SolarWinds Corporation

Good morning, everyone, and welcome to SolarWinds' fourth quarter 2021 earnings call. With me today are Sudhakar Ramakrishna, our president and CEO, and Barkh Kalsu, our executive vice president and CFO. Following prepared remarks, we'll have a brief question and answer session. This call is being simultaneously webcast on our investor relations website at investors.solarwinds.com. On our investor relations website, you can also find our earnings press release in a summary slide deck, which is intended to supplement our prepared remarks during today's call. Please remember that certain statements made during this call are forward-looking statements, including those concerning our financial outlook, the impact of the cyber incident on our business, our market opportunities, the impact of the global economic environment on our business, and the impact of the spinoff of the Enable business. These statements are based on currently available information and assumptions, and we undertake no duty to update this information except as required by law. These statements are also subject to a number of risks and uncertainties, including the numerous risks related to the cyber incident and the completed spinoff of the Enable business. Additional information concerning these statements and the risks and uncertainties associated with them is highlighted in today's earnings press release and in our filings with the SEC. Copies are available from the SEC or on our investor relations website. We completed the spinoff of the Enable business. on July 19, 2021, and accordingly have included the results of the Enable business as discontinued operations for current and historical periods. Therefore, the financial results presented on this call reflect SolarWinds as a standalone business and do not include any contribution from the Enable business. Furthermore, we will discuss various non-GAAP financial measures on today's call. Unless otherwise specified, when we refer to the financial measures, we will be referring to the non-GAAP financial measure. Reconciliation of the differences between GAAP and non-GAAP financial measures discussed on today's call are available in our earnings release and summary slide deck on the investor relations page of our website. We note also that because there was no impact of purchase accounting on revenue in the fourth quarter of 2021, Our GAAP total revenue for the quarter is equivalent to the non-GAAP total revenue measure that we have historically reported. Beginning in the first quarter of 2022, we will no longer adjust our revenue for the impact of purchase accounting. With that, I'll now turn the call over to Sudhakar.

Thank you, Dave. Good morning everyone and thank you for joining us today. I hope you're doing well and staying safe. Once again, I would like to start by thanking our employees, customers, partners, and our shareholders for their ongoing commitment to SolarWinds. It's now a little over a year since I joined SolarWinds. Thanks to the competence, commitment, great attitudes, and resilience of the entire SolarWinds team, we have made significant progress related to our key priorities of customer retention, increasing our focus on subscription revenue growth and evolution to platform-based solutions. The efforts of our team resulted in several highlights in our performance, which I'll go into shortly. As many of you are also aware, we held our annual Analyst Day meeting on November 10, 2021. During this virtual event, we described our portfolio and go-to-market plans for SolarWinds, our expanding market opportunity, which we believe will amount to approximately $60 billion by 2025, and our goal to achieve at least $1 billion in ARR by 2025, with a compounded annual subscription ARR growth north of 30% over that time period, and then building to EBITDA margins in the mid-40s. We believe this combination of top line scale, growth, and strong profitability will put us in a small group of public software companies with a similar financial profile. As I mentioned earlier, we had several highlights in the fourth quarter of 2021. I'll touch on some of the highlights before turning it over to Bart for more color on the fourth quarter, as well as our financial outlook for the first quarter and full year of 2022. The continued relevance of our solutions, the execution abilities of our teams, and the trust that our customers have in us were all on display during the fourth quarter. For the fourth quarter, we delivered revenues of $186.7 million, above the high end of the range we provided of $180 to $184 million. Adjusted EBITDA was $78.4 million, representing an adjusted EBITDA margin of 42%, again exceeding the high end of our outlook for the fourth quarter. Customer retention remained our top priority throughout 2021, and we made great progress towards this goal in Q4. Our trailing 12-month Q4 maintenance renewal rate of 88% was above the low to mid-80% renewal rates we noted we expected in 2021. Based on our customers' loyalty and strong execution of our customer and go-to-market teams, we expect to return to our retention rates to improve in 2022 and approach our historical best-in-class levels in the low 90% range. Our continued focus on driving subscription first resulted in an 18% year-over-year increase in subscription revenues in the fourth quarter, and we believe we are well-positioned to accelerate this level of growth moving forward. For the full year, we delivered $719 million of GAAP revenues, representing flat year-over-year performance relative to 2020 and adjusted EBITDA of $303 million, representing a 42% EBITDA margin, while growing subscription revenue 19% year-over-year on a GAAP basis. We anticipate both our license and subscription revenues to grow in 2022, reflecting a recovery in sales to new and existing customers and further expanding our recurring revenue base. Our focus on delivering simple, powerful, and secure solutions combined with our still very early efforts to build out our system integrator and enterprise go-to-market motions has resulted in continued ASP expansion and an increasing number of large deals. Specifically, our product and platform integrations, combined with simplified packaging and pricing, delivered tremendous value to customers, resulting in multiple million-dollar-plus deals and an increasing number of 100K deals in 2021. Our efforts to transition our customers to our new SolarWinds observability offerings was well received in the second half of 2021. While still very early, both customer adoption and subscription bookings have been very encouraging. Customers are looking to leverage their on-premises deployments while seamlessly connecting to the cloud, and we are providing them with the solution to accomplish their goal while modernizing their deployments and helping them accelerate their digital transformations. This subscription transformation to SolarWinds Observability will become a mainstay beginning in 2022. Our AIOps capabilities are being delivered on the same platform further bolstering our customers' productivity by helping them to manage their deployments more simply, to isolate issues efficiently, and to remediate them quickly. We are unifying our application monitoring solutions to give customers even easier ways to deploy and consume them. Application monitoring will become an integral part of our SolarWinds platform. We believe our database monitoring solutions continue to lead the market with significant depth and breadth across functionality, platform, and deployment support. Our volume of 100k plus deals has continued to grow alongside our SolarWinds velocity motion. We intend to continue working closely with our hyperscaler partners like Azure and AWS to further accelerate our growth. Our service desk solutions are ideally suited for the mid-market, and we are accelerating our integrations, most recently with Microsoft Teams. While we believe the standalone motion will continue to accelerate, our service desk solutions will become integral elements of the SolarWinds platform to support our automation and remediation capabilities. We continue to take our commitment to building a safer and more secure customer environment very seriously. To this end, we are working on all aspects of our Secure by Design initiative, which I detailed in 2021. Our teams recently published a white paper on our next generation build systems that is a result of our efforts to set a new standard in secure software development, to engage with and contribute to open source efforts, and to share what we have learned to help secure software supply chain practices. It is my hope that the entire industry will embrace these practices and together we can enable our customers' digital transformations securely. With that, I will turn it over to Bart to provide more details on our financial performance and outlook.

Thanks, Sudhakar, and thanks again to everyone joining us on today's call. Once again, I will discuss our SolarWinds results on a standalone basis. As most of you know, our spin of the Enable business was effective on July 19th, 2021. Therefore, their results are reflected as discontinued operations in our fourth quarter and full year financial results. Also, a quick reminder that the guidance for the fourth quarter that I provided in October did not include any impact from Enable as the spin had been completed prior to the start of the fourth quarter. In addition, our public filings will present ENABLE as discontinued operations in prior periods for better comparability. At the start of 2021, we determined not to provide full-year guidance given the uncertainty we faced at that time as a result of the cyber incident, the ongoing impact of the COVID-19 pandemic, and the potential timing of the spinoff of our ENABLE business. As we discussed in our Q4 2020 earnings call, while we felt it was too early to predict a range of outcomes with our usual level of precision, we were encouraged by the recent customer engagements and focused on customer retention and maintaining renewal rates above 80%. Reflecting back on the year, despite the significant challenges we faced, we are pleased with our performance and expect to improve upon it in 2022. Although we had indicated that we expected maintenance renewal rates to be in the low to mid 80s, we ended the year with renewal rates at approximately 88% for 2021. We also saw new sales improve as we moved through the year in our commercial business and our fourth quarter financial results reflect another quarter of improving execution. That execution led to another quarter of better than expected financial results, with total revenue ending at $186.7 million, well above the high end of our total revenue outlook of $180 to $184 million. For the fourth quarter of 2021, there was no impact of purchase accounting on revenue, so our GAAP total revenue is equivalent to the non-GAAP total revenue measure we have historically reported. Total license and maintenance revenue was $152 million in the fourth quarter, which is a decrease of 3% from the prior year period. Maintenance revenue was $119 million in the fourth quarter, which is a decrease of 3% from the prior year. As we talked about at our analyst day, our maintenance revenue has been impacted by a combination of year-over-year declines in license sales for the past nine quarters and a reduction in our renewal rates in 2021. The trend of lower license sales intensified with the introduction of subscriptions of our licensed products in the second quarter of 2020, as well as the cyber incident in December of 2020 as well. We focus more of our efforts on longer term customer success and retention. As I mentioned earlier, we are encouraged by the fact that our renewal rates remained higher than our expectation of low to mid 80s that we shared at the start of 2021. On a trailing 12 month basis, our maintenance renewal rate is 88%. Working with our customers has been a top priority this year, and our renewal rates reflect our focus on customers and the trust they place in our solutions and relationships. Also consistent with recent quarters, we want to provide the end quarter renewal rate for the fourth quarter, which currently stands at approximately 87%, but believe it will be 88% by the end of the first quarter, which again is above our expectations at the start of the year. For the fourth quarter, license revenue was $33.8 million, which represents a decline of approximately 2% as compared to the fourth quarter of 2020. Our new license sales performance with commercial customers improved sequentially each quarter during the year. On-premises subscription sales resulted in an approximately 8 percentage point headwind to our license revenue for the quarter. Moving to our subscription revenue, fourth quarter subscription revenue was $34.4 million, up 18% year over year. This increase is due to the additional subscription revenue from Century One products as well as increased sales of our on-premises subscriptions as part of our early efforts to shift more of our business to subscription. Total ARR reached approximately $631 million as of December 31, 2021, reflecting year-over-year growth of 1% and up slightly from our ending third quarter total ARR balance of $624 million. Our subscription ARR of $134.7 million is an increase of more than 20% year-over-year and 3% sequentially from the third quarter. Total GAAP revenue for the full year ended December 31, 2021, with $719 million. Subscription revenue was $125 million of that total and represents growth of 19% year-over-year on a GAAP basis. The growth was led by our continued focus on expanding our subscription offerings through our on-premises subscription sales as well as sales of our database offerings, including the Century One products acquired in the fourth quarter of 2020. Total license and maintenance revenue for the full year in 2021 decreased 3% year-over-year to $594 million. Total maintenance revenue grew 2%, reaching $479 million, License revenue for the full year was negatively impacted by a combination of the 2021 cyber incident and the impact of offering perpetual license products on a subscription basis, which we expect to yield more revenue over the full duration of the typical customer lifetime, but negatively impacts license revenue and total revenue in the near term. We finished 2021 with 829 customers that have spent more than $100,000 with us in the last 12 months, which is a 5% improvement over the previous year. We continue to supplement our traditional high-velocity, low-touch sales approach with targeted efforts to build larger relationships with our enterprise customers, which we spoke about at our analyst day in November. We delivered a solid fourth quarter of non-GAAP profitability. Fourth quarter adjusted EBITDA was $78.4 million, representing an adjusted EBITDA margin of 42%. exceeding the high end of the outlook for the quarter, despite continuing to invest in our business. And for the year ended December 31, 2021, adjusted EBITDA was $303 million, representing an adjusted EBITDA margin of 42% as well. Excluded from adjusted EBITDA in the fourth quarter are one-time costs of approximately $9.3 million of cyber incident-related remediation, containment, investigation, and professional fees, net of insurance proceeds, These one-time costs for the full year of 2021 totaled approximately $33.1 million net of insurance reimbursements. These cyber incident related costs are not included in the Just Diva DAW, are one-time and non-recurring. They are separate and distinct from our secure by design initiatives, which are aimed at enhancing our IT security and supply chain processes. Costs related to our secure by design initiatives are and will remain part of our recurring cost structure on a go-forward basis. We expect one-time cyber incident-related costs to fluctuate in future quarters, but to overall lower in future periods. These one-time cyber costs are, however, difficult to predict. Net leverage on December 31 was approximately 3.9 times our trailing 12-month adjusted EBITDA. As a reminder, we retained the full amount of the $1.9 billion in term debt that we had prior to the spinoff of Enable. Our cash balance was $732 million at the end of the fourth quarter, bringing our net debt to approximately $1.2 billion. Our plan is to keep that cash on our balance sheet for the foreseeable future. We intend to maintain flexibility as it relates to our cash on balance sheet. Our debt matures in February of 2024, and we expect to reevaluate our level of gross debt and possible paydowns well in advance of that maturity date. I will now walk you through our outlook before turning it back over to Siddhartha for some final thoughts. We are providing guidance for the first quarter of 2022 and for the full year of 2022 for total revenue, adjusted EBITDA margins, and earnings per share. For the full year guidance of 2022, we expect total revenue to be in the range of $730 million to $750 million, representing year-over-year growth of 2% to 4%. We expect our total revenue to be positively impacted by increases in our license revenue as well as subscription revenue growth as a result of an increase in new sales in 2022 as compared to 2021. We will lead with a subscription-first focus as it relates to new sales and will also focus on migrating our maintenance customers to our observability products, which are sold as subscriptions. especially in the second half of the year when we expect that more of the functionality will be available. We expect that our total revenue growth will be partially offset by a decline in maintenance revenue due to low-door license sales over the past two years. Adjusted EBITDA margin for the year is expected to be approximately 41%. Non-GAAP fully diluted earnings per share is projected to be $1.01 to $1.08 per share, assuming an estimated 162.6 million fully diluted shares outstanding. Our full year and first quarter guidance assumes a euro to dollar exchange rate of 1.13, down from the 1.16 we assumed for 2022 when we provided our initial 2022 outlook at our analyst date in November. Even so, we are comfortable reaffirming the guidance we gave previously. For the first quarter of 2022, we expect total revenue to be in the range of $173 million to $176 million, representing a year-over-year growth rate of flat to 1%. Once again, we expect license and subscription revenue growth to be partially offset by a decline in maintenance revenue, which we expect to be down approximately 4% to 5% year-over-year. Adjusted EBITDA margin for the first quarter is expected to be approximately 36%. Our historical trend has been that the first quarter of the year is at a lower level of profitability due to several factors, including payroll taxes on year-end bonuses, higher levels of Social Security taxes. In addition, the full impact of our Secure by Design initiatives that we discussed a year ago are now in place. We expect our level of profitability to improve as we move through the year, as has been the case historically. as revenue increases and our investments scale. As stated earlier, our outlook for the full year for adjusted EBITDA margins of approximately 41%. Non-GAAP fully diluted earnings per share is projected to be 22 cents per share, assuming an estimated 160.5 million fully diluted shares outstanding. And finally, our outlook for the first quarter assumes a non gap tax rate of 22%, and we expect to pay approximately $6.5 million in cash taxes during the first quarter. We also expect that maintenance renewal rates will improve and continue to get closer to historical levels in 2022. As we think about our EBITDA margins for 2022, The costs associated with our Secure by Design initiatives, investments in transitioning our product portfolio to a greater subscription mix, and our continued investments in our sales and marketing initiatives are factored into the margins for the year and why we expect margins to be consistent with 2021. We believe we will return to accelerating margins again in the future, but in the near term, we are committed to and excited about the investments in our business that we shared with you at our analyst day in November. Finally, we believe our unlevered free cash flow conversion will improve in 2022 over 2021, and we expect to be in line with our fourth quarter 2021 levels. With that, I will now turn the call back over to Sudhakar for his closing remarks.