Open Text Corporation

Thank you for standing by. This is the conference operator. Welcome to the OpenTex Corporation second quarter fiscal 2023 financial results conference call. As a reminder, all participants are in listen-only mode and the conference is being recorded. After the presentation, there will be an opportunity to ask questions. To join the question queue, simply press star then 1 on your touchtone phone. Should anyone need assistance during the conference call, they may signal an operator by pressing star and zero on their telephone. I would like to turn the conference over to Harry Blount, Senior Vice President, Investor Relations. Please go ahead, sir.

Thank you, operator. Good afternoon, everyone, and welcome to Open Tech's second quarter fiscal 2023 earnings call. With me on the call today are Open Tech's Chief Executive Officer and Chief Technology Officer, Mark J. Baranchay. and our Executive Vice President and Chief Financial Officer, Madhu Ranganathan. Today's call is being webcast live and recorded with a replay available shortly thereafter on the Open Text Investor Relations website. Earlier today, we posted our press release and investor presentation online. These materials will supplement our prepared remarks and can be accessed on the Open Text Investor Relations website at investors.opentex.com. I'm pleased to inform you that Open Text Management will be participating at the following upcoming conferences. Bernstein's Technology, Media, Telecom, and Consumer One-on-One Forum on March 1st in New York, and Scotiabank's TMT Conference on March 7th in Toronto. And now on to our Safe Harbor Statement. Please note that during the course of this conference call, we may make statements relating to the future performance of Open Text that contain forward-looking information. While these forward-looking statements represent our current judgment, actual results could differ materially from a conclusion, forecast, or projection in the forward-looking statements made today. Certain material factors and assumptions were applied in drawing any such statement. Additional information about the material factors that could cause actual results to differ materially from a conclusion, forecast, or projection in the forward-looking information, as well as risk factors that may reject future performance results of OpenText are contained in OpenText's recent forms 10-K and 10-Q, as well as in our press release that was distributed earlier this afternoon, which may be found on our website. We undertake no obligation to update these forward-looking statements unless required to do so by law. In addition, our conference call may include discussions of certain non-GAAP financial measures, reconciliations of any non-GAAP financial measures to their most current Most directly comparable GAAP measures may be found within our public filings and other materials which are available on our website.

And with that, I'll hand the call over to Mark. Thank you, Harry, and welcome everyone to our fiscal 23 Q2 call. Madhu and I are delighted to be hosting today's call from Ottawa. Tomorrow, we ring the opening bell for the NASDAQ live from the nation's capital. It is NASDAQ's first opening from Canada, and tomorrow is a recognition and celebration of Canada's and OpenTech's leading role in global technology innovation. We're a differentiated young company, and we're just getting started. Let me get right to the most important points today. OpenTech had a truly superb Q2, achieving overall constant currency revenue growth of 7.8%, which reflects very strong cloud revenue growth of 16%, excellent renewals performance, and continued focus on efficiency with 37.7% adjusted EBITDA margin, even as many of our team members also worked very hard to prepare for the close and integration of Micro Focus. Many of the same secular factors that contributed to our growth have only increased our confidence and the potential that we see in the acquisition of Micro Focus. Specifically, in an increasingly connected and data intensive world, Our customers need actionable insights and information, strong security, and continuing innovation in the tools that they need to accelerate the digital evolution of their complex business environments in order to securely deliver on their customers' expectations and do so efficiently. We are on track to deliver on every commitment we made at the time of the Micro Focus acquisition announcement. I'll elaborate later. but we are more confident than ever about the value we can create for our shareholders, customers, and our employees, and the performance we can realize by applying the OpenTex business system as very experienced integrators. We have a proven track record that has been refined through the course of integrating many large acquisitions over the last decade. In addition, you'll hear today that we're on a path to deliver $6 billion in annual revenues, a $2 billion cloud revenue business and over $2 billion in adjusted EBITDA dollars with upper quartile free cash flows based on the trust of our customers. There's five specific topics I want to cover today. One, our vision, our differentiation, and how we plan to win in our markets. Two, delivering on our expanded information management mission and growth programs. Third, multi-year financial milestones and aspirations, including our superb Q2 results. fiscal 23 growth targets. We're going to discuss today our preliminary F24 growth targets and even stronger F26 aspirations. We'll also talk about our strong capital allocation approach and plan and how we intend to create value with the Open Text business system. Let's get into it. First, our vision, our differentiation, and how we plan to win in our markets. Markets are never static. Through time, we've expanded information management to include many types of content, experiences, and business networks. With a Micro Focus acquisition, Open Tech's corporate mission expands again, this time to help enterprise professionals secure their operations, gain more insight into their information, and better manage increasingly hybrid and complex digital fabric with a new generation of tools that include cybersecurity, digital operations management, applications automation, and AI and analytics. Digital life is life, and this is Generation Digital. We call this business 2030. Organizations can only achieve their strategic aspirations by becoming digital leaders, and top economic performers are already investing disproportionately in digital capabilities. We're on the cusp of a new world era driven by digital, new productivity and harnessing the world's assets. unlocking human potential, the reshaping of economies by the frictionless flow of goods, people, capital, and ideas, and the new uses of technologies that will drive the next big arena of value and competition. Business 2030 will be achieved through four digital transformations, total enterprise reinvention, every industry totally transformed by digital, a new workforce led by Generation Y and Z, and only a digital mindset, new digital paradigms in sustainability, climate, trust, and social justice, and new digital requirements in extended reality, voice and facial interfaces, the verse, and AI. Organizations will continue to need the process advantage, of course, which they receive from ERP and CRM vendors. But the process advantage requires data and actionable insights. Customers need the information advantage, which they receive from open text, forged by digital. I speak with a lot of customers, and their business operations are getting more complex as they operate across many countries, many regulatory authorities, platforms, endpoints, and cloud, including the rocketing security and industry compliance requirements. Process and information sprawl is increasing for business information and automation that spans commerce, supply chain, service management, asset management, payment systems, financial systems, communications, and service management. The more connected business becomes, the more complex the business operations. At OpenText, we have the end-to-end software and cloud capability to help customers make this transformation rapidly and cost-effectively. This is why I like to say we are the platform of platforms for information management. Customers need a single real-time view of information across these complex business infrastructures that is intelligent, connected, secure, and responsible. That is what we do, and it is unique. This is the open-text information advantage. Specifically, we believe there are six key markets required to enable the information advantage and deliver the high-impact digital transformations required for Business 2030 in winning in this new digital era. The six markets are these. Number one, content services, which include experiences. Number two, business networks. Third, cybersecurity. Fourth, application automation, which includes ADM and AMC. Fifth, digital operations management, formerly ITOM. And sixth, analytics and AI. We are organizing around this strategic and growing totally addressable market of $200 billion plus, and we'll keep you updated on our progress in these six market areas. Second thing I want to talk about today is delivering on our expanded information management vision and growth programs. It's been a great first week speaking with Micro Focus employees and customers, and we have already completed our leadership, structural, and key people integration. There's an enormous amount of energy and excitement. Please recall the transactional financial highlights are as follows. We paid an enterprise value of $5.8 billion, financed with cash and debt. This equates to a revenue multiple of approximately 2.3 times and an adjusted EBITDA multiple of 6.7 times. a very attractive multiple, and the business is immediately accretive to adjusted EBITDA dollars. Moreover, we love the amazing talent, marquee customers, and great products, including IDLE and the content space, Vertica and AI, Fortify and Vanta Voltage and security, SMACS and digital operations, and Lode Runner and Value Edge and applications automation, including critical mainframe technologies that power the global 10,000 today and tomorrow. We also intend to fix the things that need fixing, accelerate to the cloud, reinvention of the customer engagement with the open text love model, centralizing renewals and implementing OT best practices, and right-sizing the organization for speed, impact, and growth. On growth, let me summarize a few key programs. OpenText delivered a 95% renewal rate for off-cloud in Q2. We expect to make steady progress in transforming the customer experience with micro-focused products and raising their low 80s renewal rate to ours by the end of fiscal 25 or sooner. Rapid innovation. The highest correlation to high renewal rates is product value, and we are taking several actions to accelerate innovation to all our customers. Specifically, we are immediately engaging customers to migrate to the OpenText private cloud for all major Micro Focus offerings and transitioning Micro Focus to our 90-day release cycles to accelerate innovation. Within these six markets, customers will benefit from some fantastic new product value. Our growth strategy is to win the six markets and go deep in each space with select and strategic cross-market integrations that include cloud, AI, and security. Let me highlight some of those growth areas in our six markets. In the content space, we intend four programs to help customers expand the areas of digital potential. We're going to leverage our new idle capabilities to incorporate new business workloads that leverage voice, video, imaging, and facial recognition. These are all new workloads we can bring content into. We're going to offer the OpenText private cloud capabilities to all Micro Focus customers to accelerate innovation. We're going to deliver the most secure content platform in the market with our new voltage. And with Titanium, gain larger share in SAS ECM market. We're on track with Titanium. In the business network space, integrate our new Vertica advanced analytics and machine learning capabilities into the OpenText trading grid to provide massive data analytics to drive the next generation of supply chain transformations and leverage our new digital operations management capabilities to increase the speed of change, the rate of change within the supply chain. Security is job number one. In cybersecurity, with the acquisitions of Carbonite, Zix, and Micro Focus security products, OpenText is now one of the largest cybersecurity businesses in the world. We've created a single go-to-market motion covering enterprise, SMB, and consumer, providing a complete cybersecurity stack in the marketplace from endpoint, forensics, identity, encryption, and cloud-based application security. We intend to invest in cybersecurity, gain share, and ensure this is a top driver of customer value from OpenText. Within our applications automation space, we've added significant new DevOps capabilities and performance quality and application testing. With our cloud scale and experience, we will turn up the volume in helping customers use these new tools to migrate and modernize into the cloud even faster. And our new digital operations management space will help customers increase service levels and customer experiences by integrating extended ECM and digital operations. We ran this play very successfully with SAP applications We'll run it again with ECM and digital operations. And in analytics and AI, we believe Vertica is a gem. We have two clear value plays. Integrate Magellan in our new Vertica for standalone AI and analytics, and the two products already have their initial integration, and we demoed it live this week, and embedded Vertica in all our major offerings from content, business network, and security. information management in the cloud, secure and intelligent, and at scale. Customers will benefit from some fantastic new product value. On our cost reduction programs, we confirm our approach to removing $400 million of combined company cost over the next 18 months by reducing overlapping work, removing inefficiencies, eliminating redundant facilities, and automating work. Madhu will speak more about this in a few moments. Earlier this week, we announced our plan to right-size our combined workforce from 25,000 employees to 23,000 employees on an approximate reduction of 8% within fiscal 23. This reduction is solely driven by the acquisition, and we still plan for strategic hiring of key roles and select geographies to help us drive growth and innovation. This is going to be a rapid, value-creative integration. Third thing I want to talk about today is our growth plans, financial milestones, and aspirations. As I said at the start, we had a superb Q2, and we're integrating Micro Focus from a position of strength. Let me walk through some of our Q2 highlights and year-over-year constant currency. It's our eighth consecutive quarter of cloud and ARR organic growth. We delivered $945 million in total revenues, or 7.8% growth. $423 million of cloud revenues, or 16% growth. And with Micro Focus, our cloud revenues are going to approach $2 billion a year. We reported enterprise cloud bookings growth of 12%, and our adjusted EBITDA was 37.7%. On a reported basis, we delivered $163 million in free cash flow and adjusted EPS of $0.89 or $0.94 in constant currency. I couldn't be more pleased about what we have accomplished with and for our customers this quarter. We had strong customer adoption of cloud additions within the quarter. RR Donnelly, Lear, Royal Bank of Canada, Los Alamos National Laboratory, AMD, the U.S. Defense Health Agency, and Transport of London. We're excited to partner with these leaders as they accelerate their digital transformation and look to own their digital capabilities. In an uncertain environment, we see continuing high customer engagement and strong demand for our solutions. Last quarter, I talked about the concurrent compounding challenges in the world, inclusive of currency, wage and goods inflation, fuel prices, Russia's war on Ukraine, supply chain constraints, skill shortages, and more. Many of these trends continue. The only answer is digitalization to deliver insights, improve efficiency, and lower costs. And our strong Q2 results reflect the corresponding increasing need of businesses to partner with open text. It is clear that technology is playing a significant role in boosting productivity in the face of these challenges, and technology is a greater portion of GDP today. IDC's research makes it clear that technology budgets are growing. They forecast IT spend will grow 5% in 2023 this year, software spend at 8%, and software as a service spend at 15%. Transitioning to our financial outlook, we promised more visibility, and we are providing it today. In our investor presentation, we have provided our updated F23 targets, F24 preliminary targets, and our F26 aspirations. Each include micro focus. Let me summarize in year-over-year terms and in constant currency. Our F23 targets include total revenues up 28% to 30%, or 4.47 billion to 4.55 billion, with Micro Focus contributing between 870 million to 920 million. Continued enterprise cloud bookings growth of 15% plus. The total company is expected to grow organically. Adjusted EBITDA dollars between 1.46 billion and 1.52 billion, or adjusted EBITDA margin of 32.5% to 33.5%. Reported cash flow of $500 to $600 million impacted from integration spend. It will be a year of cloud acceleration and onboarding micro focus. Let me provide our preliminary F24 targets. Total revenues up 33% to 35% or $5.7 billion to $5.9 billion of total revenues. Enterprise cloud bookings growth up 15% plus. The total company is expected to grow organically. adjusted EBITDA dollars between $2.1 billion to $2.24 billion, or between 36% to 38%, approximately $800 to $900 million of reported free cash flow. And let me spend a moment on micro focus and fiscal 24. We are baselining micro focus revenues to our financial quarters and to our standards and expectations. We want to make this simple and clear for you. They ended their last fiscal year at approximately 2.5 billion in revenues and declining mid single digit. Our revenue baseline for fiscal 24 is approximately 2.3 billion in annual revenues, and that is what we've modeled into our F24 preliminary targets. The F24 baseline includes transitioning from IFRS to US GAAP, transitioning to our reporting periods, our seasonality, the complete exiting of Russia, their previous sale of digital safe, and stopping some non-strategic items. To be clear, that is all history now. The baseline for fiscal 24 is a stable $2.3 billion, from which we intend to grow organically in fiscal 25. Now, if you want to do the Ford metric on a purchase price, that is 2.5 times Ford revenues, and at the midpoint of adjusted EBITDA, 6.8 times. This is an outstanding value purchase. We are replacing our F25 three-year aspirations with our F26 aspirations. Total company organic growth up 2% to 4%. Enterprise cloud bookings continue at 15% plus. Adjusted dividend margin expansion to 38% to 40%. And reported free cash flows of $1.5 billion plus. Fourth thing I want to talk about today is our capital allocation approach and plan. We have a strong three-year plan, and we have the leadership, talent, and tools to deliver. We're on a clear path to a $2 billion cloud revenue business and $2 billion plus in adjusted EBITDA dollars. Based on this, our capital allocation approach can be summarized as following. A rapid delivering program. Starting in fiscal Q4, we expect to pay down our debt by a minimum of $150 million a quarter and over eight quarters until we are under 3x leverage. Continuance of our dividend program. We intend to grow our dividend as our free cash flows grow. The Open Decks Board approved a cash dividend of 24.299 cents per share with a record date of March 3rd and a payment date of March 23rd. Share count. Our long-term plan is to hold our share count constant. Our business model is being designed to have a 20% plus conversion rate from revenue to free cash flow. This is upper-quartile performance, and we're on that path. Before I wrap up, let me just speak to how we create value with the OpenText business system. The company is focused on growth, profits, and creating value. We see three key stakeholder groups in the OpenText business system, customers, employees, and shareholders. For 125,000 enterprise customers, 1 million SMB businesses, and 8 million home users, it starts with world-class delivery, trust in our products and cloud, and the open-text love model, land, operate, value, expand, and creating a customer for life. For our employees, we invest in three areas, performance, achievement, and learning. And for our shareholders, total revenue growth that includes organic and acquired revenues like our superb Q2, a reinvestment strategy for growth with customer-informed R&D and sales and marketing, building a digital business that removes costs, improves productivity via high automation, upper quartile adjusted EBITDA margins, strong free cash flow with a yield of 20% plus, a capital allocation plan, as I previously noted, and continued acquisitions. We intend to acquire strategic assets that create value, leveraging the OpenTex business system, as we just did with MicroFocus. This is our virtuous cycle, how we create value using the OpenTex business system. Let me express something beyond our numbers in our business system. I have strong confidence in our business, team, and plan, and I'll keep you updated in the coming quarters as to our progress. I've always liked the motto from the great state of Missouri, the Show Me State. Our results will speak for themselves. In summary, OpenText is a unique company because we understand the complexity of our customers and we help them reliably manage that complexity. As a result, we have earned their trust every day, and we delivered a month's worth of value with the information advantage. I'll end my prepared remarks by reviewing the comments we made at the time of the Micro Focus acquisition announcement. One, we are reaffirming returning Micro Focus products to organic growth. The five months of fiscal 24 will be onboarding. F24, a year of returning to constant, and F25, organic growth. Accelerated cloud growth on a combined basis Expect enterprise cloud bookings growth of 15% plus. We expect to transform the micro-focused customer engagement and renewal model, as previously noted. The acquisition is dollar-creative from day one and contributes significantly more as we integrate, take costs out, improve renewal rates, and return to organic growth. Upper quartile adjusted EBITDA margin of 36% to 38% in fiscal 24 and 38% to 40% in fiscal 26. upper quartile free cash flows of 800 to 900 million in fiscal 24, 1.5 billion plus in fiscal 26, rapid de-levering, continuation of our dividend program, and enhanced visibility as we're doing today and will continue to do so. We're on track to deliver on every commitment we made. Let me express my deepest gratitude to our customers that place their trust in OpenText every day. My deepest gratitude to our OpenText colleagues who did outstanding work over the last six months, completing the acquisition, delivering an amazing Q2, and strong momentum into the second half of this fiscal year, and doing the hard work to prepare for applying our proven integration playbook. And finally, a huge and warm welcome to our 11,000 new colleagues from Micro Focus, customers, and value-added partners. We will grow and innovate as a united open text. May the one that brings peace bring peace for all. Let me turn the call over to Madhu Raghunathan, OpenTax CFO and my business partner. Madhu.