Upland Software, Inc.

Thank you for standing by and welcome to the Upland Software third quarter 2020 earnings call. At this time, all participants are in listen-only mode. Later, we will conduct a question and answer session. Instructions will be given at that time. The conference call will be recorded and simultaneously webcast at investor.uplandsoftware.com, and a replay will be available there for 12 months. By now, everyone should have access to the third quarter 2020 earnings release, which was distributed today at 4 p.m. Eastern Time. If you have not received the release, it's available on Upland's website. I'd now like to turn the call over to Jack McDonald, Chairman and CEO of Upland Software. Please go ahead, sir.

Thank you, and welcome to our Q3 2020 earnings call. I'm joined by Tim Maddox, our President and Chief Operating Officer, Rod Favrone, our President and Chief Commercial Officer, and Mike Hill, our CFO. I'll summarize our results and recent sales, product, and operations highlights. Following that, Mike will provide some insights on the Q3 numbers and our guidance. Then we'll open the call up for Q&A. Before we get started, Mike will read the safe harbor statement. Mike? Thank you, Jack, and good afternoon, everyone. During today's call, we will include statements that are considered forward-looking within the meanings of the securities laws. These statements are subject to risks, assumptions, and uncertainties that could cause our actual results to differ materially. A detailed discussion of these risks and uncertainties are contained in our annual report on Form 10-K as periodically updated in our quarterly reports on Form 10-Q filed with the SEC. The forward-looking statements made today are based on our views and assumptions and on information currently available to Upland Management as of today. We do not intend or undertake any duty to release publicly any updates or additions to any forward-looking statements. On this call, Upland will refer to non-GAAP financial measures that, when used in combination with GAAP results, provide Upland management with additional analytical tools to understand its operations. Upland has provided reconciliations of non-GAAP measures to the most comparable GAAP measures in our press release announcing our third quarter 2020 results, which is available on the investor relations section of our website. Please note that we're unable to reconcile any forward-looking non-GAAP financial measures to their directly comparable GAAP financial measures because the information which is needed to complete a reconciliation is unavailable at this time without unreasonable effort. And with that, I'll turn the call back over to Jack. All right. Thanks, Mike. In the third quarter, we posted record organic growth and free cash flow. And based on strength we're seeing in the business, We also raised our revenue and raised our adjusted EBITDA guidance for Q4 and the full year. So let's go through the numbers. In Q3, we had 35% growth in total revenue. We had 21% adjusted EBITDA growth. Now, our EBITDA growth was lower than than our revenue growth due to our ongoing sales and marketing investments, and also a temporary uptick in CXM messaging costs based on the high election year volumes. Q3 cash flow was 18.5 million. We only had 3.6 million of acquisition expense in the quarter, and we had a little over 3 million of net positive working capital changes. And from this point forward, we're focused on generating material gap operating cash flow and free cash flow even after acquisition expenses, even after we turn the acquisition program back on. We completed in the third quarter a transformational equity raise. And we are now capitalized well enough to be able to grow double digits through a combination of organic growth and acquisitions for a very long time and are no longer dependent on the equity capital markets due to our free cash flow generation. Our Q3 organic growth in reported recurring revenues came in at 14%. Now, this recent acceleration in organic growth is all being driven by that bump in election year CXM usage by political campaigns and other advocacy organizations. And that usage has to date more than offset any COVID-related bookings and churn impact. And we see continued strengths in organic growth as we move into Q4, but we don't view this as any kind of a new normal for organic growth. Some of this election year usage bump will continue in 2021 as political campaign spending shifts to issue advocacy spending. But we can't say exactly how much. So we're going to maintain a conservative organic growth outlook for 2021. And in fact, our strong 2020 results show uh in covet impacts to net revenue retention are going to combine create an organic growth rate headwind in 2021 versus our normal kind of low to single digits organic revenue growth guidance in addition while we're continuing to invest in our sales and marketing initiatives We're not expecting those investments to impact organic growth rates until late 2021 and beyond. And, of course, there could be no guarantees around that impact. On the sales front in Q3, we expanded relationships with 247 existing customers, 37 of which were major expansions. And we also welcomed 108 new customers to Upland in the third quarter, including 34 new major customers. On the product side, we had six major releases and 15 feature packs across our product set. A couple of examples in the project and IT management area, we introduced a new resource request workflow to help users streamline resource allocation requests. resulting in greater utilization and profitability. And in our enterprise sales and marketing area, we added a new key Microsoft integration that enables users to access their request for proposal and proposal library directly from within Word and Excel. On the M&A front, due to the strength in our business, our acquisition program is now turned back on. and we are active in the market for acquisitions. And again, as I referenced a moment ago, we are now self-sustaining for our acquisition program with no need to tap the equity markets. So with that, I'll turn the call over to Mike. Thank you, Jack. I'll cover the financial highlights for the third quarter and our outlook for the fourth quarter and full year 2020. On the income statement, total revenue for the third quarter was $74.2 million, representing growth of 35%. Recurring revenue from subscription and support grew 39% year-over-year to $71 million. Professional services revenue was $2.8 million for the quarter, an 8% year-over-year decline, which was expected due to the COVID-19 travel impacts. Overall gross margin was 66% during the third quarter, and our product gross margin remained strong at 67%, or actually 71% when adding back depreciation amortization, which we refer to as cash gross margins. Operating expenses, excluding acquisition-related expenses, depreciation, amortization, and stock comp were $28.3 million for the third quarter, or 38% of total revenue, all generally as expected. Also, acquisition-related expenses were approximately $3.6 million in the third quarter. And as I mentioned on the last quarter's call, these costs will continue to dramatically decline without further acquisitions, and we anticipate Q4 to be around $1.5 million. Our third quarter 2020 adjusted EBITDA was $25 million, with 34% of total revenue, up 21% compared to $20.7 million, or 38% of revenue for the third quarter of 2019. Adjusted EBITDA margin was lower due to our continuing sales and marketing investments and a temporary increase in cost of revenue from CXM mobile messaging due to high election year volumes. As we look out to 2021, the sales and marketing investment will continue. In a scenario where we do know additional acquisitions, that would result in adjusted EBITDA margins for the full year of 2021 in the low 30%. However, as Jack noted, we are turning acquisitions back on based on the strength of our business. With acquisitions, our target is to be back to the mid-30% adjusted EBITDA margin by Q4 of 2021. For cash flow, for the third quarter of 2020, GAAP operating cash flow was $18.7 million, and free cash flow was $18.5 million. Free cash flow should be over $50 million on a forward 12-month basis before additional acquisitions, and even with additional acquisitions, should be over $30 million and possibly over $40 million, depending upon the size and timing of future acquisitions. On the balance sheet, this ongoing free cash flow generation is in addition to our existing liquidity of $293 million, comprised of approximately $233 million of cash in our balance sheet, and $60 million of our undrawn revolver. With regard to income taxes, I will note that Upland currently has approximately $351 million of total tax NOL carry forwards, and of these, approximately $211 million will be available for utilization prior to expiration. As of September 30, 2020, We had outstanding net debt of approximately $301.6 million after factoring in the $233 million of cash in our balance sheet. I will note that the principal payments on our term debt are 1% per year, or about $5.4 million per year, with the remaining balance maturing in August of 2026. The interest rate on our term debt is locked at 5.4%, making our annual cash interest payments approximately $30 million a year. Additionally, I will point out that our term debt has no financial covenants on current borrowings. And now on to guidance. For the quarter ending December 31, 2020, Upland expects reported total revenue to be between $70 and $74 million, including subscription and support revenue between $67 and $70 million. for growth and recurring revenue of 16% at the midpoint over the quarter ended December 31st, 2019. Fourth quarter 2020 adjusted EBITDA is expected to be between $23.2 and $25.2 million for an adjusted EBITDA margin of 34% at the midpoint, representing a reduction of 3% at the midpoint over the quarter into December 31, 2019. Because as you may recall, we recognized a significantly outsized $3.5 million of perpetual license revenue in Q4 last year, which spiked adjusted EBITDA in that year-ago quarter. For the full year ending December 31, 2020, Upland expects reported total revenue to be between $283.5 and $287.5 million, including subscription and support revenue between $269.6 and $272.6 million for growth and recurring revenue of 33% at the midpoint over the year into December 31, 2019. Full-year 2020 adjusted EBITDA is expected to be between $96.5 and $98.5 million for an adjusted EBITDA margin of 34% at the midpoint, representing growth of 18% at the midpoint over the year ended December 31, 2019. And with that, I'll pass the call back over to Jack. Thanks, Mike. And now we're ready to open the call up for Q&A, and please feel free to direct questions to Mike, Tim, Rod,

We will now begin the question and answer session. To ask a question, you may press star, then 1 on your touchtone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star, then 2. Our first question today comes from Brad Zelnick with Credit Suisse.