Cloud Software Group Holdings, Inc. (PRGS) Earnings Call Transcript & Summary

Good day, and welcome to the Progress Software Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker, Mr. Mike Micciche, Senior Vice President, Investor Relations. Please go ahead.

Okay. Thanks, Sheri. Good morning. Good morning, everyone. Thank you for joining us today on short notice. With me on this call are Yogesh Gupta, our CEO; and Anthony Folger, our CFO. A little while ago, Progress announced our proposed acquisition of ShareFile. We also reiterated our prior guidance for Q3 and indicated that we expect to suspend our dividend after the acquisition closes. You can find the press release on the Investor Relations section of our website at investors.progress.com along with a supplemental slide deck. Before we get started, I'd like to point out that any preliminary results for our third fiscal quarter are subject to revision until we report the full third fiscal quarter results on September 24, details and instructions for accessing that call 2 weeks from now were issued in a separate press release this morning that can also be found on our IR web page. I'd also like to remind you that during this call, we may discuss forward-looking items, including our outlook, prospective financial and operating performance, corporate strategies, product plans, cost initiatives and other information that might be considered forward-looking, including the timing and potential results associated with our proposed acquisition of ShareFile. This forward-looking information represents Progress Software's outlook, guidance and the potential impact of the ShareFile acquisition only as of today and is subject to risks and uncertainties, please review the safe harbor statement regarding this information, which is available in today's release in the supplemental slide deck issued along with the release and on the Investor Relations section of our website. Again, that's investors.progress.com. Progress Software assumes no obligation to update forward-looking statements included in this call, whether as a result of new developments or otherwise. And we will make reference to several non-GAAP measures on this call, including annual recurring revenue or ARR and revenue and diluted earnings per share. Please see important information regarding non-GAAP financial information in Exhibit 99.1 of the Form 8-K filed by Progress on June 25, 2024, for a description of these non-GAAP metrics. Lastly, just a reminder that we're going to report this call in its entirety and a replay will be available on our IR web page. It [ sees at the end ], if you can get it on the page for us. And with all that out of the way, Yogesh, I'll turn it over to you.

Thank you, Mike, and good morning, everyone. Thank you for joining us today as we share some really exciting news about our latest acquisition. Before we get into the details of the acquisition, let me just highlight that in our press release this morning, we reiterated our guidance for revenue and earnings per share for Q3. Our expectations for both are within or above the high end of the ranges we provided last quarter. We also announced that we have decided to suspend our quarterly cash dividend after the closing of the ShareFile acquisition, which I'll discuss in more detail shortly. So as you saw earlier, we signed a definitive agreement to acquire ShareFile for $875 million in an all-cash deal. ShareFile, which is a business unit of the Cloud Software Group is a leading provider of collaboration software for document-centric use cases. ShareFile is a modern, SaaS-native platform which offers AI-powered document-centric collaboration and automated workflows, client portals, secure file sync and share and eSignature solutions. It will significantly expand our digital experience portfolio so that we will be able to offer greater value to our customers. ShareFile serves a wide range of industries, including business services, such as legal and accounting, financial services, health care, construction and real estate and has a large and loyal customer base. When the deal closes, we expect to add more than $240 million in annual revenue and ARR, bringing Progress' ARR to well over $800 million and annual revenue to nearly $1 billion. Subject to regulatory approvals and customer closing conditions, we expect this acquisition to close before the end of our fiscal year, ending on November 30, 2024. We will finance this transaction entirely with cash on hand and our existing revolving credit facility. Our expected pro forma net leverage will be 3.6x at closing, and we intend to delever quickly as we have with our previous acquisitions. When we initiated our Total Growth strategy, we knew it would require patience and discipline to be successful. We have indicated many times, especially over the last year or so that we would not compromise our standards on the kind of companies we acquire and the multiple we would pay. We have demonstrated this discipline numerous times since our last acquisition and our purchase of ShareFile meets all of our strict criteria. Recall, our Total Growth strategy has 3 main elements: first, investing and innovating within our existing products; second, acquiring great businesses at reasonable valuations and rapidly integrating them; and third, maintaining a fanatical focus on customer success. In search for good acquisition candidates, we look for businesses with great products, a sticky customer base with high retention rates, significant recurring revenue, the potential to generate strong cash flows and to be able to leverage our existing sales, support, go-to-market and operating platforms. In addition to our target product, customer and go-to-market fit as well as the financial merits, we also look for alignment across people and culture. ShareFile checks the box on all these requirements, which is why we're so excited about the deal. ShareFile is a modern, SaaS offering with 100% recurring revenues, adding recurring revenues to progress at scale and it has high customer retention rates. Its best-in-class content collaboration platform, meaningfully expands our digital experience portfolio and is highly complementary to our existing offers. We also see the opportunity to leverage our existing sales, support, go-to-market and operating platform, providing a clear path to bringing operating margins up to our 40% target. Because of the highly attractive acquisition multiple, especially given the cash tax advantage of an asset purchase transaction and our ability to drive strong cash flows through a proven integration processes, we expect this acquisition to generate strong returns that exceed our cost of capital. This deal demonstrates that our patience and discipline are integral to making good acquisitions that will enable us to continue to execute on our strategy. Now to share a bit more on ShareFile's business. ShareFile was founded as a SaaS company in 2005 and has been a part of Citrix and subsequently Cloud Software Group since 2011. The company provides a best-in-class collaboration and workflow platform, which delivers mission-critical solutions, including document-centric collaboration with automated workflows, client portals, secure sharing and synching of files, and integrated eSignature. ShareFile's purpose-built workflow automation platform gives users greater visibility and control over tasks and projects, especially for customers in industries that prioritize security and compliance, such as business services, financial services and health care. When it comes to leveraging GenAI, ShareFile has applied it across a wide range of functions in the black. For example, it uses GenAI to provide a simple guided self-service user experience to internal users and to the clients of our business. It also uses GenAI to automatically summarize documents as well as create Q&A related to those documents. And GenAI identified sensitive content and suspicious access to improve the security of the platform. Another exciting aspect of this acquisition is the fact that it brings a modern, market-leading, SaaS-native secure platform that is operating efficiently at scale and will enable Progress to accelerate our own cloud efforts. ShareFile's world-class solutions will enable us to serve a wider set of customers with a broader set of digital experience offering. ShareFile's approximately 86,000 customers will also benefit from becoming Progress customers. We have a long and successful track record of success of strengthening customer relationships through our unrelenting focus on our customers, with our financial strength, customer centricity and history as a trusted provider of digital experience software to organizations globally, ShareFile customers can have confidence in the continued investment in innovation and -- for innovation in ShareFile's platform and product. We firmly believe we are the right long-term home for ShareFile. Our conviction is further supported by the strong cultural alignment of the 2 organizations. ShareFile employees, like us, share a commitment to continuous improvement and a deep dedication to the success of their customers. We believe that they will find working at Progress a rewarding, learning and growth experience. It's important to note that the 12-month employee retention from our recent acquisitions, MarkLogic and Kemp was well over 90% in each case, and we believe ShareFile employees will also have long careers length. Lastly, to close the loop on the dividend. For a few years now, we've been clearly communicating our capital allocation priorities as being M&A and share repurchases, both ahead of dividends. We believe that we can provide far more shareholder value by utilizing the relatively small amount of cash applied to the dividend to pay down debt and even more -- debt even more aggressively and to continue to repurchase shares. With that in mind, as we head into our latest acquisition, we reached the decision to suspend the dividend once the deal closes. So to wrap it up, I want to leave you with this. This will be our fifth acquisition since we implemented the Total Growth strategy. With all of our prior acquisitions, we've demonstrated our ability to choose the right asset at the right price to successfully execute our integration plan and deliver strong returns. The acquisition of ShareFile is the latest step in our strategy, and we believe it will create meaningful value for our shareholders and provide significant benefits to ShareFile customers and employees. I look forward to welcoming ShareFile customers and employees into the Progress family when the deal closes. We can't wait to begin working with you. And as always, I want to thank the Progress team for all their hard work to get this deal done. And finally, I want to express our sincere gratitude to our investors for their continued trust and patience. With that, operator, let's open the floor for Q&A.

[Operator Instructions] Our first question will come from the line of John DiFucci with Guggenheim Securities.

My first question has to do with the cost synergies to be realized in 12 months and bring it up to your -- above your margins. Can you tell us what the current profit margins are per share point?

Anthony, maybe you can add as well. But John, this is a carve-out from a larger business, as you know. So we have some data that is very good about some aspects of the business. Other aspects of the business are, as you can imagine, are part of a larger business, and so allocation of cost is always a little bit tricky. That said, this business is in the approximately 20-ish percent range, Anthony?

Yes, exactly, just slightly below 20%, we think, in terms of the operating margin where it's at today, John.

Okay. Okay. Great. And then just a quick follow-up. Was there any organic growth? I think you said the NRR was greater than 100%. So I assume there's something there, but who knows maybe they're acquiring assets too. And then if there was any thoughts on that, once you bring the margins up, once it's part of Progress?

Yes. So a really good question, John. Yes, the business has NRR growth that is in the mid- to high single digits currently, and that is organic growth, not related to acquisitions. Obviously, when you take these kind of costs out, we think that the organic growth will basically probably trend in the same direction and in the same range as our overall organic growth. So low single digits is where we think we will end up with this business as well.

One moment for our next question. And that will come from the line of Rachit Agrawal with JPMorgan.

Rachit?

[Operator Instructions] Okay. We'll move on to the next question, and that will come from the line of Fatima Boolani with Citi.

My first question is just around asset quality, I wanted to better understand what about ShareFile and aspects of the intellectual property and the portfolio really stood out to you being maybe the more attractive acquisition candidate in a marketplace that has a few even public file share in content management assets. So I just wanted to kind of get your sense there. And if there are any consumer-oriented angles to the business? And then I have a follow-up, please.

Fatima. So yes, so I mean when you think about it, right, you are right that it's the primary competitors of ShareFile, people like Box and Dropbox. And even though they are the primary competitor, the fact that ShareFile offers much richer workflow and collaboration solutions as well as client portal capabilities as well as GenAI capability and the robust security, et cetera, make it much more competitive in the market and gives it an edge when competing with those businesses, especially for those organizations that are focused on compliance as a big issue. I mentioned that business services is one of the larger industries and segments that ShareFile addresses. These are, for example, law firms looking to collaborate with their clients' attorneys. These are financial institutions or accounting firms collaborating not just internally but also with their clients and so on. And so when you have this sort of sophisticated client collaboration, not just file sharing, that's where the differentiation matters. And so it is truly a business-to-business offering. The business has the vast majority of its 86,000 customers are small to midsized businesses. There is really no consumer play in the business. It truly is a business offering, Fatima.

And if you can also address overlap just from a technology standpoint with MOVEit. And then one for Anthony, this is the first time I think I recall you suspending the dividend following an acquisition. Just wanted to get a better understanding here of why that is the correct or the most appropriate pivot or evolution in the capital allocation strategy for now? Just because we have kind of seen you walk and chew gum at the same time, you do your acquisitions, reduce the debt load as well as continue on with our Total Growth strategy by acquisition. So just kind of wanted to understand the impetus behind suspending the dividend this go around?

Fatima, let me start with the product overlap and -- or none thereof, and then I'll turn it over to Anthony for the second question. As you know, the MOVEit, as you mentioned, is a file transfer product, right? It is used for securely moved files between organizations or between systems. What's interesting is in something like MOVEit, you move file from one place to the other, you end up with 2 copies of the file, of course. There is no collaboration. There is no thinking. The -- mean literally, it is a -- let me move something from here to there. It is very, very wonderful. It is large scale, it is secure, robust, reliable. And so it serves a very important purpose. But ShareFile is very different. It actually is around collaborating on shared content, shared documents. And I think that's a really big difference. And so that's why it is a cloud offering where the content is shared with the participants who use it, both that are inside their business that has licensed the software as well as with their clients that they have. The workflows around it, the project management and the process management around it are very distinct and essential to get the collaborative work done and the mission accomplished of whatever that business is. And so they really do some very, very different things, and they are complementary. In fact, we have common customers who use both products. So we see it really good that there is really no overlap across our portfolio, and we feel good how ShareFile extends the product portfolio that we have around digital experience. Anthony, do you want to take the dividend question?

Sure. Yes, Fatima, so we had, I think, for maybe a couple of years now had the dividend sort of in third place in our capital allocation philosophy. And M&A has always been in the lead, share repurchases and then the dividend. And I think we're at a point now, certainly, we're at a scale as a business where we'd like to delever from this deal and free up more liquidity so we can go out and do the next. And so I think looking at a dividend that was a pretty low yield in this market. We just didn't think it was all that attractive to investors, and we still have our share repurchases, which we can move those around depending on the facts and circumstances to be more or less. And we've done that in the past. I think we've been opportunistic with the share repurchases. So I think we just felt like the dividend was less attractive to investors, less important to us. We still have the opportunity to return capital to shareholders through repurchases. And we just felt like freeing up more liquidity for future M&A was a more efficient use of capital for us right now. I think that was the thinking behind it.

One moment for our next question. And that will come from the line of Harshil Thakkar with Oppenheimer.

Congrats on the acquisition. Guys, in the past, you've talked about potentially being able to do 2 deals in conjunction and kind of integrate them at the same time. Just given the size of ShareFile and this is clearly bigger than the deals that you guys have done in the past, do you still feel you have confidence in being able to potentially maybe do another acquisition if the opportunity comes up?

Absolutely, yes, Harshil. I think that's a really good question. So we really feel good about our ability to integrate. As you know, we have demonstrated over the last 4 acquisitions that we can rapidly integrate. We can get to the synergies usually faster than we say we would. We actually are able to bring people on board. We're able to retain customers, we're able to get employees engaged and really keep the businesses solid and moving forward. As we have continued to do so, our integration playbook has gotten better, our integration platform internally. Our systems and processes have gotten better. And we have gotten better as we have more experience under our belt. So yes, we will continue to look. And from my perspective, if the right deal comes along at the right price, we will not hesitate in doing the deal because we believe we can integrate more than one at the same time. And so from an integration perspective, from our ability to make it work, from our ability to execute, I feel very good about it.

One moment for our next question. And that will come from the line of Lucky Schreiner with D.A. Davidson.

Great. Congrats on the acquisition. Yes. It's quite a bit larger than your more recent acquisitions. I guess, maybe a 2-parter, how did the deal come about? And what kind of gives you the confidence in integrating this much, much larger company compared to the previous couple of acquisitions?

Sure. Happy to answer. So, Lucky, the deal, of course, came about basically with CSG deciding that ShareFile is not strategic to them. They are very focused on large enterprises and serving those customers, I believe. And I think it's probably a better, they answering the question why. But it is my understanding that they decided that this was no longer strategic to the go-forward strategy that they have at CSG. So they actually hired bankers who reached out and as you know, we have been very active, and we have really good connections with folks in the banking community, and they -- we were able to get involved in the deal early on. So that's how the deal came about and that's how we ended up winning it. The more we looked, the more we liked what we saw. It is a larger deal than we have done before, proportionately speaking. But one of the important things to realize a really big part of the integration, to be honest, is the people, right? And I've said always that we want to make sure that we acquire a group of people that can be substantial, but that it isn't overwhelming to our organization. And when you think about it, their employee population is just about 25% of our current population, right? So it isn't that big a deal from employee integration perspective. And I think that's a really important part and was a really important part for us to look into this and see how confident we felt about integrating it. Also, as I just mentioned earlier, we have continued to make our abilities to integrate better, and that includes our playbook, our processes, our systems, our integration platform and our own people's experiences. So we feel very confident that this is a business that can really integrate well into us. The culture of the 2 organizations is very similar. The people at ShareFile who've been there for 20-plus years or almost 20 years, pretty much since they started in 2005. There are people at Progress who have been with us for 30-plus years. So we have organizations where both sides, where people who are committed to the organization, committed to customer success, dedicated to making sure that the product is innovated, dedicated to continue to improve and grow. And when you have organizational alignment and cultural alignment, it also makes it easier to bring organizations together. So a lot of thought went into it, Lucky, because it is a larger deal than we've done before. And -- but we feel really comfortable and confident that we can execute on the integration and deliver the results.

Great. Yes, that makes sense. And then maybe last follow-up. Anything to note from a pricing perspective here. I know you said it brings your ARR to nearly $1 billion. Maybe, is there any seasonality that we should be aware of as it impacts your business?

Yes. So lucky, I said that it brings our annual revenue to nearly $1 billion and ARR to over $800 million. The business in general doesn't have any meaningful seasonality. Overall, the business is relatively steady throughout the year. One of the advantages of having a business where you have 86,000 customers and each of the deal is relatively small because of that, when you think about it, the average customer relationship is, $240 million divided by 86,000, which gets you to about $3,000 each. And so you've got a really, really sort of steady constant high-velocity business. And we, at Progress, by the way, are -- have another high-velocity business in digital experience, which is why this is another good reason why it's a great fit for us. And so no real seasonality when it comes to revenue over the year.

[Operator Instructions] And that will come from the line of Rachit Agrawal with JPMorgan.

Great. Can you guys hear me?

Yes, Rachit.

Sir. This is Pinjalim. Actually dialed in through Rachit's number. Congrats on the acquisition. I wanted to ask you, the space seems like it's completely moving towards AI becoming a big differentiator. So I want to ask you the investments that are left on the AI front for ShareFile to kind of continue to differentiate in the market? And could it be a potential drag on margins over time?

Yes. So by the way, as I already mentioned in my earlier remarks, Pinjalim, they have done enormous amount of investment in AI and they continue to do so, right? They're applying GenAI to basically every function in every aspect of the business that it can be applied to. And we believe that there is enough -- there are enough resources, there is enough investment going on. And we do not believe that it will create a challenge for us when it comes to delivering on a margin part. The teams exist, many of the teams are in lower-cost countries. And there's an opportunity for us to shift that as time goes on as well. So I don't believe Pinjalim that we will have challenges getting to the margin targets that we outlined. Because to us, that is the fundamental driver of value creation, right, Pinjalim so if we were not seeing clear line of sight to 40% operating margin, we would not do the deal. We are very, very confident that we can get there.

Understood. One quick follow-up. I think you said it's 100% recurring. I wanted to ask if it's 100% cloud? Or is there any on-premise component? I'm trying to understand if the rev rec is ratable? Or is there a further term component?

Yes, it is 100% cloud and 100% recurring. It is completely ratable. There is no piece of the business that is not, Pinjalim. It started off as a cloud-native company. It has continued to be a cloud-native company. Its licensing model is completely cloud-based. It is a cloud product.

I'm showing no further questions in the queue at this time. I would now like to turn the call back over to Mr. Yogesh Gupta for any closing remarks.

Thank you, everyone, for joining us early this Monday morning for this exciting news and have a wonderful rest of the day, and we'll talk soon.

This concludes today's program. Thank you for participating. You may now disconnect.