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spk07: Good day and welcome to the Progress Software Corporation Q3 2023 earnings call. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 1-1 on your telephone. You will then hear an automated message advising your hand is raised. To withdraw your question, please press star 1-1 again. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker, Mr. Michael Michique, Vice President of Investor Relations. Please go ahead, sir.
spk03: Okay, great. Thank you, Cherie. Good afternoon, everybody, and thanks for joining us for Progress Software's third quarter 2023 financial results conference call. On the line with me this afternoon are Yogesh Gupta, President and Chief Executive Officer, and Anthony Folger, our Chief Financial Officer. Before we get started, let's go over our safe harbor statement. During this call, we will discuss our outlook for future financial and operating performance, corporate strategies, product plans, cost initiatives, and other information that might be considered forward-looking. Such forward-looking information represents Progress Software's outlook and guidance only as of today, and it's subject to risks and uncertainties. For a description of the risk factors that may affect our results, please refer to the risk factor section in our most recent form 10-K and 10-Q for the quarter ended May 31st, 2023. Progress software assumes no obligation to update the forward-looking statements included in this call. And additionally, please note that all the financial figures that we're gonna reference on this call today are non-GAAP measures unless otherwise indicated. You can find a reconciliation on these non-GAAP financial measures to the most directly comparable GAAP figures In our financial results press release, which was issued after the market closed today, the document contains additional information related to our financial results for the third quarter of 2023, and I recommend you reference that for specific details. We've also prepared a presentation that contains supplemental data for our third quarter 2023 results, providing highlights and additional financial metrics. Both the earnings release and the supplemental presentation are available on the investor relations section of our website, and the address is investors.progress.com. As Sheree mentioned, today's conference call will be recorded in its entirety and will be available via replay on the investor relations section of our website. And so with that out of the way, Yogesh, I'll turn it to you.
spk02: Thank you, Mike. Good afternoon, everyone. Thank you for joining us. We're delighted to have a chance to discuss our fiscal third quarter 23 results, share some details about our business, and provide our outlook for the remainder of fiscal year 23. As you've probably seen, progress delivered another excellent performance in our third quarter, during which we hit or exceeded all of our targets. And we have raised our guidance for FY23. So let's jump right in. Our strong performance in Q3 was driven, once again, by sustained demand for our products across all geographies and solid execution from all of our teams. Diligent attention to expenses and total management of our cost structure in an environment of pervasive inflation allowed us to meet our operating margin targets. OpenEdge continued to provide significant strength as our workhorse product, while our digital experience products also performed extremely well. In addition, our digital experience products received Gartner's highest customer choice distinction in the 2023 Voice of the Customer report, Evaluating Digital Experience Platforms, which was published at the end of August. MarkLogic is performing in line with our expectations, integration of the business is on plan, and going forward, we expect MarkLogic to meet the timeline we laid out when the deal closed. This quarter's outperformance again demonstrates that our customers continue to rely on progress technology to run their mission-critical businesses, especially as the level of economic uncertainty increases. Our employees remain highly engaged and motivated. Our ability to attract and retain top talent remains at industry-leading levels. And during this quarter, our employee retention rate improved even further. Anthony will break out all the numbers for you in a minute, but I'm very pleased with our execution on the top and the bottom line, as well as the growth in ARR and our net retention rates, which once again came above 100%. Now, if you recall back to January of 22 on our Q4 21 earnings call, we listed several ways in which progress would show strength through what was then becoming a much different environment than the prior two years, which were broadly dominated by super low interest rates, non-existent inflation, and pandemic-driven spending. We discussed the reliability and cost-effectiveness of our products and the value they deliver to our customers, especially in more difficult economic circumstances. We also talked how the culture at Progress enables market-leading employee retention, which helps us keep our high-quality, highly skilled and experienced people who focus intensely on customer success and drive our high customer retention rates. Because of our continued focus on our employees, Progress once again received numerous awards in Q3, including another Stevie for Achievements in Corporate Social Responsibility and recognition by B2B Media Business Awards by equality and employee care. Driven by employees' efforts, our business has remained largely remarkably steady while the overall economy and market has changed significantly. We will continue to stay focused on our execution and remain extremely vigilant in managing expenses in every part of our business. As for M&A, we still believe that the market for great acquisitions is favorable and improving for us, and we're as busy as ever sourcing and assessing potential acquisitions. Among the trends in the M&A market, the number of private equity deals continue to fall in the quarter along with the valuations of the companies acquired. And with VC-backed companies, down rounds are becoming more common, capital invested is shrinking, and leverage is becoming scarce. VC deal sizes have tended down hard in 2023, especially for late stage rounds. And deal counts are even lower than they were in 2017. So while infrastructure software valuations remain somewhat high, which speaks to the value of the sticky install base and high recurring revenue that comes with good infrastructure products, our corporate development team continues to vet a very encouraging pipeline of targets. In the meantime, we continue to focus on integrating MockLogic, paying down debt, and maintaining adequate financing as we look for the next deal. We've been very active and aggressive throughout the year, and we're ready to pull the trigger again, operationally and financially, when we find the right asset. As previously mentioned, for MockLogic specifically, the integration remains on track and is nearing completion on our planned timeline. As in every other acquisition we've done so far, we've learned some new things and had some new challenges to overcome with MarkLogic, and we're extremely satisfied with the progress we've made. So all in all, the third quarter was right where it should be, and we continue to execute on our total growth strategy. While we aren't immune to the effects of the current environment, the other companies have felt more acutely, we are pleased once again to beat numbers and rate our guidance even in the face of growing macroeconomic uncertainty. Switching gears, after we reported our second quarter back in June, we received a number of questions on how we were using AI, which at that time was making daily headlines. As we know, AI and generative AI are technologies that capture many people's imaginations because they offer real potential for operational efficiency gains as well as opportunities for product advancement. We at Progress have been working pragmatically to use AI where we see potential tangible benefits to our business. AI has been actually near and dear to my own heart for decades. And I came to the U.S. many years ago to do a Ph.D. in AI. I hold a patent in the field of neural networks. And while I was CTO at CA, we devoted significant energy to researching AI and used it in a network management product. Many progress products have been using AI long before AI became the lead story on CNBC every morning. For example, Flomon uses analytic AI to detect and predict network anomalies before they negatively impact the business of our customers. Our Sitefinity product, a key component of our digital experience offering, offers AI-driven customer engagement and personalization of digital content to drive engagement and conversions. And SmartLogic. which we recently acquired in our MarkLogic acquisition, perform semantic AI analysis of data. What is new is generative AI, or GenAI, and larger language models, or LLMs as they are called. We view the GenAI opportunity in two broad categories. First, we're developing ways to use GenAI to make progress more efficient and to be able to grow our top line while controlling cost. We've started using GenAI to help our people do their jobs more efficiently in many functions, such as finding new customers, providing support, benefits administration, talent management and recruiting, legal and contract management, just to name a few. Second, we're leveraging market opportunities created by GenAI. For example, one of the challenges facing businesses when using GenAI is to augment the language large language models with proprietary data in a secure manner to make the output of GenAI specific to that business. Our data platforms combined with MarkLogic products directly address this challenge. Our products make it possible for businesses to augment the generic LLMs with their own information so the output is contextual and relevant to their specific business while keeping their proprietary information secure. Another example is to help application developers build applications more easily. Developers in our digital experience business have been recently working on building a conversational interface tool that uses Gen AI to automatically generate forms, such as a mortgage application, say, from textual prompts. In both the operational and product categories, our efforts in AI are fueled by the excitement and creativity of our teams. But we will only invest where we believe we can drive real, tangible benefits for our business, whether it is product innovation or efficiency improvement. Lastly, let me take a moment to discuss the current status of Moovit. As we detailed in our last earnings call, at the end of May, threat actors exploited a zero-day, which is a previously unknown vulnerability, in Moovit to attack the Moovit environment of our customers. Upon learning of the attack, we quickly patched Movit Cloud and created a patch for our on-prem Movit Transfer customers. Several third-party organizations, including cybersecurity experts and industry publications, have given Progress high marks for our rapid response. As we indicated in our 8K filing, Movit Transfer and Movit Cloud represent less than 4% of our revenue. And while we're incurring expenses related to legal responses and the investigation of this attack, there was minimal impact to our business in the third quarter. It is too early to assess the impact of any litigation. We will continue to provide updates in our Form 10Q filing as we did last quarter. I am very proud of our teams for all their efforts in responding to the vulnerability and helping our customers while still delivering great results across the business. Going forward, as always, we will continue to focus on our customers and keep taking steps to help mitigate risks throughout the company. So to wrap it up, our third quarter was an excellent quarter for progress. We're moving ahead with our total growth strategy, meeting our goals in the overall business while nearing the full integration of MarkLogic. We remain well capitalized and continue to hunt aggressively for the next right M&A deal. With that, let me turn it over to Anthony for detailed financial review and outlook. Anthony?
spk03: Thanks, Yogesh. Good afternoon, everyone, and thanks for joining our call. As Yogesh mentioned, the third quarter was another strong one for progress, further demonstrating the strength and durability of our business. Jumping right into the numbers, I'd like to start with ARR, which we believe provides the best view into our underlying performance. We closed Q3 with ARR of $577 million, which represents approximately 18% growth on a year-over-year basis and 2% pro forma growth on a year-over-year basis. To be clear, the pro forma results include MARC logic in both periods. The growth in ARR was driven by multiple products, and was again bolstered by strong net retention rates just under 101%. In the past, we've talked about our R&D investments, our focus on customer success, and the strength and stability of customer demand for our products. We believe our Q3 net retention rates reflect a healthy mix of all these factors. In addition to our solid ARR performance for the quarter, Revenue for the quarter of $176 million was at the high end of the Q3 guidance range we provided back in June and represents approximately 15% growth on a year-over-year basis. Our strong revenue performance in the quarter was driven by multiple products, including OpenEdge, which continues to perform ahead of our expectations. On a year-over-year basis, our revenue growth was driven by the addition of MarkLogic and stability in the rest of our business, which again, this quarter showed slight growth on a year-over-year basis. Turning now to expenses, our total costs and operating expenses were $107 million for the quarter, an increase of $14 million compared to Q3 of 2022. The year-over-year increase was driven entirely by the addition of MarkLogic to our business. Operating Income was $68 million for the quarter, up $8 million compared to the year-ago quarter, and our operating margin was 39%, the same as in the year-ago quarter. On the bottom line, our earnings per share of $1.08 for the quarter were $0.06 above the high end of our guidance range. This overperformance relative to our expectations was driven by strong top-line performance coupled with solid cost management across the business. Our outlook for the marked logic integration remains unchanged, and we continue to expect that we'll achieve all our synergy targets by the end of this fiscal year. Moving on to a few balance sheet and cash flow metrics, we ended the quarter with cash, cash equivalents, and short-term investments of $138 million, and debt of $763 million, for a net debt position of $625 million. This represents net leverage of approximately 2.3 times using our forecasted fiscal year 2023 adjusted EBITDA. I'd also like to mention that during the third quarter, we paid down $30 million against the revolving line of credit that we used to partially fund the acquisition of MarkLogic. bringing the outstanding balance on our revolving line of credit to $140 million at the end of the quarter. Our DSO for the quarter was 49 days, or approximately flat compared to the year-ago quarter. Deferred revenue was $280 million at the end of the third quarter, down slightly from the second quarter, reflecting normal seasonality in our business. Adjusted free cash flow was $48 million for the quarter, an increase of over $8 million or 21% from the year-ago quarter. During the third quarter, we did not repurchase any shares of Progress stock, so at the end of Q3, we had $198 million remaining under our current share repurchase authorization. Okay, now I'll turn to our outlook. Despite news of a more challenging macro environment, we continue to see strength in the demand for our solutions. With that, starting with the full year, 2023, we are increasing our revenue guidance by $1 million at the midpoint and expect revenue to be between 692 and 698 million. We're maintaining our outlook for operating margin for the year of approximately 38 to 39%. We're maintaining our outlook for adjusted free cash flow and are tightening the range to be between 177 and 183 million and we are increasing our outlook for earnings per share to be between $4.20 and $4.26, an increase of 3 cents at the midpoint. Our guidance for full-year EPS assumes a tax rate of approximately 20% and approximately 45 million shares outstanding. For the fourth quarter of 2023, we expect revenue between 171 and 177 million, and earnings per share between 87 cents and 93 cents. In closing, we're excited to deliver another strong quarter of financial results across the board, a continuation of the trend that we saw for much of 2022 and the first half of 2023. We're thrilled to see the MarketLogic integration progressing, and we believe we're on track to deliver a strong Q4 and position ourselves well for our fiscal 2024. With that, I'd like to open the call for questions.
spk07: Thank you. As a reminder, to ask a question, please press star 11 on your telephone and wait for your name to be announced. To withdraw your question, press star 11 again. Due to time restraints, we ask you please limit yourself to one question and one follow-up question. Please stand by while we compile the Q&A roster. Our first question will come from the line of Ray McDonough with Guggenheim Securities. Your line is open.
spk05: Great. Thanks for taking the questions. Maybe, Yogesh, for you, given the nature of solutions that you guys provide, that Progress provides, it's not surprising that OpenEdge has exhibited strength throughout the weak macro environment, but it seems like the whole business, as you highlighted, has been stable. And MarkLogic, again, it makes sense. Some of the other products make sense. Is there any area of your portfolio where you're actually seeing a macro-related impact? And if so, how might that be manifesting, and how should we think about the difference in buying behavior maybe between some of your more stable install bases?
spk02: Hey, Ray, thanks. Good question. You know, we're actually not seeing challenges in any aspect of our business on the product lines, to be honest. We are hearing from our field organization that, you know, They're noticing that large projects that maybe customers were looking at, they might be looking at them more closely. But really, from our perspective, our business continues to be strong. We're seeing strength across the board. And that is really delightful and wonderful to see. As you know, Ray, our products are truly about making organizations more effective, more efficient, run their business better, They end up in mission-critical environments. So it is a wonderful business to be in. And I think the strength of the progress business comes through in our results.
spk05: That all makes sense. And I guess you were pretty clear, Yogesh, that you're kind of on the hunt for your next acquisition or your next target. you know, if we kind of think through the size of targets or the size of an acquisition that you might be willing to do, should we be thinking that, you know, there's probably room to do a larger acquisition, maybe like MarkLogic or, you know, a couple more smaller acquisitions? I guess the question is, how should we be thinking about the size of future acquisitions? And then, you know, in light of the increasing cost of capital just with interest rates rising, How do you think about the hurdle rate for a future acquisition in terms of the returns? I know you guys are very focused on return on invested capital. So I'm assuming your weighted average cost of capital is changing a little bit as interest rates rise. But just wondering, how are you thinking about those two things together?
spk02: Absolutely. Happy to answer those. And maybe Anthony can help with the second part of the second aspect of the question with respect to hurdle rates. On the first part, you know, Ray, as we have said, right, you know, our ideal free spot is to you know, buy companies that are, let's say, in the 10 to 20, 25% of our revenue size, right? And that goes up every time we buy another company because our overall, our base goes up, right? So, you know, our goal is over the long haul, you know, is to double our business in five years. And so effectively, you know, we might find a business that is 10%, in which case we might find two of them or maybe even slightly less than 10% and we might find two of them. We might find something that is closer to 20 or even 25%. Some of it is, in fact, a lot of it depends on what comes to market. So the size of assets coming to market often range from even sub 50 million, which we look at sometimes not as much as we used to. given our current size. But really the 50 to 150 right now is our sweet spot. So in terms of revenue of the target. But that doesn't mean that we don't look at somewhat smaller. That doesn't mean that we don't look at somewhat bigger. The goal there, Ray, is more operational rather than the financial side from my perspective. Can we bring in a business and integrate it easily? Can we do it in a way that our culture survives? Can we do it in a way that you know, people realize that we're going to do things the progress way going forward, which becomes really hard if you do like a, you know, whatever it's called, merger of equals or some nonsense like that. So, you know, to me, you know, acquisitions, from my perspective, right, there has to be some go-forward plan that has been consistent before and continues to be consistent going forward. So that's the rationale for the size limitation. Now, Anthony, you want to speak to, you know, financing constraints or return of investment? Yeah.
spk03: Yeah, sure. You know, in terms of the hurdle rate, yes. You know, as interest rates continue to move up, it will affect our weighted average cost of capital a little bit, and it has. But I think our WAC has stayed, you know, reasonably in check, probably 8.5%, somewhere in that range. And I think we've been able to hit deals from a return perspective following in double digits over the past several years. So, you know, it certainly – It pushes the envelope a bit, and I think as rates go up, you know, the math will tell you that multiples are going to need to come down a little bit. And, you know, that's the way our models work and probably a lot of other folks as well. So, yeah, I think the hurdle rates or the return rates may creep up, and I think they're going to need to creep up as long as rates stay high, and it looks like that's where they're staying.
spk05: All makes sense. Thanks, guys.
spk07: Thank you. One moment for our next question. And that will come from the line of Pendulum Bora with JP Morgan. Your line is open.
spk01: Hi, guys. This is Rachetan for Pendulum. Can you help us understand the growth retention dynamics in the quarter?
spk02: Oh, sorry. Were you asking about growth retention dynamics in what quarter?
spk01: In the quarter.
spk02: In Q3. Yeah. So, you know, the overall growth retention of our products has been strong and continues to stay strong. There was no real difference between the growth retention, you know, in Q3 versus Q2 or Q1. You know, we continue to see a strong growth retention because without that, it would be tough to have net retention above 100%, right? As I've said many times, on many of these calls, right, our target is to sustain 100 plus percent net retention rates. And to do that, we need really solid growth retention rates. So we've had solid growth retention rates this quarter as well. No real news there, to be honest.
spk01: Well, thank you.
spk07: Thank you. One moment for our next question. And that will come from the line of Brent Phil with Jefferies. Your line is open.
spk06: Awesome. Thank you, guys, for taking the question. It's Antonio for Brent Phil. I had a quick question on headcount on both the operational side and maybe the product development side. Can you just provide us with any color on plans for headcount growth this year and sort of where you've been focusing your investments in? And then on the product side, are there any particular ones you want to call out in terms of having, you know, a disproportionate amount of engineering resources? Sure.
spk02: So, you know, a couple of things, right? Our headcount this year, of course, went up when we acquired MarkLogic, right? I mean, that was an acquisition. They came with a bunch of employees. You know, we didn't, of course, bring everybody on board, but, you know, a significant number of employees joined Progress because of the MarkLogic acquisition. In general, our headcount is flat and we, you know, we are not really, you know, hiding aggressively except for, you know, replacing people that turn over, right? Fundamentally, we keep our headcount approximately flat. And Anthony, if you want, you know, feel free to add to that. I don't think that, you know, from a product investment perspective in the R&D side and engineering side, you know, we run a very lean organization overall. And one of the ways we sustain the retention of our customers, you know, whether it is gross retention as well as net retention, which is really remarkable, is by investing in the products so that the products continue to get better, continue to stay competitive and stay relevant. And we don't, you know, but we're very, very careful, right? It isn't as though we've got people sitting around and drinking, you know, not doing real productive work that is helping move the needle on our retention and expansion efforts as well as winning some new customers. So it is all, you know, we measure it, we track it, we measure performance. And so, you know, we are continuing to invest appropriately for the profiles of those businesses. And, you know, just a little bit more color on that, you know, Some people say, well, you know, what percentage of revenue you might invest on a particular product, right? It is a combination of things. If it's a very large revenue number, right, the percentage of revenue invested in the engineering side of the product is less because it's a large denominator. So the question really is, what work do we need to do to keep our products competitive in the market, to make sure that they continue to be relevant, to make sure that our customers are happy? And that's what drives our engineering investments.
spk06: Awesome. Great. Thanks for that. And then maybe just a quick follow-up. I think you sort of alluded to it, but can you drill down on the go-to-market strategy with MarkLogic and how you're approaching that and sort of what the realignment of the go-to-market looks like?
spk02: Sure. So, you know, we, as you might be aware, we have had a very strong internally portfolio of a relational database and data integration technologies between open edge and data direct. And these two products are a significant part of our business in terms of revenue. And MarkLogic is a NoSQL database, so it complements our open edge database. And Semaphore product does semantic analysis of data across all types of data. really the go-to-market is to bring you know efforts have been to bring together these uh go-to-market organizations so they are one organization now for all of our data platform uh business um so our application and data platform business which is which includes these products is all one and together it's completely integrated it's under one general manager and and uh and and so that makes for opportunities to potentially, you know, if something arises, to take products in from one portfolio to another. But it also means that, you know, we have strong relationships and relationship management skills at Progress, and we bring those to bear in terms of retention and expansion skills as well. So I hope that answers your question. It is now combined with our application and data management go-to-market efforts.
spk06: Great. Thanks, you guys.
spk02: Thank you.
spk07: Thank you. I'm showing no further questions in the queue at this time. I'll turn the call back over to Mr. Yogesh Gupta for any closing remarks. Actually, we did have a question come from Itai Kidron with Oppenheimer. Just one moment, Itai. Your line is open.
spk04: Thank you. I thought I had my hand raised. Guys, thank you so much for the time. Two, three questions from me, Yogesh. First of all, can you comment and move it in a little bit more detail? More specifically, it seems like the impact from this continues to be unraveled almost on a weekly basis here. How many customers have already got off the platform? How many do you think more might be coming? And is there... I'm trying to think about the liability exposure here. Is there anything that can come back to you because of this? Do you have cyber insurance for that? I don't know if I'm asking the right questions, but I'm trying to really understand the lasting impact of this on your business.
spk02: Itai, thanks for your questions. Itai, I will try to answer as many of these as I can. As you know, We do have an ongoing investigation. We do have ongoing legal efforts around this. So, you know, most of our communication happens through our filings. But let me share some of the things that you were asking. So, you know, from the perspective of our customers, actually, our customers have been extremely positive about, you know, what we've been doing for them. As we mentioned, you know, there was minimal impact on our business in Q3. As you noticed that in Q4 and for the year, right, we are still confident about our outcomes. So we're not really seeing what I would expect from our customers at this point. As far as litigation expense, it is way too early to try to do any kind of an estimate as to what it would be. I think we have shared that we have a, you know, uh, cyber insurance, uh, to the tune of $15 million. That's one five. Um, and, uh, you know, we report, I mean, we, we reported in our, uh, you know, uh, press release, um, uh, you know, basically sort of the approximate expense in this, in this area. And, and we will continue to report that and, and, and, and, and, you know, we just don't know what the future litigation impact might be because it is so early. But in general, you know, customers have been, to be honest, really happy with our response.
spk04: Okay. Anthony, a couple financial questions. First of all, the U.S. dollar is making a move. Can you remind us what, if anything, how this influences your financial statements?
spk03: Yeah, sure, Itai. I think we would say that we're, you know, north of 70% of our – top line of our billings and revenue, we're down in dollars. And from an expense perspective, I think we're in the high 60s. And most of the foreign currency billings are sort of, I would say it's euro or pound or dollars that are closely, you know, move closely in concert with those two. So, you know, I think, you know, to the extent that the the dollar weekends, we may see a little bit of benefit from that, but there's a pretty decent natural hedge built in. Um, so it can move the top line a little bit, but generally speaking on the margin, um, we have a reasonable natural hedge in place.
spk04: Okay. And then lastly, on your guidance for the fourth quarter, you haven't really moved it at all. Whatever the upside was in the quarter, you kind of rolled it over. into the next, into your annual guide and you did not really change your fourth quarter number. And I'm just kind of wondering why it feels, you know, your guide is short before consensus is both on the top line and the bottom line and trying to think, you know, with the solid execution that you have, with the environment being stable and with the fourth quarter being kind of year end quarter, why aren't you a bit more upbeat and willing to commit to a higher set of numbers?
spk03: Yeah, no, I think we're pretty upbeat at times. I think, you know, revenue is up a million dollars at the mid, and I think EPS is up three pennies at the mid. And, you know, that's been a pretty consistent theme each quarter this year. So, you know, I think we feel pretty good in terms of the demand environment, in terms of our ability to manage costs, in terms of the integration of MarkLogic. And so, you know, we felt like going into Q4, taking numbers up a little bit was a pretty positive sign. I'm, you know, not sure what others are doing out there in this market, but certainly taking numbers up into Q4 felt like a pretty positive thing to do. And, you know, to the extent we can overperform those numbers, I think even better. Very good. Thank you very much. Thank you.
spk07: Thank you. And as I'm showing no further questions in the queue at this time, I'll turn the call back over to Mr. Yogesh Gupta for any closing remarks.
spk02: Well, thank you, Cherie, and thanks again, everyone, for joining us. We look forward to talking to you again soon. Have a good night.
spk07: Thank you all for participating. This concludes today's program. You may now disconnect.
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