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IntraLinks Holdings (NYSE:IL)

Q4 2012 Earnings Call

February 21, 2013 5:00 pm ET

Executives

David Roy

Ronald W. Hovsepian - Chief Executive Officer, President and Director

Derek Irwin - Chief Financial Officer

Analysts

Jeffrey Van Rhee - Craig-Hallum Capital Group LLC, Research Division

Operator

Good day, and welcome to the IntraLinks Fourth Quarter 2012 Earnings Conference Call. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] I would now like to turn the conference over to David Roy, Senior Vice President of Investor Relations. Mr. Roy, the floor is yours, sir.

David Roy

Thank you, operator, and good afternoon. Welcome to IntraLinks Holdings' quarterly financial results conference call for the company's fourth fiscal quarter and year ended December 31, 2012.

With me today are Ron Hovsepian, Intralinks' President and Chief Executive Officer; and Derek Irwin, our Chief Financial Officer.

Some of our discussion today will contain forward-looking statements, which may include projected financial results, direction or operating metrics, business strategies, anticipated future products or services, anticipated market demand or opportunities and other forward-looking topics. These statements are subject to risks, uncertainties and assumptions. Accordingly, actual results could differ materially from these forward-looking statements.

For a listing of the risks that could cause actual results to differ, please see our latest forms 10-K, 10-Q and other reports filed with the SEC, as well as the factors identified in today's press release.

A reconciliation to and rationale for any non-GAAP metrics that may be communicated on this earnings call may be found in the press release and accompanying financial tables that we issued in connection with this earnings call.

The information contained in our quarterly earnings release and the comments and remarks of the representatives of IntraLinks Holdings, Incorporated made during this conference call are integrally related and, as such, are intended to be disseminated and understood together. IntraLinks undertakes no obligation to update or revise this information except as required by federal securities laws.

Today's call is available via telephone and webcast. A telephone replay will be available after the conclusion of this call through February 28, and the webcast will be available on our Investor Relations website. To access the press release, supplemental financial information or the webcast replay, please consult the Investor Relations section of our website.

Following some prepared remarks, we will take your questions.

With that, let me turn the call over to Ron.

Ronald W. Hovsepian

Thank you, Dave, and thanks to everyone for joining us today to review IntraLinks' fourth quarter and full year 2012 performance.

We generated revenue of $57.4 million in the fourth quarter. This was $4.4 million above our guidance and contributed to profitability that was also above our guidance.

The better-than-expected performance was driven primarily by M&A, where we believe the uncertainty around future U.S. tax rates associated with the fiscal cliff negotiations accelerated diligence cycles and generated a push to get deals closed by year end.

Let me update you on our business for the fourth quarter, summarize some of our accomplishments and progress in 2012 and then give you a perspective on our outlook and direction for 2013 and beyond. Then Derek will cover the financial details and provide his comments on the quarter.

Our Q4 M&A deal count was up again year-over-year, though down slightly from Q3. M&A revenue in the fourth quarter also benefited from a record number of deals we signed in Q2 as, in our experience, the M&A process generally extends 6 to 9 months from deal initiation. We continue to gain share in M&A by leveraging our superior VDR platform and through our ongoing program of VDR service enhancements.

We are leaders in the M&A space and believe that our increased investment in product development, sales and marketing are paying off, as evidenced by M&A revenue growth for the quarter of 25%.

Second, our Enterprise revenue was up slightly year-over-year. We continue to see positive signs for our future Enterprise direction, as exemplified by 2 fourth quarter customer wins.

When one of the top 10 worldwide contract research organizations needed to support document distribution in collaboration for 3 major drug trials, they came to IntraLinks. They needed a solution that would support secure information collaboration outside the firewall, combined with advanced capabilities specific to the life sciences industry and the drug discovery process. The IntraLinks platform delivered on all these requirements and, in addition, provided a more efficient, faster and more compliant service to their pharmaceutical clients, frequently with cost savings of up to 90% over alternative approaches.

Another new customer in Q4 is a Latin American medical solutions company that provides outsourced finance and accounting processes to public hospitals throughout Brazil. They needed to improve the capture, organization and maintenance of many types of hospital invoices. And although they had tried a competitor's product, they needed stronger security, faster performance and better Web-based access that IntraLinks provided.

Other key differentiators for IntraLinks were the breadth of our existing platform, our strong service and support and the confidence they had in our product road map.

Now let's review our Debt Capital Markets business line. As anticipated, revenue for DCM was down year-over-year. As I mentioned on prior calls, we are taking steps to enhance and improve our DCM product offering and competitive position, including our announced partnership with Misys. And we will continue to execute towards stabilizing this business line in 2013.

Next I'd like to review key accomplishments in 2012. On prior calls, I outlined the strategy review process we went through as a company. 2012 was a year for us to diagnose the key challenges we needed to address, understand the market opportunities ahead of us and prioritize and plan for driving future company growth. We validated the addressable market opportunity for our M&A solution at over $600 million. In 2012, we accelerated our investments in M&A to further expand our market share and grow revenue, and we will continue to invest in this business. We also defined a broader Enterprise market opportunity that we sized at about $2 billion, and we identified specific market needs for beyond the firewall collaboration.

Our current platform already addresses many of the unmet market needs we identified. And we will deliver the remaining requirements with a new collaboration solution we will bring to market in multiple releases over the next 12 months.

Operationally, we accomplished a great deal in 2012, although there still remains much to do. We redesigned our go-to-market sales model to give our sales teams more focus and greater specialization in each market we serve.

In Enterprise, we also added inside sales: a high-velocity, low-cost sales model that will bring us pilot and departmental customers that can later be grown by our Enterprise sales force. And to support that model, we are investing in demand generation and making it much easier for our customers to access and use our products.

We accelerated our product development process with a new methodology and better alignment of our development organization to get product to market faster.

We also reinvigorated our intellectual property program, filing a number of new patent applications covering more than 400 inventions. We will continue this program in 2013 as the faster pace of product development and inventions results in an expanded intellectual property portfolio.

On the people side, there has been considerable change since I joined the company. We added new leadership in the form of a new CFO, Executive Vice President of Sales and Marketing, Executive Vice President of Business Operations and General Counsel to complement the strong existing executive leadership team heading the other functional areas.

From a financial standpoint, we entered 2012 facing decelerating revenue growth. We stabilized the company by focusing on leveraging our strength in M&A, which grew 9% in a declining deal count market. We took steps to improve our competitive positioning in DCM and stabilized that business. And as a result, cancellations in that business have largely subsided. In the Enterprise, we identified the sizable market opportunity we are now targeting.

I'd now like to review our plans for 2013 and beyond.

We entered the year with a clear strategic direction, a stronger team, a stabilized company and identified opportunities for future growth. Our largest near-term revenue opportunity is in M&A, our current core business. This is where we are best positioned and know how to execute well. As I mentioned earlier, in 2012, we grew M&A revenue 9%, gaining approximately 5 points of market share. We believe we can build upon that momentum by expanding geographically and in new customer segments in 2013. We will continue to stabilize DCM.

Our next revenue growth opportunity is our new Enterprise offering for beyond-the-firewall collaboration. We plan to launch our new Enterprise offering in Q2 and continue our investments in marketing, sales and infrastructure.

Although our guidance for the year reflects modest overall revenue growth and increased investment, we do expect our new Enterprise offering to show evidence of adoption and some revenue impact in the back end of the year. As this materializes and adoption grows, we would expect to reach a longer-term model of 15% to 20% overall revenue growth driven by higher growth rates from our new offerings.

We recognize that we are building a new business model entering this new market and expect to iterate through that process this year. As we observe and demonstrate the impact of these offerings, we will determine appropriate expectations as to the time and slope of our growth potential and also as to the appropriate expectations of profitability. We would not be spending shareholders' capital on the initiatives I have outlined without a firm belief that we can provide an appropriate return on that investment.

Our operational goals for Enterprise in 2013 will be to launch a new brand, deliver a new offering that meets market needs and build a beachhead with a set of anchor accounts as the foundation for accelerated long-term revenue growth.

I'm pleased to say that the first release of our new offering is in beta testing now and will be in general availability in the second quarter. Early feedback is positive, and some of our early beta customers have the potential to become anchor accounts.

To fully capitalize on the opportunity in the Enterprise market, there are several milestones we need to deliver. First, we need to deliver an excellent product that fully meets our customers' expectations and clearly differentiates us in the market. We will have scheduled 3 releases over the next 12 months to ensure that we accomplish this goal.

Next we need to secure 3 to 5 anchor customers committed to broadly deploying our new platform by the end of this year.

Finally, we need to create brand awareness and build an ecosystem for the new offering to have the proper market reach and momentum. Therefore, we plan to execute 2 to 3 strategic partnerships over the next 2 years that we believe will help us accelerate acceptance and drive adoption of our solution. We are fully committed to being successful in this market with our new product offering.

In terms of people, we have the right leadership team in place. Now it is all about execution against our strategy and 2013 plan.

From a financial standpoint, our focus is to build upon the significant progress we made during 2012 in aligning IntraLinks for sustainable, long-term revenue and profitability growth. M&A is our near-term driver as we continue to leverage our market leadership position. DCM is being stabilized as we bring additional capabilities to market this year. Enterprise will be our long-term growth driver once our platform and go-to-market model are fully operationalized.

There remains significant work to be done, but we are confident and committed to executing our strategy. And we look forward to updating you on our progress.

Let me turn the call over to Derek now to provide you with some detail on our financial results and our long-term revenue model. Derek?

Derek Irwin

Thanks, Ron. I'm going to summarize 2012 financial results, first for Q4 and then the full year, our guidance for Q1 and full year 2013 and then our long-term model for revenue growth.

Throughout, I will refer primarily to non-GAAP numbers. A definition of these numbers as well as a reconciliation to the corresponding GAAP results is available as an attachment to our earnings release and on the Investor Relations section of our corporate website.

Revenue for the fourth quarter of 2012 was $57.4 million, above the high end of our $50 million to $53 million guidance and 8% more than our Q4 2011 performance. Our profitability measures for the fourth quarter were also ahead of our expectations, driven by our revenue performance.

As expected, our margins declined year-over-year due to the investments that we were making in the business to position the company for future growth. Overall spending in the quarter came in above our forecast due to higher compensation-related expenses driven by our revenue outperformance and expenses incurred in realigning some of our international sales operations.

Fourth quarter margins were as follows: adjusted gross margin of 77% compares to 80% for the same quarter a year ago; adjusted operating income of $6.2 million and 11% margin compares to $11.5 million, a 22% margin in the same quarter a year ago; adjusted EBITDA of $11.2 million, a 20% margin, compares to $16.1 million, a 30% margin in the same quarter a year ago; and adjusted net income of $3.2 million, or $0.06 per share, compares to $5.7 million, or $0.11 per share, for the same quarter last year.

Looking at our fourth quarter revenue performance by business line. M&A revenue of $26.2 million increased 25% compared to $20.9 million in Q4 of last year. This growth was driven by increased deal count and market share gains. We believe that the increase in Q4 revenue from M&A was helped by the acceleration of deal closings Ron talked about earlier. For Q4, M&A comprised 46% of our total revenue.

Enterprise revenue was $24.2 million, up 3% compared to $23.5 million in Q4 of last year. The increase was primarily driven by up-sells to existing customers. For Q4, Enterprise comprised 42% of our total revenues.

Lastly, DCM revenue was down 18% to $7 million from $8.5 million in Q4 of 2011 due to the cumulative impact of prior cancellations. For Q4, DCM was 12% of our total revenue.

We generated $14 million in cash from operations for the quarter compared to $19.6 million for the same quarter last year. The difference in cash flow reflects the change in net working capital primarily due to shifts in accounts receivable and accounts payable balances. Free cash flow for the quarter was $9.5 million compared to $14.7 million for Q4 2011.

DSO for the quarter was 60 compared to 68 for the same quarter last year. We believe that with our continued focus, this key metric will continue to improve.

Cash and short-term investments decreased to $75.3 million at the end of the quarter compared to $82.8 million at the end of the prior year.

Revenue for full year 2012 was $216.7 million, up 1% over 2011 revenue of $213.5 million. Year-over-year revenue growth of 9% in M&A was partially offset by a 12% decline in our Debt Capital Markets business, while Enterprise revenue was essentially flat.

Non-GAAP operating income for the year was $18.8 million, or 9% of revenue, compared with $46.3 million or 22% of revenue in 2011.

Adjusted EBITDA was $37.3 million, or 17% of revenue, versus $66.3 million or 31% of revenue in the prior year period. The decrease in profitability year-over-year was due primarily to investments made in product development, sales and marketing and customer service to support our long-term operating model.

Let me preface Q1 guidance with a comment on backlog. Our 12-month revenue backlog, billed and unbilled, at the end of Q4 was $70.9 million, down 4% from $73.7 million last year. This was due substantially to a decline in DCM backlog, a slight decline in Enterprise backlog, partially offset by an increase in M&A backlog.

Regarding the first quarter of 2013, we are providing the following guidance: we are expecting revenue in the range of $50 million to $53 million, we are expecting operating income to be in the range of $1 million to $3 million, we anticipate adjusted EBITDA in the range of $6 million to $8 million and earnings per share is expected to be in the range of 0 to $0.02.

For the full year 2013, we are providing the following guidance: we are expecting revenue in the range of $214 million to $224 million, we're expecting operating income to be in the range of $13 million to $17 million, we anticipate adjusted EBITDA in the range of $33 million to $37 million and earnings per share is expected to be in the range of $0.10 to $0.14.

Our guidance reflects the impact of DCM cancellations as well as some churn in Enterprise from 2012. As the DCM contracts were primarily annual in nature, these cancellations are still working their way through the financial results. Together, these amount to approximately $10 million that we have to make up.

Our profitability levels in Q1 in 2013 reflect the increasing level of investment that we are making in our new product, which is a key component in our long-term revenue growth expectations.

After we completed our 2013 budget process and evaluated our business thoroughly, we then focused our attention on building a long-term revenue model. Our guiding principle in developing this model was growth and ensuring that we have a disciplined approach for investing to capture it.

We are addressing DCM product issues and are taking steps to improve functionality, stabilize that business and restore our market leadership position. We have a dedicated focus on the M&A business and plan to continue to gain market share.

We have identified a $2 billion market opportunity meeting the unmet needs of the Enterprise for beyond-the-firewall collaboration. We believe we have identified those market needs. We have plotted our product road map to meet those needs and are making the fundamental operational and organizational changes necessary to capture that opportunity.

We are targeting a 15% to 20% long-term growth rate driven by higher growth from our new beyond-the-firewall collaboration product offering. The timing for achieving this growth and the associated revenue and profitability will be clearer as the year unfolds.

We are committed to achieving a long-term revenue growth rate and will continue to evaluate the expense structure to ensure that we properly position our new Enterprise product for growth.

Let me be clear, though. We do believe that our guidance for full year 2013 represents a low point for our profitability profile.

There are many positive changes in our company pursuant to the operational initiatives we have underway, and I am excited about the direction that the company is heading.

With that, we would be happy to take any questions you might have. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] And the first question we have comes from Jeff Van Rhee of Craig-Hallum.

Jeffrey Van Rhee - Craig-Hallum Capital Group LLC, Research Division

So maybe, just, Ron, if you could, on the Enterprise side. You talked about the size of the market opportunity. Are you willing at this point to talk a little more about what that competitive landscape looks like or how it varies from where we are now? And along those lines, maybe just some commentary on how you envision the ASPs on the Enterprise sales and metrics you might give us to track your progress whether it's -- certainly, we'll see the revenues, but maybe bookings, backlog, things like that, along the way.

Ronald W. Hovsepian

Yes, in terms of the competitive landscape, as we studied the market, well, again, what we did that was very different, was we focused on the actual unmet needs of 4 market segments and how those needs were shifting. And the conclusion was there was a shift to address a set of needs for beyond-the-firewall collaboration, not just file sharing but collaboration. And those needs broke into 6 different categories that we built in, and we're thinking through on the milestones of how we're going to address those. So when I think of the competition in the market, I think it's going to come from several of those 4 segments that made up that market. So one of the segments is the enterprise content management, the DCM players. You could have them reaching out beyond their environments to try to find different ways to collaborate. I think you'll have them come from some of the GRC players, the governance, risk & compliance players, some of the file transfer players, and then a raft of them from the team and social collaboration market. Those 4 market segments are where I anticipate the different types of competition coming from. The reason why I break them into those categories is very straightforward. If all you want to talk about is file sharing, you have a number of competitors in that particular space. But they're focused on replacing architectures of technology inside the firewall as well as beyond the firewall, and that's not what our core strategy is. So I think you're going to have different edges of it. You're going to have a lot of noise in the market around that. But from a competitive standpoint, those are the different addressable markets that I see inside of where we're focused. Again, to reemphasize, the $2 billion that we focused on is a spend shift occurring there where customers clearly indicated from the 652 that we surveyed that they were going to be spending money in the next 18 months, approximately 30% of them, to roll out a solution broadly across their organization, meaning 50% or more of their employees. From a milestone perspective, I shared 3 things with you that I think are important to measure our progress for this year. The first one is we need to make sure we deliver the right product. As I shared with you, our platform has great levels of content management for beyond the firewall, permissioning and control of that permissioning for beyond the firewall. And most importantly, we have the ability to handle workflow or work streams, as we refer to them, again in the spirit of sharing beyond the firewall -- for beyond-the-firewall collaboration. To that end, one of the key metrics for us is delivering our product. And our platform addressed about 70% of that environment as it is today, and the next 3 releases are focused on meeting those unmet needs in the market that we identified through the primary research. I've committed to make those 3 releases in the next 12 months, and that will be one of the tracking points that you should measure us against. The next tracking point from a key milestone from my perspective will be around how we build out the customers with that product. And here, we said we want to get 3 to 5 large anchor customers up and going with that technology by the end of the year. The third key milestone is then building the brand awareness and the ecosystem in support of the market. And here, what we see is very clearly, we want to get 2 to 3 strategic partners assisting us in the brand development as well as -- and potentially the ecosystem to help us distribute that product over the next 2 years. Those are 3 areas of key milestones that we'll report back to you on our progress as we deliver against those. Yes, from a pure metrics perspective, which was the second half of that question, we're going to hold back on that until we mature the business and see where it is. We're iterating through 3 dimensions: the business model, the go-to-market model of that. And until we get that mature, it's premature for us to call out what those pieces look like and what would be the right leading indicators. But you're looking at the right buckets that we'll be looking at internally, which will be how we build up that backlog. And as we go into next year, that will be a critical thing we'll be studying internally. But until we develop that further from a definable, repeatable capability there, we're going to hold off on that.

Jeffrey Van Rhee - Craig-Hallum Capital Group LLC, Research Division

And just last one for you then. The sales infrastructure, can you talk about where you are now headcount-wise? And any further revisions, changes? Or do you feel like the sales structure is where it needs to be and we're waiting for product?

Ronald W. Hovsepian

Yes, great question. Look, I'd like to answer in 2 pieces to you. From a sales structure perspective, we very consciously, over the past year, focused the company on understanding our 2 markets, our core business of strategic transactions. And in that part of the company, I feel very confident that we've got the sales model appropriately aligned, we've got the resources executing against that. And in a down market last year, we grew 9%. So I'm very excited about what we can continue to do inside of that business. And that specialization and alignment over that core business, I think, is in very, very good shape. From a Enterprise perspective, here we're specialized as well, and here we're aligning the pieces. We've put in a high-velocity sales model. That's in place. It's been in place for about 5 months working out the kinks. We'll refine that as we get the product into market. Two, we've got the Enterprise direct selling piece in place. Again, we'll refine that. The third part is getting the Web services selling piece of it -- excuse me, the Web selling pieces of it in place, and that part we're working through. So in general, I feel we're at the right starting point with the sales engine work to be done and iterate through with the product. And we'll get stronger as the year goes on in that as we iterate. But in general, the pieces are on the table here for us to get going. And then we have enough to get guys going to validate the market, validate our offerings with those customers and get ourselves up and going so we get the right momentum by the end of the year.

Operator

[Operator Instructions] It appears that we have no further questions at this time. I would like to hand the conference back over to management for any closing remarks. Gentlemen?

Ronald W. Hovsepian

Thank you, operator. So from a summarization perspective, I feel very good that we're in the right position with the company in terms of our transition and what we've done in reestablishing the stability of the core business and growing that core business. So the company is stable. We're in good shape. I look forward to our ability to update you on the progress that we make in the market, what we're growing in the market around Enterprise and the growth initiatives and the impact of the launch of our new product as we bring that to market in 2013.

So with that, operator, I'll wrap up the call and thank everyone for their participation.

Operator

And we thank you, sir, and to the rest of management, for your time. The conference has now concluded. We thank you all for attending today's presentation. At this time, you may disconnect your lines. Thank you, and take care, everyone.

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