our product support revenues grew 3% from the fourth quarter of 2013, reflecting continued strong renewal rates of over 90%, while revenues from other services were slightly down from the fourth quarter of 2013. While we were not satisfied with our top line results, we have as you know, been focusing significantly on giving our costs in line as we implemented the restructuring that we began last summer. As a direct results of these efforts, we have reduced our operating costs across all lines of our business and in most types of expenditures. In addition to reducing our total headcount resulting in a significant reduction in salaries, benefits and variable compensations, we have reduced costs in travel and administration expenditures, rents, communications and third party consulting services. To summarize the impact of these cost saving efforts on our operating expenses, sales and marketing and G&A expense each declined over 20% as compared to the fourth quarter of 2013. In addition, R&D declined 47%, which includes the capitalization of approximately $6.1 million in the quarter. If you back that out, the decline was approximately 23% on a year over year basis. Finally, we incurred $3.2 million in restructuring costs in the fourth quarter as we near the end of the restructuring. Our non-GAAP income from continuing operations for the fourth quarter was $39.6 million compared to $20.2 million in the fourth quitter of 2013. As shown on the reconciliation contained in our press release, this non-GAAP metric excludes stock based compensation expense and restructuring charges. As of today, our restructuring efforts have been substantially completed aside from some minor efforts expected to be completed in the first half of 2015, relating to less than $500,000 of costs. Overall, the restructuring costs should total just over $15 million. Moving briefly to the balance sheet, I’d like to highlight that it continues to reflect a strong financial foundation for us. We had cash and short term investments totaling $345.5 million at the end of the fourth quarter of 2014 and no debt. Our year-to-date operating cash flow was $14.6 million, with our accounts receivable days outstanding of 48 days for the fourth quarter of 2014, compared to 47 days in the fourth quarter of 2013. Additionally, our total gross deferred revenue balance at the end of the fourth quarter of 2014 totaled $223.7 million, compared to $222.9 million at the end of the fourth quarter of 2013. Furthermore, we have additional future minimum commitments by our customers to purchase our goods and services of $136.4 million, as compared to $119.7 million as of the end of the fourth quarter of 2013, representing a 14% increase. As anyone who has been through a significant restructuring knows, it’s not easy and it requires conviction to push through and do what we believe is the best in the long term for the company and all stakeholders. We started this process with the goal of returning to profitability and are pleased that we have achieved this goal in the fourth quarter. However, none of us believe that means that we can simply sit back and celebrate. Quite the contrary. This process has shown what we can accomplish with laser focus and attention and we are all excited about seeking additional growth in 2015 and beyond. Now I’d like to turn it back to Michael for some additional remarks.

Thanks Doug. As Doug said, during the third and the fourth quarter of last year, we spent a considerable effort restructuring the firm and we streamlined our operations. We reduced our cost structure. We refocused our executives, I think around a new set of objectives. But clearly with regard to the revenues in the fourth quarter, we were disappointed and although they weren’t what we wanted, they weren’t completely unexpected either. I would attribute our product license revenue results in Q4 to a couple of factors. One I think was and the obvious explanation is the distraction of senior management in the sales organization as we are going through the restructuring. But I also think that the weak results were a result of weak execution in the sales, marketing and technology organizations of the company. And to that effect, we’ve replaced senior executives throughout the sales, marketing and technology organization in the past three to six months. We have a new head of worldwide sales, David Rennyson who just started with us at the beginning of the year. We have a new Head of Technology, Tim Lang and he just started with us in the back half of this year. And we have a new Head of Marketing, Mark Gamble. I think all three of them are better suited to the role of operational execution, especially in the 2015 timeframe and I’ve been pretty pleased with what I’ve seen so far. I'm optimistic that the execution within the business is going to improve and that we are going to deliver products in a more timely fashion, that our marketing messages are going to align with those products better and with the sales organization more effectively, and that the sales organization is going to execute better both in the field, the channel and the inside sales areas. Execution is not the only part of the business strategy though. As we look out into 2015, I think we have a strong lineup of products and they’re focused upon enterprise analytics, mobile and security. Those are the three markets that are on fire in 2015 throughout the enterprise. I would say that analytics, mobile and security are three of the top five priorities of just about every IT agenda in the world right now. Tomorrow morning we will put out the press release that punctuates and kicks off the MicroStrategy World Convention, but it will highlight three key product offerings; MicroStrategy 9S and 9S represents the combination of our Usher security platform integrated completely into the MicroStrategy 9 enterprise analytics and mobility platform. We’ve brought together our product lines into one great enterprise, analytics and mobility platform. I think 9S and the 9S stands for secure of course, is going to revitalize our installed base. It’s going to inject a lot of electricity into our existing customer relationships. It’s going to change the playing field in the enterprise analytics space, because now we can secure via biometrics or multi factor authentication traditional enterprise analytics that are deployed via a web browser on a conventional PC. I think that that’s going to give us a competitive edge against everybody else in the enterprise analytics space. I think in the enterprise mobile space, the same is true. We’ve now got a product that allows you to deploy mobile apps and analytic apps to an iPad and authenticate the documents via a fingerprint, or allows you to integrate biometrics into most enterprise mobility applications. For those of you who follow Apple computer, you know that Apple Pay has been a screaming success and very, very exciting in the way it’s been received by the market. We are now piggybacking on that excitement by injecting biometrics and touch ID into the enterprise mobile and enterprise analytics space with MicroStrategy 9S. We expect that that will be a message, a strong campaign message in our installed base and it’s going to drive a lot of cross sell and upsell activity and we are enthusiastic about it. The second major product announcement tomorrow morning is that Usher, our enterprise security platform, is now generally available. And for those of you who’ve been following the company know that that’s been a major investment effort on our part, but we haven’t been in a position to sell that direct to enterprises up until now. But in the first quarter of 2015, we are now out selling two enterprise software platforms. We have MicroStrategy 9S as the enterprise software platform for secure analytics and mobility, and we have Usher as the enterprise software platform for security applications. Of course if you followed my last narrative, you realize that 9S really is MicroStrategy 9 plus Usher all in a box. Usher actually happens to be MicroStrategy 9S, but directed at enterprise analytics because our Usher platform provides you not just Usher security in a badge, but it provides you with Usher mobile which is a mobile application for the enterprise built on MicroStrategy’s mobile offering and it provides you Usher analytics, which is built on top of the MicroStrategy 9S analytics engine. So 9S is a platform for analytics and mobile apps. Usher is a platform for security apps. It represents a nice, elegant line extension for us, but it’s highly integrated and rooted in our legacy capabilities and our core strengths. The third announcement that we will have tomorrow is the secure cloud. We have revised and refocused our cloud offering so that now the MicroStrategy secure cloud is 9S plus Usher available on top of the Amazon platform, integrated with best-of-breed enterprise relational database and ETL platforms. The nice thing about this is that it represents simultaneously a streamlining of our cloud offering, because we are not going to be investing to support or expand our own hosting capabilities. So we are going to move away from that market and we are going to jump on top of the Amazon hosting platform much more aggressively. But it also represents an expansion of our cloud offering, because although we are getting out of a part of the business we don’t see as strategic, the hosting and the hardware and capital, intensive part of business, we are moving into a part of the business that believe is extremely lucrative and strategic and that would be providing people with an application platform out of the cloud that allows them to very rapidly build and deploy their own secure analytic applications, or their own secure mobile applications, or deploy their own enterprise security applications, all of them built on top of our world class app development platform, but also riding on top of the Amazon hosting platform. I think that it’s a better business strategy for us with regard to our cloud business. And I think it’s going to be great for our customers and our partners. So all three of those things, those three products, 9S, Usher and the secure cloud, highly integrated offerings all targeted at a part of the market that is growing in the year 2015. That new improved product strategy I think is going to be a cornerstone of our revenue growth in the future and we are marrying that with a new improved operations strategy. The new executives we put in place are critical to that, but we have made deep structural changes in the way that we are organized, how we manage and how we compensate our sales teams, our consulting teams and our engineering teams at MicroStrategy. As of the beginning of the year, we’ve got a new organization in each of those areas. We’ve created sales business units that report to our entrepreneurial business units heads, who are compensated based on margin as opposed to revenue. And we have streamlined the compensation plans of the sales teams below them to focus much more tightly on the product revenue and the product platforms I have mentioned before and be less intertwined in a complicated fashion with other forms of outcomes that we felt weren’t as constructive. So the sales organization is pivoted around to focus upon profitable growth and product revenue sales. In the consulting area, we’ve reorganized the consulting group so that we have a number of P&L units, consulting practices. And the leaders of those units are also merged and focused in the year 2015. And that’s a major change because it used to be that the people selling consulting were revenue focused instead of margin focused. And another major change is that we have converted over all 600 plus of our consultants from compensation structures focused upon generating billable hours, or just working hours, to compensation structures focused upon the revenue they generate. And so the rank and file are shifting to revenue productivity based measures that tie much more, in a much more aligned fashion to our P&L. And we have approximately 200 executives in the company that are shifting over to P&L measures that align with our margins and our productivities and efficiencies. In the engineering organization, we’ve adopted the agile programming philosophy. We’ve changed our systems and we’ve reorganized our engineering teams into smaller product groups, all much more agile and autonomous and more accountable. So I think that those major changes in the organization and the major changes in our philosophy toward how we manage the organization, are supported by some major system rollouts and changes in the way we systematically do this and the business processes we use to manage those groups. And the combination of all those things I think should help us streamline and make more productive our operations. And of course they’re introducing a new culture of efficient and productivity into our company. All the things I've mentioned here with regard to the organization took effect at the beginning of the year. And so although we are in the first quarter of what will be a number of quarters, we expect improve productivity. I think that initial feedback from the people in the organization has given us an optimistic view toward the future. And I think we’re laying a strong, stable, scalable foundation for the company to grow from. In summary, our strategy is one of a unified product offering, unified marketing messages, a unified sales organization, all of them focused upon the same priorities; streamlined to focus on our core strengths. Where we feel like we don’t have a core strength or we are not going to be competitive over the long term, we’ve withdrawn either from the technical area or from the geographic area and we’ve turned our careful attention to the details of operating this particular strategy. We as a company are going to deliver the best enterprise platform for analytics, for mobile apps, for security apps. They are all integrated with each other. All of our customers need all of these things and all of our people in this organization are going to be focused upon delivering this to them in a profitable, efficient, growing fashion. So I'll end my marks there and I think we are ready to take question from the analysts on the phone.

[Operator instructions] Our first question comes from the line of Karl Keirstead with Deutsche Bank. Your line is now open. Please proceed with your question.

Thank you. I've got two. I'll direct one to Michael, and then the second one to Doug. Michael, on the revenue side, I think most investors on this line were prepared for some weakness given the obvious risk that you are taking MicroStrategy through a big reorg, and there would be some distraction and execution issues. So perhaps the magnitude is a little better, but not a surprise. But I think where everybody could use a little direction is, if we assume that 4Q is a little bit of an anomaly and we try to look out to 2015, I just wanted to ask you directly how confident you are on the back of the 10% revenue decline that MicroStrategy posted in the fourth quarter, how confident are you that you can post positive total revenue growth in 2015?

I think the fourth quarter is always more volatile, right? You are either going to get more upside or more downside just because of the seasonality of the business. I agree that it's more volatile than we like. As I look out at Q1 through Q4 of this year, I feel like we’ve got a stronger product offering this year than we had last year, and we’ve got a stronger management team and we’ve got stronger business processes in place. So I’m cautiously optimistic.

Okay, great. And then, Doug, I want to ask you, on the margin side, the non-GAAP operating margins of almost 27%, I really wanted to ask you how good a benchmark that is thinking forward. On the one hand, I would argue one should never extrapolate from the fourth quarter, given that it tends to be the seasonally strong quarter. But in this case it certainly wasn't seasonally strong for MicroStrategy and my guess is you really didn't get a full quarter of the cost-cutting benefits dropping into that operating margin line. So that would lead me to conclude that you could sustain this kind of level. So I'm not asking you for precise margin guidance for 2015, but for those of us that want to at least use 27% as a benchmark to model up or down, what are some of the things you might offer us to sharpen our outlook for 2015?

Well, the one thing that you should always take a look at and it doesn’t show up to a non-GAAP reconciling item, but it is the capitalization of the software. We had as I mentioned capitalized $6.1 million in software cost, meaning that we incurred the costs, but as opposed to expensing it, we basically put it to our balance sheet and we’ll amortize it once the asset -- once the software goes live we’ll amortize that over three years. You should definitely take a look at that piece of it. But look, we’ve obviously cut a lot of costs and I won't say 27% is the margin I think we’ve talked to about a lot lower number in prior conversations. But we are happy with our cost cutting. We’re happy at the fact the restructuring is essentially over and we are going to be watching our cost and making sure as I mentioned before that we are getting the ROI on this cost going forward.

Okay. Thank you both, and we'll see you tomorrow at the event.

[Operator instruction.] Our next question comes from the line of Greg McDowell with JMP Securities. Your line is now open. Please proceed with your question.

Thanks for taking my questions. Another execution-related question: I was just wondering if you could maybe dive a little bit deeper into some of the execution-related dynamics, and whether you would characterize some of these deals as just merely pushing off into the New Year, or versus competitive losses, versus deal shrinkage. And I guess as a second part of that question, have some of the deals that pushed into 2015 closed already?

This is Michael. I think that the causes of the results in Q4 were multi-faceted enough that I would hesitate to put my finger around any one of those thing that you mentioned. I do think that as we look into 2015, a stronger sales operations function with new leadership, and we have a new executive in charge of sales operations will be helpful, I think that a new sales leadership organization at the top will be helpful. I think that we had some slippage, not of deals, but we actually expected we would bring our share to market earlier and our MicroStrategy product line would come to market earlier. I think that delivering our new products will be helpful to us and they will catalyze new demand and open up some new application opportunities for us in 2015 that we weren’t able to capitalize in the fourth quarter of 2014. I think that there are some opportunities in the marketing area to improve our business development and our marketing and messaging focus. I think we missed out on some of those things in Q4, but I see every indication that our marketing organization is being fired on many more cylinders right now and it's become much well aligned with our product and our sales operation. So I think those things will helpful as well. The core underlying business I think is extremely healthy and you can see that in the very healthy maintenance base and renewal basis, a large customer base out there for us to sell to. The secret to selling to them is to bring something new to the table. So a refresh of our analytics line, a refresh of our mobile line, a refresh of our cloud offering and a GA on our security offering, those are all going to be very good factors for us. I think a refresh on our educational offerings to bring them in line with 2015 market needs is going to be another useful thing for us. And I think that just managing the operational details of the business more closely and carefully are all going to be helpful. And so if we do these things is 2015 I think we are going to see good results versus 2014.

Okay, thank you. One quick follow-up related specifically to security offering and Usher. Certainly we've heard a lot about a lot of active pilots and that's great to hear. And I know you have a number of large customers looking at the product and looking at the solution. But as we think about Usher this year, how should investors -- how should we measure success of Usher this year, besides revenue of course? Is it number of go-lives? Is it number of deployments? Just how are you guys thinking about at the end of 2015 whether or not Usher was a success or not? What are some of the benchmarks we should look for?

I think when we consider the product line, clearly we want it to look like a material business for us in revenue terms, which means it needs to get north of $10 million as quickly as we can. If we haven’t got a material revenue business by the end of the year, then I think we’re all pretty disappointed. How much beyond that and how fast it goes is always the question. I think with regard to non-material revenue items, we are going to want to see a lot of reference customers and reference deployments that we can use in our marketing and in our sales process. Visible successes with reputable enterprises as they deploy is the second factor. I think the third factor is we want to see this enterprise security platform embraced by our partner community. There are organizations which have 10 to 100 times the cloud in the marketplace than we have. Really big banking partners, really big facilities and physical access control partners, really large defense contractors and really large system integrators. As they start to get more comfortable with it and start to put it into their operations, that could be a big game changer for us. And I think those are the three things that we’d be looking four. Some of them are more leading indicators than the others.

That's helpful. Thank you very much.

[Operator instruction] I'm not showing any further question at this time.

Okay. I want to thank everybody for being with us today. I appreciate your time and your attention and we look forward to speaking with you in 12 more weeks.