SolarWinds Corporation

Thank you for standing by. My name is Alex, and I will be your conference operator today. At this time, I would like to welcome everyone to the SolarWinds 2024 second quarter earnings call. All lines have been placed on mute to prevent any background noise. After the speakers remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star followed by the number one on your telephone keypad. If you would like to withdraw your question, press star one again. I would now like to turn the call over to Team Karaca, group vice president finance. Please go ahead.

Thank you. Good morning everyone, and welcome to the SolarWinds second quarter 2024 earnings call. With me today are Sudhakar Ramakrishna, our president and CEO, and Bart Kaltsu, our CFO. Following our prepared remarks, we will have a question and answer session. This call is being simultaneously webcast on our investor relations website at .solarwinds.com. You can also find our earnings press release and the 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, our market opportunities, our expectations regarding customer retention, our continued evolution to a subscription first mentality, and the timing of phases of such evolution, our expectations regarding our partner ecosystem, the CC enforcement action, the impact of the global economic and geopolitical environment on our business, and our gross level of debt. 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 subject to a number of risks and uncertainties, including the numerous risks and uncertainties highlighted in today's earnings release and our filings with the SEC. Copies are available from the SEC on our investor relations website. We will discuss various nine gap financial measures on today's call. Unless otherwise specified when we refer to financial measures, we will be referring to nine gap financial measures. A reconciliation of the differences between gap and nine gap financial measures, and the definition of our other financial metrics discussed on today's call are available in our earnings press release and summary slide deck on our investor relations page of our website. Finally, we note that the financial results discussed on today's call and in our earnings release are preliminary and pending final review by us and our external auditors, and will only be final once we file our quarterly report on form thank you. With that, I will now turn the call over to Sudhakar. Thank you, Tim,

and good morning, everyone. Thank you for joining us today. As always, I'd like to thank our employees, customers, partners, and shareholders for their ongoing commitment to SolarWinds. I'm pleased to report that we delivered another strong quarter, once again exceeding our guidance across our key metrics and building on the momentum we have experienced in the last several quarters. I believe our team's continued focus on customer success and execution has positioned us well for a strong second half of 2024. We believe our performance in a challenging software spending environment demonstrates the compelling value we deliver to customers and the resiliency of our business model. Now, turning to business highlights from this quarter. First, our subscription first strategy continued to bear fruit, and we are experiencing strong subscription revenue and ARR growth. Second, our customer retention metrics remained robust, highlighting the compelling value proposition of our platform. Third, we saw increasing adoption of and traction for our observability solution. And fourth, we continued with our ongoing product innovation driven by our focus to improve productivity, reduce complexity, and improve cost effectiveness for our customers. I will now touch on some of these before turning the call over to Bart for more color on the quarter and our financial outlook for the remainder of the year. In Q2 2024, we delivered total revenue of $193 million above the high end of the guidance range we provided and representing year over year growth of 4%. We continue to see success with our subscription first strategy and delivered year over year subscription revenue growth of 31% and subscription ARR growth of 36% in the second quarter. Our second quarter in quarter maintenance renewal rate was 97% and our trailing 12 month maintenance renewal rate was 97% consistent with last quarter and up from 94% in the same quarter of the prior year. We delivered second quarter total ARR growth of 7% year over year, passing the 700 million mark in total ARR. We exceeded $100 million in total ARR for our hybrid cloud observability solution, a significant milestone that is the result of the ongoing conversion of our maintenance base as well as the acquisition of new customers. As I shared last quarter, we believe that tools consolidation, cloud modernization and simplicity are the key driving factors and represent significant incremental future opportunity for us. We recorded double digit adjusted EBITDA growth of 17% year over year and another quarter of achieving the rule of 50. And finally, in July, we refinanced and extended our debt with another 50 basis point of rate reduction, which Bart will highlight further. Turning to our product portfolio, we continue to believe that our multifaceted solutions deliver the best time to value, time to detect and time to remediate issues across on premises, cloud and hybrid environments. We believe that our observability, database performance and service management offerings are the most comprehensive in the industry and help customers reduce costs while enabling them to accelerate their business transformation. I will now provide some product and solution updates that are aimed at the diverse and changing needs of our customers. We continue to enhance device and node support in our HCO solutions, giving us the opportunity to expand our footprint in customers environments and to help them consolidate their tools further. We enhance our support for Azure and AWS clouds and strive to continue to eliminate visibility gaps for our customers while improving their productivity and reducing their costs. Hybrid observability is a cornerstone of our observability solution. We enhanced the database performance analyzer, helping enterprises maximize performance and migration of their Postgres SQL databases across on premises and cloud environments. We continue to further simplify the packaging of our database solutions to give customers the opportunity to experience the full breadth of our solutions. We believe we can expand our business further with these modifications. And we launched our free ITSM maturity model, a purpose-built and free tool for enterprises to evaluate and assess their existing ITSM practices. This tool also provides a roadmap for improving operational excellence and service delivery while reducing costs. I have previously described how our AI ops is leveraged to reduce alert fatigue and determine root cause analysis to further reduce mean time to detect and remediate issues and how we are developing tools that in the future will allow us to implement predictive analytics into our observability solution. I'll now touch on AI extensions in our service desk solution that we announced in May, as well as highlight our AI by design principles that will form a framework guiding our efforts across our portfolio. The ITSM extensions are designed to transform IT operations by improving workflows, accelerating remediation processes from days or hours to minutes using LLMs and our own proprietary algorithms, our Solowence AI is designed to allow a service desk assistant to instantly summarize ticket histories, suggest agent responses and create real-time recommended steps for resolving issues. With the ever evolving nature of artificial intelligence, we knew it was essential that this and all future AI tools we build are carefully architected with security in mind. That is why we introduced our new AI by design principles and extension of the secure by design principles that have guided our approach to security since 2021. These principles, which are privacy and security, accountability and fairness, transparency and trust, simplicity and accessibility are an evolving framework to help customers establish a lasting relationship with AI built on security and productivity. Like secure by design, we believe our AI by design principles should guide our industry as we enter and navigate the future of artificial intelligence. As we pass the halfway point of the year, we are on track to deliver on our 2024 priorities we provided earlier this year. First, extending our SolarWinds platform and delivering effective solutions built to help customers achieve hybrid visibility and to manage their hybrid and multi-cloud environments. Second, investing selectively while continuing to exercise expense discipline and expanding profitability. Third, focusing on subscription and ARR growth, customer success and retention, growing profitability and cashflow and creating more value for our shareholders. I'm pleased with our execution against these priorities. Our strong foundation is a result of transformation efforts made across all aspects of our business and I believe that we are set up for continued success in the second half of the year. Before I turn the call over to Bart, I want to acknowledge that this is Bart's last SolarWinds earnings call. As we announced in June, Bart will be moving on to pursue the next chapter in his career later this month. Bart has been my partner from the day I joined in this transformational journey. On behalf of all SolarWinds Bart, I express my heartfelt gratitude to you for your many contributions. I wish you great health and much success in your future endeavors. I want to welcome Louis Black, who is joining us this month as our Chief Financial Officer. With over 25 years of experience in finance and operating roles, Louis's experience in transforming technology companies will be crucial for our next phase of growth. Louis is with me in the room today and looking forward to engaging closely with all of you going forward. With that, I will now turn it over to Bart to expand on our financial performance and provide our third quarter and full year 2024 outlook. Bart.

Thanks, Dr. It has been a privilege to be a part of SolarWinds over the past 17 years. And we are in great hands with Louis taking over as the CFO. We had another strong quarter and the second quarter was a continuation of the momentum from the first. We remain confident in our business and financial goals for the remainder of 2024. Despite what continues to be a challenging IT spending environment, we continue to see strong growth in the mix of predictable recurring revenue and have delivered sustained ARR growth. Turning to the numbers, we finished the second quarter with total revenue of $193.3 million, a 4% increase compared to the prior year and above the high end of the outlook for total revenue of $191 million that we provided last quarter. We ended the second quarter with total ARR of $705 million, up 7% year over year. Our subscription ARR at the end of the second quarter was $270 million, an increase of 36% year over year. This growth continues to be driven by our execution of our subscription first strategy. We had 1,042 customers with over $100,000 of total ARR representing 16% growth over the prior year. Digging into the revenue details, our second quarter subscription revenue was $70 million, up 31% year over year. The increase in subscription revenue continues to reflect the success of our subscription first strategy, which includes converting a portion of our maintenance base to our subscription products. Maintenance revenue was $110 million in the second quarter, down 5% compared to the prior year. Such decline was expected as we continued to convert existing customers to our hybrid cloud observability product. Our maintenance renewal rate is at 97% on a trailing 12-month basis, and was 97% for the second quarter. To remind you, as we convert maintenance customers to subscriptions, we exclude those customers from this renewal rate calculation. As a result of the subscription revenue growth and strong maintenance renewal rates, we now have 93% of our total revenue as recurring revenue. For the second quarter, license revenue was $13 million, down 17%, from 16 million in the second quarter of 2023. As a reminder, our subscription first focus has affected and will continue to affect our license sales performance. Our focus on operating discipline continues to drive strong results, and we delivered another quarter of strong non-GAAP profitability. Second quarter adjusted EBITDA was $92.5 million, growing 17% year over year. Representing an adjusted EBITDA margin of 48%, and coming in $4.5 million above the high end of the $88 million outlook we gave for the second quarter. Turning to our balance sheet, our net leverage ratio at June 30th was approximately three times our trailing 12-month adjusted EBITDA. This compares to 2.7 times at the end of the first quarter. The increase is due to the special dividend of $168 million that was declared in the first quarter and paid in April. In July of 2024, we again refinanced our term loan, decreasing the interest rate by 50 basis points, from SOFR plus 325 to SOFR plus 275. In addition, we extended the maturity to February 2030, which we believe showcases the stability and recurring nature of our business. We will continue to attempt to take advantage of the interest rate environment and look for opportunities to further reduce our variable interest rate as we move forward. We continue to generate strong cash flow with $73.4 million in cash flow from operations in the six months ended June 30th. Our cash and cash equivalence and short-term investment balance at quarter end was $169.6 million. Our non-GAAP diluted earnings per share were 26 cents above the guidance range of 21 to 23 cents per share. Most of this beat is driven by our improved profitability. I'll now walk you through our outlook before turning it over to Sadakar for final thoughts. I will start with our third quarter guidance and then discuss our updated outlook for the full year. For the third quarter, we expect total revenue to be in the range of $191 to $196 million, representing 2% growth at the midpoint. Adjusted EVA DA for the third quarter is expected to be approximately $90 to $93 million, representing 8% growth at the midpoint. Non-GAAP fully diluted earnings per share are projected to be 24 to 26 cents per share, assuming an estimated 173.6 million fully diluted shares outstanding. And finally, our outlook for the third quarter assumes a non-GAAP tax rate of 26%, and we expect to pay approximately $8 million in cash taxes during the quarter. For the full year, we are raising the revenue guidance and expect total revenue to be in the range of $778 to $788 million, representing 3% -over-year growth at the midpoint. We are also raising our adjusted EVA DA for the year, which is now expected to be approximately $368 to $375 million, representing 13% -over-year growth at the midpoint. Non-GAAP fully diluted earnings per share are projected to be $1.04 to $1.08 per share, assuming an estimated 173.8 million fully diluted shares outstanding. Our full year and third quarter guidance assumes a euro to dollar exchange rate of 106 to one. With that, I'll return the call to Sudhakar for his closing remarks.

Thank you, Bart. I'm very excited about our progress in the second quarter, evidenced by another strong performance on both revenue and adjusted EBITDA. We pride ourselves on delivering against our objectives, and our team's execution focus continued to yield results. The Care by Design is the first major initiative I started a few days after I joined the company in January, 2021. Our focus on continuous improvement, transparency, and public-private partnership has been unwavering. Against this backdrop, it is very gratifying for us that Judge Engelmeyer largely agreed with our motion to dismiss the SEC's claims in his order on Thursday, July 18th. As we said in our public statement on the order, we look forward to the next stage where we will have the opportunity to present our evidence and to demonstrate why the remaining claim is factually inaccurate. In the meantime, we continue to focus on our mission to help customers accelerate their business transformations in multi-cloud environments and remain grateful for the support we have received from so many. Customers are constantly adapting to the rapid growth and innovation in our world, and we believe that our purpose of enriching their lives makes us uniquely qualified to serve them. In a world where budgets are constrained and complexity continues to grow, our solutions empower customers in all stages of their cloud transformation to achieve hybrid visibility and to cost-effectively manage their assets. I'm as confident as ever in our ability to adapt to evolving customer needs and to continue to deliver compelling value. Our continued focus on customer success has not only helped us beat our stated financial goals, but also increase our revenue and adjusted EBITDA outlook for the year. I'm extremely proud of our team's efforts to deliver customer success, and again thank our employees, partners, customers, and shareholders for their commitment to Solimit. Bart and I are now happy to address your questions.

Thank you. We will now begin the question and answer session. If you have dialed in and would like to ask a question, please press star one on your telephone keypad to raise your hand and join the queue. If you would like to withdraw your question, simply press star one again. If you are called upon to ask your question and are listening via loudspeaker on your device, please pick up your handset and ensure that your phone is not on mute when asking your question. Again, press star one to join the queue, and your first question comes from the line of Pinchali Mbora with JP Morgan. Please go ahead.

Oh great, hey guys, thank you for taking the questions and congrats on a good quarter. Want to ask you about the macro environment overall. During the quarter, it seems like there's a lot of conflicting kind of signals that we're getting. But what did you see during the quarter? How was the linearity in the quarter? And maybe talk about the pipeline going into Q3 in the second half.

Inderlam, thanks for the question. Hope you're doing well. From our vantage point, there has not been any meaningful difference in macro from let's say Q1 to Q2, or in the first half of this year. As in either significant positive progress or any material deterioration. The value prop that our solutions continue to drive for our customers, that being improved tool consolidation, delivering hybrid visibility and helping their transition to cloud or fast at the pace at which they dictate. Giving them future proof road maps with extensions via AI by design that I described. They're all resonating. And as you know, we have a very large and very diversified customer base as well. And that's come in very, very handy for us.

In

terms of pipeline, I would say that we continue to focus on our pipeline generation activities. We are extending our partnerships. I'm sure you are familiar with our Transform Partner Program. And we've been enlisting additional partners that help us extend our customer reach while continuing to be focused on our expense discipline methodologies.

Yeah, understood. One question on the AI by design philosophy that you have. Are we going to see most of these AI capabilities, including the one in the service desk in cloud? And do we expect that to be a motivation to kind of accelerate migration towards cloud for some of the customers? And maybe a second part to that is, how are you monetizing the service desk AI product?

Absolutely. First thing, pendulum I'll highlight is, AI is not restricted only to our service desk product. We had introduced AIOps concepts into our observability platform in the context of alert stacking, productivity improvement, time to remediate efficiencies and so on. And so that set of principles will permeate through the portfolio. Now, with regards to the service management product, the AI capabilities will be in one of our premier tier products, which has a higher ASP. And we are already seeing some initial traction around that. As to motivation for customers to move to the cloud, the way I look at it is, our customers already have a choice today of deploying in the cloud. But even the customers that deploy it in a self-hosted configuration can leverage our AI capabilities by essentially connecting to the cloud. So in other words, their entire deployment need not be in the cloud, but just the AI extensions can be. And so that's the flexibility that we offer our customers.

Understood, thank you so much.

Your next question comes from the line of Schultz. Patrick, please go ahead.

Hey guys, yeah, thanks for taking my question. Maybe first to the Docker, just growth in the large customers over 100,000 ARR has been very consistent the past several quarters. How big of a driver is the hybrid cloud observability solution for this cohort? And what does adoption look like here?

I think that's the last part of your question.

With the larger customer cohort, just how big of a driver is the hybrid cloud observability solution? And what does the adoption look like?

Got it. First, it is a significant driver for not just that cohort, but across the board. For the primary reasons that I have been highlighting, which is we give the most elegant tools consolidation story for our customers. We give the most elegant hybrid visibility story for our customers where they can start in a self-hosted fashion and extend into the cloud. And of course, the simplicity of packaging and pricing is extremely appealing to our customers across the board. It does apply more broadly to the larger enterprise customers or larger customers in general, because they tend to have more tools. They tend to be a bit more fragmented. And therefore in this environment, it's a lot more compelling if we can consolidate their tools.

Okay, very helpful. And then Bart, maybe one for you. I guess first, congrats on a successful tenure over SolarWinds and best of luck with your next venture. We're gonna miss working with you, but looking at the guidance for the Q3 particularly, guidance is just 2% for next quarter after the first half of the year grew 4%. And you'd mentioned that there's been very little change in the macro backdrop. So can you just help bridge that delta there?

Yeah, what I'd say is it's very consistent with the way we've guided for the first half of the year. We try to keep guidance somewhat in line with what our performance is. We try to be prudent when we provide guidance and we wanna give numbers that we feel confident that we can hit.

Okay, helpful, thank you guys.

That concludes our Q&A session. I will now turn the conference back over to Mr. Sudhakar for closing remarks.

Yeah, there are a couple actually wireless callers. We couldn't get the name. So hands up, can we check?

I see a number with 404-276 as the next question. Can you guys hear me?

Yes, who is this? Sorry, we couldn't see the name.

Hey, this is Miller, yeah, thank you. This is Miller Jump with Truist Securities. Please go ahead. Thank you for taking my question, thank you. So yeah, thank you for taking my question and I'd like to thank you for the work you've done with SolarWinds and on the next step in your career. So thank you for taking my question. This question for either of you, EBITDA margins have been remarkably strong. You obviously recently restructured the debt. So I'm just curious, do you all see any opportunities from here to increase investment to maybe drive growth in either the -to-market or product sides of the business right now?

Yeah, we continue to evaluate our investment opportunities and our focus is on balancing growth and profitability. As I've described in the past several times, in fact, our goal is to consistently deliver mid-40s EBITDA margins and we are, as you highlighted, meaningfully about that. So as we look at the second half and also into 2025, we continually focus on how do we accelerate our roadmap? How do we get better efficiencies while scaling our -to-market as well? So short answer to your question is yes, but this will be weighted against growth prospects, macro conditions, efficiencies and sustainability.

Got it, that makes sense. And maybe just one more, the subscription ARR, sustaining its momentum against sequentially tougher comps now. Just curious if there's anything from the -to-market side that you're seeing or that you've changed there that you think is driving this uptick in momentum we're seeing this year?

It's a continued focus on the execution of our strategy that we outlined in 2021, which is the subscription first motion. But as I've always described it, it's not just a business model transition, it's a value model transition for us. So our products are delivering better value, our observability solutions, database solutions, service management solutions continue to be extended to provide better value to customers. And it happens that when they procure it, they procure it in a subscription arrangement. And that's what's driving the growth.

Appreciate the thoughts,

thanks. This question comes from the line on 626 with 510-3317. With Morgan Stanley, please go ahead.

Hi, this is Oscar Saavedra from Morgan Stanley on First Sangit Singh. Thank you for taking my question. So my question is around maybe some color on guidance, we've seen others in software actually cutting guidance. So maybe what sort of gives you that confidence to actually race it? And maybe to what extent is that a result of maybe seeing stronger than, or like a more robust, maybe an improvement in the pace of maintenance to subscription migration?

Thank you. Yeah, good question. We've outperformed for the first half of the year as far as the guidance that we gave. And there's really nothing in what we're seeing in macro environment, as well as our own internal demand that makes us see things any differently. So it gives us the confidence to go ahead and race for the back half of the year. The good thing for us is a big piece of our bookings comes from existing customers. And like the doctor talked about, our customers see the value in our products, and they see the value in the transformation to both our hybrid cloud observability as well as our SaaS products.

Oscar, would you have a question?

Yes, yes. I guess the second part of it was, to what extent maybe are you seeing an increase in the pace of those migrations, or is it still going at the same pace that it historically has?

For the most part, we have been achieving our plans and expanding our market opportunities. So in terms of accelerating, the approach that we have taken has enabled our partners worldwide now. So the way to think about our conversions is, we started first in North America, then we expanded into EMEA, and now onto APJ. So it's more breadth of conversion across all our regions, and we've seen consistent results across geographies. And as more partners and more of our sales teams make that the primary motion, we expect to see this momentum.

Got it, thank you very much. Thanks, Oscar.

All right, so for the next question, I believe we have Mr. Sanjit Singh with Morgan Stanley. Please go ahead.

Yes, hi, this is Sanjit. Sorry, I was just toggling between multiple calls this morning. To follow up on Oscar's question, Bart, when I look at the subscription ARR performance and the total ARR performance, the growth rate sustained, I think it was like 36% subscription ARR, total ARR growing 7%, two quarters in a row, so it seems like sustained growth there. When I look at the subscription revenue, it seems like it's sort of flatlining in sort of the 69 to 70 million range. It had been really picking up in terms of like dollars quarter over quarter in the multiple quarters prior to that. Do you help me understand like, why subscription revenue sort of flattish in the context of what are clearly great subscription ARR and total ARR growths?

A total ARR growth. Yeah, good question, Sanjit. The reality is, our subscription revenue, it comes from a number of different bookings types. So our HCO product is an on-premise subscription. So it has a little bit different RevRec than your SaaS products. And so we talk a lot about us putting our maintenance customers over to subscription. So there's some variability in the RevRec related to that particular product. And so, what you're seeing there is Q1, for example, we have our biggest HCO customer subscription customer, and it results in a little bit of a pop in Q1. So we have to overcome that in the second quarter. What we expect to see is some increase in subscription revenue in the back half of the year. And then we'll just continue to build on that momentum. Understood, thank you very much. Yeah, good question Sanjit too, as far as that's why we talk a lot more about subscription ARR, because we think that's the better indicator of the health of the business.

Understood, thank you.

Thank you. That concludes our Q&A session. I will now turn the conference back over to Mr. Sudhakar for closing remarks.

Thank you again for joining us today, and thank you again for your support to SolarWinds, and appreciate all our customers, partners, and shareholders.

Ladies and gentlemen, that concludes today's call. Thank you all for joining, you may now disconnect.