Rackspace Technology, Inc. (RXT) Earnings Call Transcript & Summary

Good day, and thank you for standing by. Welcome to the Rackspace 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 today, Mark Marino, Chief Financial Officer. Please go ahead, sir.

Good morning. I am Mark Marino, Chief Financial Officer. Joining me today are Gajakarnan Kandiah, our Chief Executive Officer; and Sagar Hebbar, our Head of Investor Relations. As a reminder, certain comments we make on this call will be forward-looking. These statements involve risks and uncertainties, which could cause actual results to differ materially and include, among others, our expectations regarding our AI strategy and strategic changes we are making at Rackspace, strategic partnerships, GPU infrastructure deployment costs, timing and economics, financing arrangements and capital expenditures, the at-the-market equity offering and expected use of proceeds, anticipated customer demand, our recent workforce realignment and expected cost savings, portfolio optimization initiatives, expected public cloud and private cloud performance, our financial outlook, including revenue, EBITDA and margins and our expectations regarding future operating and financial performance. These are complex changes with inherent uncertainties, which may not be achieved in full or at all or may be achieved on a materially different timeline. A discussion of these risks and uncertainties is included in our SEC filings. Rackspace Technology assumes no obligation to update the information presented on the call, except as required by law. Our discussion today will also include certain preliminary financial results for the second quarter ended June 30, 2026. These preliminary results are based on information available to management as of the date of this call and are subject to the completion of the company's financial closing procedures, quarter-end review processes and other developments that may arise between now and the time our financial results for the quarter are finalized. Accordingly, these preliminary results are inherently uncertain, have not been audited or reviewed by our independent registered public accounting firm and may differ, including materially from the financial results that will be reported in our quarterly report on Form 10-Q for the quarter ended June 30, 2026. With that, I will hand the call to Gajen.

Thank you, Mark. Good morning, everyone, and thank you for joining us on short notice. We have much to cover today as we continue to execute our strategy to become the operator of the full enterprise AI stack. Let me begin by reviewing the strategy and the many steps we have taken this year to implement it. After that, I will provide the details of today's strategic update and capital raise announcement, and Mark will provide a financial update and other details. Taken together, these steps should illustrate the transformation Rackspace is undergoing and the opportunity ahead. Rackspace is uniquely positioned to become the operator for governed enterprise AI designed around how enterprises, including in regulated industries and sovereign markets, deploy, operate and scale production AI. Enterprise AI is complicated and delivering it at production scale requires specific capabilities and experience. We believe we are earning the right to win in this massive market, especially in regulated industries and sovereign markets by creating the right set of partnerships alongside Rackspace's differentiated footprint and domain expertise to help our clients rapidly scale enterprise AI outcomes in production. At the core of this strategy is our private cloud infrastructure, the governed sovereign foundation purpose-built for regulated data-sensitive workloads. Our private cloud capabilities extend that reach from cloud to core to edge, giving customers a consistent operating model wherever their workloads run. We also bring to the table over 25 years of expertise in production environments. The tip of the spear is our forward deployed engineers who form the human layer that binds it all together. They are embedded in the customer environment, accountable after go-live and the reason our SLAs are a commitment rather than a target. Taken together, they form the platform on which our ecosystem can deliver cost-effective solutions at scale. For this to work, we needed the right partners. Over the course of the last 6 months, we have curated best-of-breed partners across every layer of the stack. Our ecosystem is deliberate and selected for how partners integrate across the stack and how they perform within it. Everything is stitched together and governed as one system, so our customers can focus on outcomes instead of managing complexity. Let me start with an important update to our strategic relationship with Palantir. Rackspace and Palantir have launched an operating framework that establishes Rackspace as a preferred deployment and operations partner for Palantir for regulated and sovereign environments. Since we entered a strategic partnership in February to build Palantir-certified forward deployed engineering capability across Foundry and AIP, Rackers have earned more than 400 Palantir certifications, making Rackspace one of the most certified Palantir workforces in the industry, highlighting our commitment to our partnership and our AI-first strategic initiative. This feeds our FDE pipeline with market demand and Rackspace execution paralleling this capability enhancement. The company's first joint deployment for a leading U.S.-based manufacturer of solar tracking systems closed in 41 days and reduced quote cycle times by 94% through engineering design optimization and the elimination of manual process. The key here is our alignment with the execution on Palantir's vision for rapidly scaling enterprise AI. I want to take a moment to acknowledge our other best-of-breed partners. With Uniphore, we deliver enterprise AI applications running in production in our private cloud. VMware serves as the control plane, providing the virtualization, workload portability and network fabric that govern enterprise AI environments require. Rubrik provides the cyber resilience layer, ensuring that data is protected, recoverable and auditable across hybrid and multi-cloud environments, which is a non-negotiable in health care, financial services and sovereign cloud. Execution on these partnerships continues per our expectations. On the last 2 calls, we spoke at length about our partnership with AMD, which helps us secure the accelerated compute foundation beneath all of it. Importantly, we have minimum contracted revenue levels with meaningful upside as we onboard new customers. Since our last call, we have secured financing and placed purchase orders for the first deployment under the AMD agreement. The first deployment is expected to be nearly 2 megawatts targeted for completion by end of 2026. Capital expenditures for the first deployment are expected to be approximately $75 million. Our goal is to ramp up to cumulative capacity of 15 megawatts by the end of 2027 and a total of 30 megawatts of capacity by the end of 2028. We expect to average $15 million to $20 million per megawatt deployed as GPU and customer mix evolves with a committed floor of $10 million per megawatt for our initial deployment. Our expected revenue per megawatt deployed range translates to $450 million to $600 million of annual revenues at the full 30-megawatt deployment, and we expect EBITDA margins in the enterprise AI to be in the 50% plus range. We are incredibly excited about this opportunity, which represents a new growth vector for Rackspace, as Mark will explain in his prepared remarks. Our partners bring leading technology and Rackspace with our FDEs who integrate, operate and deliver outcomes as the single accountable operator. There are 2 additional factors: focus and capital, and we continue to make progress on both. When we announced our One Rackspace initiative a few weeks ago, I had mentioned that our intent was to redirect the capabilities we have built over time to take advantage of the secular AI market opportunity in front of us. Today's corporate actions will support the strategic actions we have taken throughout this year and position us to take advantage of these opportunities. Let me highlight the specific trends we are seeing since this will provide more clarity on why we are taking today's actions. First, as you know, the enterprise AI deployment end market has exceptional demand characteristics. As enterprise AI advances beyond the experimental phase, agentic workflows are being embedded in production systems across financial services, health care, energy, government and other mission-critical sectors of the global economy. The vast majority are regulated environments where governance, data sovereignty and operational continuity are of paramount importance. We understand these environments deeply, and so our own pipeline reflects the trend as we continue to add contracted volume with existing and new clients. Our partnership strategy is contributing to the growth in our AI-related pipeline. As enterprise focus pivots from massive foundational training to context-specific inference, the way in which companies purchase and provision hardware is evolving. Clients are now seeking AI capacity in smaller, fractional and more flexible increments. This aligns very well with Rackspace's market approach. Second, enterprise AI growth and deployments require discipline because of the resource-constrained nature of the capacity and supply side. We have seen this in the comments and actions of many ecosystem players across data center, power, compute, memory and the rest of the hardware value chain. We believe the correct strategic and tactical response to a resource-constrained environment is to prioritize our resources and focus on the activities that we believe provide the best returns to Rackspace's stakeholders. To account for our transition away from certain low-margin engagements that will be redeployed to our enterprise AI business over the next 2.5 years, we are reducing our FY '26 revenue outlook by $150 million and our EBITDA outlook by $20 million, given the low-margin nature of the exited revenues across both business units and investments in AI compute capacity. Within Public Cloud, we have steadily transitioned from an infrastructure-led operation into a services-led organization with deep capabilities spanning cloud delivery, platform engineering and managed operations. We are deliberately moving away from low-margin revenue and choosing to focus on higher-value opportunities with our hyperscaler partners. Our public cloud business is aligning its capabilities from cloud adoption to AI and production, and we will concentrate investment on data and AI-led enterprise transformation, AIOps-driven managed services and forward deployed engineering talent that operates across hybrid environments from edge to core to cloud. We are reducing our public cloud revenue estimate for 2026 by $125 million, driven by this decision to exit low-margin public cloud infrastructure resale revenue and a continuation of the trend of hyperscaler direct contracting. Notably, the EBITDA impact of this should be relatively muted since we are walking away from lower-margin revenues. We are maintaining our view that private cloud will grow this year despite the impact of supply-related timing and geopolitical factors. Furthermore, even within private cloud, we see the opportunity to pivot to higher-yielding revenue over the near term and medium term. As a result, we are walking away from approximately $25 million of colocation and basic hosting revenue in private cloud and redeploying that capacity and capital towards higher-yielding AI deployments. This pivot to more profitable AI revenues in the future will lower this year's margins due to a lag between old colocation exits and new AI rollouts. In short, our corporate focus is to transition to a higher-margin Rackspace with sustained positive revenue growth, and the full impact should become clearer as this early investment phase builds towards scale. Enterprise AI is at the critical inflection point that has defined so many technology transitions over the last 40 years. The companies that emerge as winners are focused with people, with process, with partnerships and with capital. Today, we are announcing a $250 million, 100% primary at-the-market equity offering. The ATM structure allows us to raise capital based on new customer demand and deployment schedules and to give us visibility to higher returns on invested capital. As noted in the prospectus supplement, we expect to use the proceeds of the equity offering for general corporate purposes, most notably for growth capital related to our GPU initiatives. Rackspace currently expects to finance a significant portion of the compute hardware through asset-backed credit facilities with the financing collateralized by the assets themselves. The proceeds we expect to raise from the ATM offering will be primarily directed towards growth capacity and demand. Additional details on the capital raise are available in today's press release and regulatory filings. Mark will now provide additional details around the financials.

Thank you, Gajen. I'll walk through a few items today. First, some additional color on the capital raise; second, the impact of the corporate actions we announced; and third, I will share certain preliminary unaudited ranges for 2Q '26 given that the quarter has ended. These preliminary results are based on information available to us today and are subject to the completion of our financial closing procedures. Actual results ultimately reported may differ from these preliminary results. As Gajen mentioned, our goal is to deploy 30 megawatts of total capacity under the AMD agreement, of which the first deployment of nearly 2 megawatts is targeted for completion by the end of 2026, with 2027 and 2028 goals ramping to 15 megawatts and 30 megawatts of total capacity, respectively. To be clear, those are cumulative targets. On average, Rackspace currently expects $15 million to $20 million of revenue per megawatt of deployed GPU capacity with a floor of $10 million per megawatt for the initial deployment. This revenue stream should yield above 50% EBITDA margins. This is not a revenue stream Rackspace currently has, and so the impact is expected to be incremental growth for both revenues and EBITDA beginning in 2027. As announced today, we are launching a 100% primary $250 million at-the-market offering, primarily for growth capital related to our GPU-related initiatives. As is standard for an ATM offering, any equity capital raised is dependent on prevailing market conditions. The new shares issued will have a progressive impact on per share metrics for future periods, including the remainder of this year. Meanwhile, the revenue and EBITDA benefit will follow in future periods. Let me now review the impact of the corporate actions we announced today. Our new public cloud revenue outlook for the year is $1.45 billion to $1.50 billion, which is $125 million lower across the board relative to our prior expectation. As Gajen said, we are opting to move away from low-margin infrastructure resale revenue and are focusing on higher-value opportunities with our hyperscaler partners, which partly reflects the tendency of these partners to contract directly with clients in certain situations. We remain focused on the services-led portion of public cloud and continue to expect growth in this part of the business. Our new private cloud revenue outlook is $1.0 billion to $1.05 billion, which is $25 million lower relative to our prior expectation. This $25 million is comprised of colocation and basic hosting revenue in private cloud, and we will redeploy that capacity and capital towards higher-yielding AI deployments. Rackspace's updated total revenue expectation of $2.45 billion to $2.55 billion for FY '26 is a decline of 7% at the midpoint compared with prior guidance of negative 1% at the midpoint, with the vast majority of this changed expectation due to the company's strategic choice to walk away from low-margin revenue in public cloud and 1 percentage point due to revenue timing that shifts into FY '27 rather than lost demand. As Gajen noted, we will be opportunistic about similar future opportunities. Our updated EBITDA targets are $285 million to $295 million compared with our prior outlook of $305 million to $315 million. The updated margin target warrants an explanation since at first glance, it may appear inconsistent with our stated pivot to higher-margin revenue. The explanation is straightforward. The change in our EBITDA outlook primarily reflects the near-term timing mismatch between exiting certain lower-margin revenue streams, investing ahead of AI-related growth and the timing of costs associated with our previously announced workforce realignment. Meanwhile, the EBITDA benefits from new AI revenues as well from the workforce realignment are both expected to be realized in 2027. So this is a timing differential and the moves we are making are additive to economic value. As deployments ramp and realignment savings are realized, the revenue mix shift is expected to be margin accretive. I want to anchor you to the following strategic intent. We are adding a new growth vector, AI compute capacity, which is incremental to our core business, not a cannibalization of existing revenues. Although public cloud infrastructure resale would continue to decline, we look for core private cloud to grow low single digits, driven by the mix shift out of lower growth, lower-margin revenue and into higher growth, higher-margin revenue. AI compute capacity is the new growth vector that sits on top of this base and should enable sustainable growth in private cloud, inclusive of the new GPU growth vector. The last topic to briefly touch on is our preliminary expectation for 2Q '26 results. We look for total revenues of between $641 million and $649 million, down 3.1% at the midpoint. For Public Cloud, the expectation is for $399 million to $403 million in revenues. And for private cloud, we look for between $242 million and $246 million. Our EBITDA expectation is $58 million to $62 million. We will provide more details on these when we report full results in August. I'll now return the call to Gajen.

Thank you, Mark. Let me close with this. The actions we announced today are deliberate steps to position Rackspace for the next phase of our strategy. We are investing ahead of revenue to build a new growth engine, and we are focusing on our highest return work and intentionally stepping away from low-margin revenue. The updated near-term outlook reflects a choice we are making, one we see as the cost of entry into a larger, higher-margin business with growth and margin expansion to follow as these investments come online. We have the footprint, the partnerships and the discipline to pursue this opportunity. And today, we are putting the capital and the focus behind it. Thank you all for joining us. Over to you, Mark.

Thank you, Gajen. Before we open the line, I want to focus our Q&A on today's announcement. We ask that participants limit to one question per caller. Additional details on financial results and guidance will be addressed at our second quarter earnings call. If you have any follow-up questions after today's call, please reach out directly at ir@rackspace.com. Operator, please go ahead and open the line for Q&A.

[Operator Instructions] Our first question comes from the line of David Paige with RBC Capital Markets.