Rimini Street, Inc. (NASDAQ:RMNI) Q3 2019 Earnings Conference Call November 7, 2019 5:00 PM ET
Dean Pohl - Director, Investor Relations
Seth Ravin - Chief Executive Officer
Tom Sabol - Chief Financial Officer
Conference Call Participants
Derrick Wood - Cowen
Drew Foster - Citigroup
Ladies and gentlemen, thank you for standing by and welcome to the Rimini Street's Third Quarter 2019 Earnings Conference Call. At this time, all participants’ lines are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today's conference is being recorded. [Operator Instructions]
I would now like to hand the conference over to your speaker today, Dean Pohl. Thank you. Please go ahead, sir.
Thank you, operator. I'd like to welcome everyone to Rimini Street's third quarter 2019 earnings conference call. On the call with me today is Seth Ravin, our CEO; and Tom Sabol, our CFO.
Today we issued our third quarter 2019 earnings press release, which can be found on our website. A reconciliation of GAAP to non-GAAP financial measures has been provided in the table following the financial statements in this press release. An explanation of these measures and why we believe they are meaningful is also included in the press release under the heading About Non-GAAP Financial Measures and Certain Key Metrics. A copy of the press release and financial tables, including the GAAP to non-GAAP reconciliation and other supplemental financial information can be viewed and downloaded from the Investor Relations section of our website under Investor Events.
As a reminder, today's discussion will include forward-looking statements that reflect our current outlook. These forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from statements made today. We encourage you to review our most recent SEC filings, including our Form 10-Q for the third quarter of 2019, which was filed today for a discussion of risks that may affect our results or stock price. Before taking questions, we'll begin with prepared remarks.
With that, I'd like to turn the call over to Seth.
Thank you, Dean, and thank you everyone for joining us today. In the third quarter, we continued to see improving performance from investments made over the past 18 months in global sales capacity, productivity and infrastructure. We also continued expanding our global capabilities in new product and service offerings opening operations in Dubai to serve the Gulf region, and announced the global availability of Application Management Services for SAP. In addition, today we announced the global availability of Application Management Services for Oracle database and applications.
The third quarter ended September 30, 2019, we generated revenue of $69 million, a year-over-year increase of 10.1% with annualized subscription revenue of $274 million. Gross margin for the quarter was 62.4%. Revenue retention rate for subscriptions, which is substantially all of our current revenue mix remained above 90%, with more than 70% of subscription revenue non-cancelable for at least 12 months on a rolling basis.
We ended the quarter with 2,032 active clients, representing a year-over-year net increase of 17%. The quarter included several notable sales wins, including leading auto manufacturer Hyundai-Kia Motors, who switched to Rimini Street for support and maintenance of its global database portfolio. Our active client count included nearly 100 Fortune 500 and Fortune Global 100 companies. The quarter-end employee count totaled 1,220 a year-over-year increase of approximately 12%.
For the third quarter, our global service delivery team closed over 7,500 support cases; delivered more than 15,000 tax, legal and regulatory updates; and maintained an average client satisfaction rating of 4.8 out of 5.0 on the company's support delivery where 5.0 is rated as excellent. Our strong and consistent client satisfaction was recognized with numerous awards during the quarter, including Stevie awards for Company of the Year - Computer Services and Customer Service Team of the Year.
Investments and initiatives. Our primary investment initiatives remain consistent, which are to drive accelerated revenue growth, increase our share of client IT spend and grow the lifetime value of each of our clients. To further these initiatives in the third quarter, we continued to invest in global sales capacity and productivity, new product and service offerings, new geographic capabilities and up-sell programs targeting existing clients. As noted earlier, during the third quarter we announced the global availability of Application Management Services for SAP. And today we announced the global availability of Application Management Services for Oracle database and applications.
In addition to leveraging Rimini Street's award winning support services for Oracle and SAP that replaces expensive and lower value software vendor annual support with a more responsive and robust support offering, clients can have Rimini Street run their Oracle and SAP systems day-to-day with integrated application management and support services provided by a single trusted vendor.
As an integrated service, Rimini Street can provide clients a better model, better skilled resources, better service outcomes, higher satisfaction and save our client's time, labor and money.
According to industry analysts, the global market for Application Management Services is approximately $82 billion and expected to grow more than 5% annually. We believe Rimini Street is well-positioned to disrupt this large market as an adjacent software service, the way we disrupted the application support industry.
We believe our integrated management and support service offerings is a unique and valuable competitive offering in the market and creates a significant opportunity for us to secure additional long-term subscription service contracts, grow revenues and increase the share of our clients' IT spend.
Already, we have achieved sales wins with our new Application Management Services and we are delivering our integrated application management and support service offerings to clients across a variety of industries.
Competition. Competition with our primary competitors Oracle and SAP remains fierce. Both software vendors are engaged in continuing efforts to force their licensees to upgrade and migrate from current stable software releases to the vendor's newest immature products.
Oracle is ending full support for some software releases by 2025 and SAP has declared the tens of thousands of licensees around the world using their most popular current product and release must migrate to their newest product by 2025 in order to remain fully supported.
Data from surveys conducted by Rimini Street and published on our website indicate that 80% of Oracle respondents stated they are not planning to move or unsure about migrating to Oracle software-as-a-service products and 80% of SAP licensees stated they plan to continue running their current, customized and mature SAP systems to at least or beyond 2025.
We believe the forced retirement of popular and stable releases by Oracle and SAP should create an even stronger demand environment and sales opportunity for Rimini Street's application management and support services in the years ahead.
Recent Oracle litigation developments. On November 5, 2019, we filed an appeal to the U.S. Supreme Court to resolve an issue in our ongoing litigation with Oracle. A hearing may or may not be granted. Previously we successfully appealed to the U.S. Supreme Court on another issue relating to our litigation with Oracle. And on March 4, 2019 the court issued a unanimous decision in our favor and ordered Oracle to return $12.8 million in nontaxable court cost plus interest.
Summary. We believe our continued investments over the past 18 months in sales capacity and productivity new products and services and global expansion are continuing to yield improved results.
Before I turn the call over to Tom Sabol, our CFO, I want to note that Tom will be leaving us on November 15 to pursue another opportunity in the state, in which he resides. Stanley Mbugua previously the company's Vice President Corporate Controller was appointed Group Vice President and Chief Accounting Officer, effective November 5, 2019. We are actively recruiting a new Chief Financial Officer.
I want to thank Tom for his financial stewardship over the past three years, which included the successful completion of several substantial refinancing transactions and taking the company public in 2017. We wish Tom well in his new role.
Now over to you Tom.
Thank you, Seth, and I want to thank you the Board and all my fellow Rimini Street coworkers for the opportunity to collaborate and assist with the growth of the company over the past three years.
Third quarter revenue, sales and marketing and general and administrative spend were all within our quarterly guidance range. And gross margin for the third quarter and year-to-date are both above our previous provided guidance ranges.
As Seth noted, revenue for the third quarter was $69 million, a year-over-year increase of 10% with annualized subscription revenue of approximately $274 million. For the third quarter of 2019, clients within the United States constituted 65% of total revenue while international clients were 35% of total revenue, representing aggregate year-over-year total revenue growth rates of 10% for both the U.S. and international markets. Gross margin was 62.4% for the third quarter, down from 64.5% in the 2018 third quarter.
While we believe that gross margin from our established services will continue to expand, this will be offset by the ramp-up of costs associated with the introduction of our newer products, such as Salesforce and the global rollout of our application managed services for SAP and Oracle, mentioned earlier by Seth. Therefore, we continue to expect our overall gross margins to be around 60% to 61% for the full year, which is consistent with our prior guidance of approximately 60%.
Sales and marketing expenses as a percentage of revenue were 38.7% for the third quarter, up from 35.6% for the third quarter of 2018. Sales and marketing expenses are currently running higher than the previous year's period due to the impact of sales rep hiring during 2019 where we have increased capacity by over 20%. We expect sales and marketing expenses to be in the range of 39% to 41% of revenue for full year 2019 with the high-end guidance down 1% from previous guidance.
General and administrative expenses, as a percentage of revenue, which excludes outside litigation costs, was 15.2% for the third quarter, up from 13.7% for the third quarter of 2018. We expect G&A expenses as a percentage of revenue to be in the range of 16% to 18% for full year 2019, unchanged from previous guidance.
The higher level of spend is due in part to increased public company costs for the implementation of the new revenue and leasing accounting standards, along with increased personnel and IT system costs associated with growth and geographic expansion.
Net litigation expense for the third quarter of 2019 was $3.3 million compared to $7 million for the third quarter of 2018. The decrease is largely due to less discovery and remand work compared to the prior year. It should be noted that our outside litigation spend is not linear and can fluctuate each quarter based on litigation activities. We expect litigation expense to be in the range of $2 million to $5 million for the fourth quarter of 2019, absent any significant changes.
GAAP operating income was $2.5 million for the quarter, which was unchanged from Q3 2018. Non-GAAP operating income was $7.5 million for the quarter compared to $10.7 million of operating income from Q3 of 2018. Net income was $1.7 million for the quarter compared to a net loss of $48.4 million from Q3 of 2018.
The prior year's third quarter included $46.9 million in debt discounts at issuance write-offs, payments of make-whole premium and the write-off of embedded derivatives, all related to the repayment and termination of the 2016 credit facility in July 2018. Non-GAAP net income was $6.7 million for the third quarter, which was unchanged from the 2018 third quarter.
Cash dividends on the Series-A convertible preferred were $3.9 million for the third quarter of 2019, while payment in kind dividends were $1.1 million, which were settled with the issuance of 1,149 shares of Series-A preferred stock to the holders on October 1, 2019. Reflecting the Series-A dividends, basic and diluted net earnings per share attributable to common stockholders was a loss of $0.07 for the quarter compared to a loss of $0.85 per share from Q3, 2018.
Adjusted EBITDA was $7.6 million for the quarter compared to $10.8 million from Q3, 2018. Deferred revenue as of September 30, 2019, was approximately $201 million, up 15% from $175 million as of September 30, 2018. We ended the third quarter with $42.2 million of total cash on our balance sheet. For the nine months ended September 30, 2019, cash flow from operations increased to $21 million compared to $17.6 million for the nine months ended September 30, 2018.
Now with respect to revenue guidance, we are maintaining the midpoint of our full year revenue guidance of $275 million, while narrowing the range to $274.5 million to $275.5 million and guiding fourth quarter 2019 revenue to be in the range of $71.3 million to $72.3 million.
And with that, operator, we'll now take questions.
Thank you. [Operator Instructions] And our first question comes from Derrick Wood with Cowen. Your line is open.
Hi. Good afternoon, everyone and good quarter. And Tom, we'll miss you. Good luck in your next endeavor. So I wanted to start on the really strong new customer count. I think the second biggest we've seen on record and I want to drill into this a little bit, I guess, a three-parter here. So, first, it sounds like this was driven by improved sales productivity coming online.
Any other factors to call out? Second, are there any particular areas of strength either by product or geography? And then third, given that it didn't really move the needle on changing your revenue outlook for the year, I would assume these are perhaps smaller deals in nature. Could you just touch on that?
Sure, Derrick. Thank you very much. I think, that we -- to answer your multipart. So first of all, as you know, we've put a lot of additional feet on the street with the sales program. We're starting to see, as we would expect, as those sellers become more productive, we're going to see transactions not uncommon for the new sellers to be working on, smaller mid-sized transaction.
We also had quite a few on the larger side as well, one of the better quarters in recent quarters of a mix of small, medium and large transactions, which is always our preferred pipeline structure. So I think that was a positive that we've seen on a global basis.
I think in terms of strength of geography Asia Pac did very, very well. We saw that across Asia, all the way down through Australia and New Zealand. So the entire Asia Pac region probably the strongest performing region globally in the third quarter.
What's driving? I think we have a lot of traction with our new marketing messages that we rolled out at the beginning of 2019. And I think the indicators for that are not only to close deals, but the growing pipelines and what we're seeing in terms of increasing lead-generation numbers.
So I think we're watching it start to move its way through the pipe growing leads more conversion into opportunities and then movement into closed deals. So I think we're seeing all the things that we would want from a good marketing traction and that marketing message on top of it also relates to what we've been saying about the forced retirement of current releases from full support that's coming for the Oracle and SAP world. So I think that that's also giving us a boost that I think will play out in future quarters.
Great. That's great color. And I guess if I think about it a couple of quarters ago, you had a bit more litigation noise in the market. Is this coming up less frequently in your engagements? Or is this always going to be part of your sales cycle? I'm sorry for the background noise.
No. Okay. No. I think for the time being, it's always there. You look at the size of our transactions, you look at the mission-critical nature of our support and I think there's just no way during the competitive cycle that our competitors aren't going to try and raise litigation as a front item in the sales process. And it is something we pretty much still deal with in every single transaction. But obviously, we work our way through that as companies do their diligence. It still does affect us. It still does have some deals that it derails the transactions. It's unfortunate, but it is just the fact of being in litigation. It always has been for the many, many years we're there. I would say though Derek it has less effect overall on the transactions than it did years ago. That I think is true.
Okay. And then on the Application Management Services, it's probably too early, but I mean it sounds like you've already closed some deals. So I just wanted to hit a little bit more on what the initial uptake has been and whether you're seeing it perhaps impact win rates or pipeline conversions or just conversations around selling your core offerings.
I'm actually very excited by it. I think we've seen -- we've closed a good number of deals already. We haven't hit the material threshold financially to talk about them as separate product lines yet. But I think when you look at it in fact that we only sell the AMS services to customers who buy our core support, you have to buy the support to get the AMS. So because of that what we've seen happen is as companies have renewed and extended their contracts on the support side just to get the AMS and mix them together in an integrated service.
So the upside is not only getting new additional accretive revenue, but you're securing and extending the long-term nature of our support. So the bigger solution gives a customer an opportunity to stay even -- on a longer-term engagement with us much deeper embedded into the customers' IT department. So I think it's been very positive. It's been very well received on a global basis and we've put a lot of people in that department just to staff up. These AMS projects are big.
One client alone we have over 30 head count dedicated to serving one of our new big clients on AMS. And that's where you're seeing the gross margin take a bit of a hit right now. As you would expect given our size, you just look at our size and our ratios, if you're going to be adding a significant number of heads like that, you're going to take some hit on your gross margin in the short-term, but the long-term revenue upside is substantial.
Okay. A good segue over to Tom. And I know gross margin was down year-on-year, but it was still a lot higher than what you had guided. So what -- and that was the same case a quarter ago. So what's been driving Tom the upside in gross margin?
Yes. So while as Seth indicated Derrick, we are spending money on ramping up the AMS. The support margins continue to improve to offset that. So if you look at just our support-only margins, those margins have continued to increase quicker than we would have thought. Again, some of that's leveraged, but it's also just more better efficiency. I know we've talked in the past about how we're using artificial intelligence with some of the things we're doing there to more quickly deploy and better deploy the right resources – right tickets and with the right customers. And so we're seeing the benefit of those types of things on the support side, which is why in the last couple of quarters as you mentioned we've exceeded our gross margin target. We still believe though for the full year we'll be in the 60% to 61% range.
Okay. You guys have a decent overseas. There's been some weakness in currencies relative to the dollar. Can you just talk about what the foreign currency impact was in the quarter and maybe what your assumptions are for the year?
Yeah. We would say that the reason why we were at the kind of the lower end of the range part of that was clearly FX related. But a number of our contracts though were also in dollars overseas as well. So we don't think it's enough to call out with regards to discussing the impact and we wouldn't expect it to have a significant impact in Q4 going forward at least at this point.
Yeah. Okay. And last one just an update on number of reps today or end of quarter and how you're feeling about the 80 to 85 plan by year-end?
Sure, Derrick. We run at about the high 70s right now. We just had some staff changes. I think we're somewhere in the 77, 79. So we're right about the 80 number, including normal attrition and turnover rates. And I feel good about that number. We have been focused as we talked about before more on pausing the hiring a little bit and getting our productivity higher with the existing reps. We just needed to take a little bit of a hiring pause to absorb the new head count really get them up to speed, because we believe we still have a lot of untapped leverage and capacity within the new hires as they ramp and you'll see that into next year that even keeping the same number of reps into the next few quarters, because they're on ramped quotas, our quota-carrying capacity will still increase into next year, plus productivity. We think that's going to give us the kinds of numbers that we want to be able to achieve next year.
Great. That's it for. Thanks guys.
Thank you. [Operator Instructions] And we have a question from Jacob Silverman [ph] with Alliance Global Partners. Your line is open.
Yeah. This is Jacob stepping in for Brian. Nice quarter. Could you guys give us any color on the resistance you're seeing to Oracle and SAP as you're scaling up? I know you mentioned a little bit before but maybe go into a little more detail.
Yeah. I think we're at an interesting transition point in the market, where companies have – who had these big enterprise suites from Oracle and SAP are in the middle of trying to understand the different IT paradigm which is, do I move forward with another big monolithic next-generation system that will cost a fortune? And at the end of that multiyear cycle of implementation and changeover and huge investment will my business have any additional competitive advantage? Or will I spend all my time and focus changing out a back-end system that's already working at a transactional level and miss the opportunity to focus my attention in areas where I create competitive advantage and growth opportunities for the company.
So there's a budgetary battle going on about choice of investment and ROI and there's also a battle about IT structure and technology, where we're watching companies try to figure out whether they should again invest in another big monolithic system or embrace a different architecture, which is all these best-of-breed products whether it's – maybe I decide to use a Workday for payroll and HR and a Salesforce for CRM. Even SAP of course have been buying products like Concur, Ariba, SuccessFactors, all these pieces that come into effect and Oracle the same.
So we're watching a different architectural model that maybe emerging of best-of-breed products all connected with integrators such as a MuleSoft from – that of course is now owned by Salesforce or a Dell Boomi. And you're watching this. Is it multiple products from different vendors connected by integration or a full big suite from a single vendor?
So this is the turmoil that's in front of them right now and they're moving to Rimini Street many of these customers exactly what our message is which is no one really knows how all these pieces are going to play out in these new architectures. And why not at least buy yourself a 15 to 20-year insurance policy move to Rimini Street, save a fortune, get better service and be able to delay those decisions from having to predict which of these models may be the better one?
We believe five to seven years from now you're going to have an opportunity to understand which of these models is gaining traction, which one is yesterday's model. We believe some of these new products such as the SAP S4/HANA platform might in fact be the last of the dinosaurs. It might be the last major monolithic implementation that a company ever does. And if they wait five years they might discover that that's the wrong direction and they don't -- and they get to save that money and focus on new technology. So there's a lot of that taking place in the buying cycle.
And the vendors from an Oracle and SAP vendor perspective they are not well-liked by the customers. They're trying to shove these products down their throat when the companies aren't sure they need them. You've seen the backlash to it and you've seen the fact that there's a lot of resistance to changing out these major cost platforms when the current platforms work.
Okay. Great. And then for marketing expenses so you've been seeing a decent amount of uptake from new sales reps. Is there any -- do you plan on continuing that trend of spending more on marketing and sales? Or do you think that's kind of hit its peak for now?
I think, we're trying to peak it out. I mean as you know we had to play catch-up from being held back by those covenants from our past financing that we only got to start spending money really 18 months ago. So we had to accelerate spending for the catch-up purpose. We would like to see our sales and marketing number come down a little bit into the mid-30s as we try to strive to GAAP profitability, try to bring a little more balance. And I think if we can get another couple of good quarters in of performance improvement, in the sales force and maturing of the sales force, I think, we're going to be able to start to tick down sales and marketing a little bit. But I think we're peaking right about now if we get where we want to be.
Okay. Great. Thanks again. Great quarter.
Sure. Thank you.
Thank you. And our next question comes from Drew Foster with Citigroup. Your line is open.
Hey, guys. Thanks for taking the question. You highlighted some strength internationally and you opened up a new office in Dubai. I was just curious if you were following the same playbook there that you had cited on recent calls where you are essentially opening up a smaller office with a few reps and a couple of support people or if you've made any tweaks to that model. And what's helped you so far internationally?
Sure, Drew. I think that the answer is yes. I think we've got a pretty good cookie-cutter approach for most countries. I would say the exception was Mexico. Mexico, I think, we already have over 10 people in that office a lot of opportunity in Mexico with all the manufacturing down there. I think Dubai, we put a smaller footprint there. We already serve customers in the Gulf region. And we're really trying to get a feel for where offices should be.
We already have clients in Saudi Arabia and around the Gulf trying to get a feel for where we should position staff to be most effective, not only for selling but servicing our clients in the Gulf. So it's still -- I would call it still in the exploratory early phase of figuring out the Gulf market.
As you know we also serve the Middle East out of Israel, where we have a very large client base and operation. So we are looking to fill in holes and gaps around the region because so many of our clients operate in 100 to 200 countries and we need the capability to service them in every time zone region and all critical languages.
Got it. Okay. And then you noticed -- or you mentioned that you had sort of taken your foot off the gas pedal in terms of hiring and have focused more on building out sort of the support functions of the sales organization in terms of sales enablement and maturing it.
Can you help put some more color around just how more productive your reps have gotten as a result of those investments and where the maturity of that organization stands today versus what you think it could be?
I think the greater challenge -- it's interesting. Internationally, I think we've been faster at maturing the sales force outside the United States. The U.S. is lagging a little bit. I think it's because we put more new reps in. And on top of the new reps we put new directors on top of them. And so I think you -- as we talked about in prior calls a little bit of blind leading the blind leading to more errors on the battlefield than we would normally like to see just as everybody learns the business.
And when the manager and the person underneath them are new to the business that leads to a lot more errors. So I think just North America has got a little more catching up to do with all of its new hires. But I think the effectiveness of what we're doing in terms of maturing the reps globally, because they were smaller teams had less new players added to them we're able to absorb them a little faster.
And I think again North America will probably require another couple of quarters to get up to the kind of productivity level that we've seen in the past before we added in all the new hires and matching up to what we're seeing in the faster movement in international.
Got it. That’s helpful. Thanks.
Thank you. And I'm showing no further questions. I would like to turn the call back to Seth for any closing remarks.
Thank you very much and thank you everyone. Appreciate the time today and I appreciate the questions. Look forward to our fourth quarter and full year call coming up when just -- into the next year. So with that, thank you and have a good end of year for everybody. Thank you very much.
Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect. Everyone have a great day.