SolarWinds Corporation (NYSE:SWI) Q4 2023 Earnings Call Transcript
SolarWinds Corporation (NYSE:SWI) Q4 2023 Earnings Call Transcript February 8, 2024
SolarWinds Corporation beats earnings expectations. Reported EPS is $0.24, expectations were $0.21. SolarWinds Corporation isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Good morning. My name is Jeannie and I will be your operator today. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. I would now like to turn the call over to Tim Karaca, Group Vice President of Finance. Mr. Karaca, you may begin your comments.
Tim Karaca: Thank you. Good morning, everyone, and welcome to the SolarWinds Fourth Quarter 2023 Earnings Call. With me today are Sudhakar Ramakrishna, our President and CEO; and Bart Kalsu, 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 investors.solarwinds.com. You can also find our earnings press release and the summer 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 timing of the phases of such evolution.
Our expectations regarding our partner ecosystem, the SEC 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 current 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 non-GAAP financial measures on today's call, unless otherwise specified when we refer to financial measures we will be referring to non-GAAP financial measures.
A reconciliation of the differences between GAAP and non-GAAP financial measures and definition of other financial metrics discussed on today's call are available in our earnings press release and summary slide deck on the 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 annual report on Form 10-K. With that, I will now turn the call over to Sudhakar.
Sudhakar Ramakrishna: Thank you, Tim, and good morning, everyone. I hope you're off to a great start in 2024. 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 all key metrics finishing the year on a high note and adding to the momentum we built throughout 2023. We believe our performance continues to demonstrate not only the resiliency of our business model, but also the compelling value we deliver to our customers. Now turning to business highlights from this quarter. First, strong subscription revenue and overall ARR growth demonstrating the continued success of our subscription-first strategy.
Second, continued growth and adoption of our observability solution. Third, strong customer retention, which was a critical priority of ours in 2023. Fourth, significant enhancements we delivered on our SolarWinds platform, as it continues to be the foundation that fuels innovation for our self-hosted and SaaS solutions so customers can consolidate tools and experience hybrid visibility, simplicity and cost-effective productivity across multi-cloud environments. Finally, continued adjusted EBIT growth and another quarter of achieving the Rule of 50. I will now discuss some of our fourth quarter financial highlights before turning the call over to Bart, who will provide more detail on the quarter, our financial performance in 2023 and our financial outlook for 2024.
In Q4 2023, we saw total revenue of $198 million above the high end of the range we provided and representing a year-over-year growth rate of 6%. With the ongoing success of our subscription-first strategy, in the fourth quarter, we delivered subscription revenue growth of 36% and subscription ARR growth of 34%. We delivered fourth quarter adjusted EBITDA of $87 million, above the high end of the range we provided and representing growth of 17% year-over-year. Our fourth quarter in-quarter maintenance renewal rate was 95% and our trailing 12-month maintenance renewal rate at the year-end was 96%, an increase from 95% as of the end of the third quarter and 93% as of the year-end 2022. And we delivered fourth quarter total ARR growth of 8% year-over-year with continued execution of our subscription-first and platform strategy.
Shifting to our product portfolio. We believe that SolarWinds provides the most comprehensive AI-powered full stack observability solutions in the industry across networks, infrastructure, applications and databases. Our multifaceted product portfolio offers observability, database performance and service management solutions across on-premises, cloud and hybrid environment, enabling customers to accelerate their business transformation in an increasingly multi-cloud world. We help reduce customers' complexity and cost by eliminating tool sprawl help rapidly detect and remediate issues, increase time to value and improve productivity. We believe that SolarWinds hybrid cloud observability contributes to increased retention and conversion rates and that our customers are enjoying increased value, as we continue to evolve and extend the capabilities of our solutions.
Across observability, service management and database performance management, our teams are continuing to deliver customer critical capabilities. We believe our broad spectrum of self-hosted to SaaS solutions most effectively enables our customers to accelerate their business transformation with deployment flexibility. Some recent enhancements include, in November, we announced SolarWinds database observability, a new offering that delivers comprehensive visibility into databases to increase the performance, scalability and efficiency of digital services and applications. Combined with our application observability capabilities, we can reduce customers' time to detect problems in their multi-cloud environment. At AWS re:Invent 2023, we unveiled the latest enhancements to our SaaS delivered observability solution, helping customers accelerate their cloud journeys and including support for OpenTelemetry and new Kubernetes application intelligence as well as the addition of cloud-enabled open source and NoSQL database observability capabilities.
We continue to enhance our self-hosted observability solutions with new device support to provide increased coverage for our customers. We also continue to evolve our network infrastructure and cloud observability solutions and had several customers leverage the power of our solutions to gain hybrid visibility. I'm pleased to share that just this week, we announced that series of transformative AI-powered enhancements across our SaaS-based observability solutions, most notably to our proven network infrastructure and cloud offerings. Building upon our networking heritage, we now offer complete visibility across on-premises and cloud networks including on-premises and cloud network devices, virtual machines, hypervisors, containers and infrastructure as a service resources.
We invite you all to learn more about our latest innovations at our next SolarWinds Day on Wednesday, February 28th. Layered through all facets of our offerings is secured by design, our standard for secure software development and infrastructure security. We developed the secure by design initiative to address the ever-changing threat landscape and to illustrate how security is a part of our organization's fabric. We believe our initiative not only delivers enhanced security for our customers, but also advances cyber safety for SolarWinds and for our industry at large and establishes a new standard for secure software development. Turning now to our partner ecosystem. As you've heard me discuss in recent quarters, our partners, including global system Integrators and hyperscalers are increasingly important for our expanding go-to-market motions and can help us expand our reach to customers in a scalable, efficient and cost-effective manner.
The SolarWinds model of inside and velocity sales is the foundation upon which we are building these additional go-to-market motions. In August 2023, we announced enhancements to our channel partner program designed to accelerate growth and revenue with and for our partners, these updates provide greater flexibility for our partners to achieve their targets, new opportunities for channel offering improvements and specialized options for database and ITSM product. We will continue to boost our transform partner summit with several exciting events planned for 2024, including our EMEA Summit in Lisbon, our APJ Summit in Bali and our Americas Summit in Miami. I look forward to meeting our partners and sharing our 2024 plans. I believe that partners that are force multiplier and together, we can help our customers further accelerate their business transformation.
2023 was a strong year across multiple dimensions, and I'll provide a quick recap. First, we successfully drove subscription adoption across our businesses, which is seen in our strong subscription revenue and ARR growth results. We believe this is consistent with how our customers want to consume our products and that an increase in our subscription base provides an even more solid foundation for our revenue and margin expansion efforts. Second, we demonstrated rigorous expense discipline in a challenging macro environment by investing selectively, while managing costs and improving our operating margins as reflected in our 17% adjusted EBITDA year-over-year growth in 2023. Third, we continue to prioritize customer success and retention and successfully improved our maintenance renewal rate to 96% on a trailing 12-month basis.
And fourth, we delivered on our innovation agenda by extending and enhancing the AI-powered capabilities of our solutions while also expanding our ecosystem to bring even greater value to our customers. It is my belief that we built a strong foundation and successful strategy that's a direct result of our focus on our transformational efforts across all aspects of our business over the last three years. With that, I will turn it over to Bart to expand on our financial performance and provide a full year 2024 outlook. Bart?
Barton Kalsu: Thanks, Sudhakar, and thanks to everyone for joining us. 2023 was a successful year for us as we started to see returns on many of the investments that we have made over the past few years. We have grown in total revenue and significant acceleration in our subscription revenue and subscription ARR. Margins were another area of focus for us, and we improved our adjusted EBITDA by $48 million or 17% year-over-year. And our adjusted EBITDA margin is back to the mid-40s. The fourth quarter was consistent with the first three, as we beat guidance across all key metrics. We are proud of the financial results we delivered in 2023. We have increased the mix of predictable recurring revenue, delivered double-digit adjusted EBITDA growth and made substantial progress in improving our leverage profile.
Turning to the numbers. We finished the fourth quarter with total revenue of $198 million, a 6% increase compared to the prior year and above the high end of $192.5 million of outlook for total revenue that we provided last quarter. On a full year basis, total revenue finished at $759 million, above the high end of outlook of $753 million and well above the high end of the range of $725 million to $740 million that we provided at the start of the year. We ended the fourth quarter with total ARR of $684 million, up 8% year-over-year. Our subscription ARR at the end of the fourth quarter was $233 million, an increase of 34% year-over-year. This growth continues to be driven by the execution of our subscription-first strategy. We have historically provided the number of customers, who have spent more than $100,000 with us over the past 12 months.
That number was 945 as of December 31st, which was a 6% increase over the prior year. Moving forward, instead of that metric and consistent with our subscription transition, we will now be providing the number of customers who have annual recurring revenue, or ARR, of greater than $100,000. We believe that total ARR from customers is a better indicator of the health of the business, since annual recurring revenue provides insight into the quality and repeatability of the business. We had 979 customers with over $100,000 of total ARR, representing a 15% growth over the prior year. Digging into the revenue details, our fourth quarter subscription revenue was $68 million, up 36% year-over-year with full year subscription revenue of $234 million, an increase of 40% year-over-year.
The increase in subscription revenue reflects the success of our subscription-first strategy. Maintenance revenue was $115 million in the fourth quarter, roughly flat compared to the prior year. Full year maintenance revenue was $462 million, up 1% year-over-year. As we have previously discussed, the conversion of a portion of our maintenance customers to subscriptions has impacted maintenance revenue, and we expect that it will continue to do so as we continue our subscription-first transition. Our maintenance renewal rate is 96% on a trailing 12-month basis and was 95% for the fourth quarter. The improvement in our renewal rate in 2023 was a testament to the loyalty of our customer base and the value of our solutions. As we convert maintenance customers to subscription, 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 92% of our total revenue as recurring revenue. For the fourth quarter, license revenue was $15 million, down 31% from $22 million in the fourth quarter of 2022. And full year license revenue was $62 million, down 33% year-over-year. As a reminder, our subscription-first focus has affected and will continue to affect our license sales performance. Our focus on operating discipline delivered another quarter of strong non-GAAP profitability. Fourth quarter adjusted EBITDA was $87 million, growing 17% year-over-year, representing an adjusted EBITDA margin of 44% and coming in $4.5 million above the high end of the $80.5 million to $82.5 million outlook we gave for the quarter.
Full year adjusted EBITDA was $328.6 million, growing 17% from the prior year, representing an adjusted EBITDA margin of 43% and coming in $4.6 million above the $322 million to $324 million guidance we gave last quarter. As we've discussed in prior quarters, we're focused on our capital allocation, disciplined expense management and driving operational efficiencies across our business while focusing on growth in our broader subscription transition. Given the uncertain macro outlook for 2023, we took measures to optimize our expense structure as part of our ongoing focus on improving operating margins in the first half of the year. During 2023, these measures resulted in $20 million of restructuring charges, primarily associated with $14 million of lease impairments for certain office locations and costs related to headcount reductions.
Looking ahead, we will continue to monitor the environment closely and we plan to hire selectively and manage our cost in a disciplined manner. Turning to our balance sheet. We significantly improved our leverage position in 2023. Our net leverage ratio at December 31st was approximately 2.9 times, our trailing 12 months adjusted EBITDA. This compares to 3.9 times at the end of last year. In addition, in January of 2024, we refinanced our term loan, decreasing the interest rate by 50 basis points from SOFR plus 375 to SOFR plus 325, taking advantage of the latest interest rate environment. We continue to generate strong cash flow with $183 million in cash flow from operations in 2023. Our cash and cash equivalents and short-term investment balance was $289 million at year-end, bringing our net debt to under $1 billion.
Our cash position and positive cash flow give us the ability to fund future growth as well as flexibility on capital allocation alternatives moving forward. I will now walk you through our outlook before turning it over to Sudhakar for final thoughts. I will start with our first quarter guidance and then discuss our outlook for the full year. For the first quarter, we expect total revenue to be in the range of $187 million to $192 million, representing 2% growth at the midpoint. Adjusted EBITDA for the first quarter is expected to be approximately $81.5 million to $84.5 million, representing 7% growth at the midpoint. Non-GAAP fully diluted earnings per share are projected to be $0.20 to $0.22 per share, assuming an estimated 171.3 million fully diluted shares outstanding.
And finally, our outlook for the first quarter assumes a non-GAAP tax rate of 26%, and we expect to pay approximately $12 million in cash taxes during the first quarter. For the full year, we expect total revenue to be in the range of $771 million to $786 million, representing 3% growth year-over-year at the midpoint. Adjusted EBITDA for the year is expected to be approximately $350 million to $360 million, representing 8% year-over-year growth at the midpoint. Non-GAAP fully diluted earnings per share are projected to be $0.95 to $1 per share, assuming an estimated 173.2 million fully diluted shares outstanding. Our full year and first quarter guidance assumes a euro to dollar exchange rate of 1.08 to 1. With that, I'll return the call to Sudhakar for his closing remarks.
Sudhakar Ramakrishna: Thank you, Bart. As you can see, the outlook Bart shared represents a continuation of top line growth and adjusted EBITDA growth. This coming on the heels of our strong 2023 performance reflects our belief in the increasing relevance of our broad array of product offerings, combined with our ability to execute and innovate. Customer environments continue to become more complex, as they address the challenges and opportunities of their respective businesses. Equally, their budgets remain constrained, especially in this macro environment. Customers are looking to consolidate to and to improve security while reducing alert fatigue, all while seeking solutions that are simpler to procure and use cloud ready to help them transform at the pace of their business, cost effective while enhancing productivity.
We believe we are ideally suited to deliver these solutions to our customers. We take our obligation to deliver customer success very seriously, while being excited and disciplined about the opportunity ahead. Looking to 2024, we will continue to extend our SolarWinds platform and deliver effective solutions, build to help customers, manage their hybrid and multi-cloud environments, invest selectively while continuing to exercise expense discipline and seek to expand profitability, focus on subscription and ARR growth, customer success and retention, growing profitability and cash flow and creating more value for our shareholders. Although many unknowns around the macro environment persist we remain focused on the things we can control. I'm pleased with all the work our teams have done to help us cap 2023 with a strong fourth quarter, and I'm as confident as ever in the direction of our business.
I could not be prouder of our team's commitment to customers' success. Again, I thank our employees, partners, customers and shareholders for their commitment to SolarWinds. Bart and I are now happy to address your questions.
Operator: [Operator Instructions] Your first question comes from the line of Rob Oliver with Baird. Your line is open.
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