Teradata Corporation (TDC) Earnings Call Transcript & Summary

Good afternoon. I'm Katy Huberty, and I'm really pleased to welcome Mark Culhane, CFO of Teradata. Mark joined a couple of years ago after running an advisory firm, helping software companies scale their cloud businesses. Before that, he was CFO of DemandTec. So Mark, thank you for joining us today.

Katy, thanks for having us. Glad to be here.

Just before we jump into the conversation, I have to note that Morgan Stanley disclosures can be found at the registration desk or on our website. So with that, we're going to launch into questions. And we'll see if there's some from the audience towards the end.

So I want to start just high-level strategy. Obviously, there's some changes in leadership at the company. And on the last earnings call, Vic Lund, who has come back on as CEO in the interim, acknowledged some execution issues at the company. Just talk about some examples of these and what you're doing to fix those.

Yes. So a little bit of variety there. But all around, I would say, the lack of focus, right? So as you recall, we executed on a go-to-market reorg early in the year. And there were things associated with that, that didn't come off probably as crisp as we wanted, which got us off to a slower start in the year, particularly in consulting, which we ended up talking about throughout the year because we didn't end the year there where we wanted on the margin side, in particular. And then second, I would just say the product platform, the Vantage 1.0 platform and its pace and acceleration to the cloud and so forth. So both of those are sort of examples, I think, of the areas that didn't maybe transpire as fast as we wanted. And obviously, Scott Brown's new at the end of the second quarter. So we're much better positioned on the go-to-market front into 2020. And then we brought Hillary Ashton on as our new Head of Product, late Q3, early Q4 on that front. So we think we've got that all under control, and they're empowered to run their areas. So...

So looking into 2020, on the back of addressing these execution issues, you highlighted 3 priorities. One is accelerate the transition to cloud. Two is increased consumption of Vantage. And then the third is just this focus on operational excellence. Go into a little more detail around the actions you're taking around each of these that can help reaccelerate the...

Sure. As we talked on the conference call, right, we've had some really nice cloud momentum. So we're reallocating, redirecting spend to accelerate what we're doing there on the cloud front. So we're pleased with what's happening there. In terms of increased consumption of Vantage, that's all around. We think our customer success org that we're building is going to have a big impact there, right, showing customers, enabling customers on the availability of all the functionality on the platform and the types of analytics capabilities that can be done on that and so forth, right? That takes some time, clearly, because it always was going to be a multiyear opportunity for us on doing that, but we feel we're starting to execute on that front. I think on the operational efficiency side, candidates, across a variety of areas in the company, whether that's just becoming more efficient and things like what we are doing in R&D and product as we reallocate spend towards key initiatives. Back office, for sure, particularly an area of focus there, is around our consulting expense management and the new expense time management billing system we're putting in place there to give us better transparency on that front as an example there as well.

And I mentioned in the beginning that the company is in the middle of a search for a new permanent CEO, and it sounds like you're not waiting for that CEO to join to take these actions, so you're being quite aggressive. But as it relates to that search, what are the characteristics that you think the Board is looking for in a new CEO? And what the priorities will be as when he or she joins the company?

Yes. I think, ideally, we're looking for someone who's got either prior CEO experience or has run a large division of a tech company that's been through a transformation. In addition, someone that can come in and build and enable the key leaders and build that collaborative culture. And then I'd say kind of finally, someone that's got some cloud and analytics expertise.

Yes. You mentioned Scott Brown. It was really helpful to have Scott join the earnings call a few weeks ago because he specifically talked about some revenue growth initiatives. And rather than this focus just in the megadata companies really broadening the TAM, and he went through 3 things as well. One is building closer relationships with the systems integrators; two, the investment and penetration in cloud from a go-to-market standpoint; and then third is expanding the coverage into new industry verticals and the commercial market, which certainly it feels relatively new over the last year in terms of a focus for the company. Talk about how long you think it will take for these to have an impact. We see some impact in the near term, and which of those 3 could be -- could ultimately be the most impactful to the total revenue?

Yes. I mean, clearly, given where we are in the transition to subscription because that's largely behind us, right? And it allows us to start attacking some more opportunities we see in the commercial market and in our cloud market given the momentum we've seen there. So I think that has some near-term -- more near-term impact. Clearly, we have some thoughts on what we've been doing on certain analytics that we can extend into verticals. And so I think that has some -- the partner things are longer-term impact, to be honest, that's a multi-year impact on the partnering side but a very important thing that we're doing.

Okay. We were talking ahead of the presentation about just the impact of coronavirus. And obviously, there was a rate cut today. So many governments around the world are driving stimulus to offset the impact. But what is your view of the current macro and IT spending environment given everything going on in 2020?

Yes. I mean we -- as we came into the year, we thought it would be very similar to 2019. And that was clearly how we formed our view of the year. Obviously, we're keeping a close eye on the coronavirus. We don't believe we have significant supply chain disruption as a result of this so that part of it is good. Clearly, we're watching any impacts, particularly in APAC, although APAC is a smaller part of our business as it relates to the other 2 regions. And obviously, it's Q1, so we'll see what's happening. I think the bigger issue will be just how -- what starts to transpire, how does that -- does it start to affect the overall demand environment across all parts of the globe, which, if it does, then what does that do to demand environments, right? I'm walking around here, I hear a little scuttle about here and there, but I don't know if our company is going to let anybody fly anymore, or everybody can work from home or do whatever. And so just what does that do? If that starts to transpire, like in the U.S. or across major aspects of EMEA, what does that do to the -- the demand environment, right? Because, well, people say, "Hey, I can't have a meeting. We'll do a Webex." What does that all do? But that's not obviously unique to Teradata. That's come off the overall economic environment. So we will continue to watch it, see what happens.

The competitive environment has been a big investor debate. Obviously, both technology markets are evolving as workloads move to the cloud. Who do you view at this point as Teradata's prime competition? And how do you see your offering stacking up, particularly to some of the cloud-only vendors...

Yes. I mean our competition comes in 3 years. That really hasn't changed, right? The on-premise folks, and we've really seen no change there, and we compete very well there. You see -- we used to see things from the, what I call the open-source and Hadoop part, and that's clearly fading of what we've seen. And then there's obviously the cloud-only vendors. We compare very favorable across all 3 of those fronts because we provide a level of performance at scale that's unmatched in the industry, which then drives to a cost per query kind of concept that's very favorable to us. Obviously, as it relates to sort of the cloud vendors, we've got some work to do there in terms, I would say, of the usability, agility, not so much a performance perspective, but just the usability experience of that being able to do things in a more velocity-oriented model, which we're coming out with and have released in terms of demos and proofs of concepts, that's what helps us. Scott's gone after some of that commercial stuff where that will help on that front. But we are -- I think we're unique in the fact that we can address both our customers' on-premise needs as well as what they want to do in the cloud because our big enterprise-class customers are telling us that they're not lifting and shifting everything in mass they do on a Teradata into the cloud anytime soon. And we're uniquely able to address what they want to try to do on-prem as well as what they want to try to do in the cloud. We just need to be thought of as more relevant in the cloud, and that's a lot of the stuff we're working on.

Vantage is Teradata's new product platform. It launched a little over a year ago. How is that tracking versus your original expectations? And then just as a follow-up to that, what are some of the technological capabilities that you can add to that product to grow wallet share within your customers?

Yes. So we've been pleased with the uptick. It's roughly about 40 -- a little over 40% of our customer base today. It's -- the key there is both what we're doing on our customer success organization as well as our consulting org plays a big part here, right, to be able to show the customer what's available in that Vantage platform, how it can be leveraged to drive new analytics, the business impact that, that can have. That's candidly a multiyear opportunity for us, and it was always going to be an incremental driver for us over the course of several years as that starts to play out. So because it's encompassed with over 100 different advanced analytic functions, things like analytics around IoT and geospatial and time series and other things that go beyond just sort of the traditional Teradata, traditional database, the SQL engine to our machine learning engine to the graph engine. So all of those advanced things are incorporated into the database. And so that gives us an opportunity here over the next several years to enable customers to show how -- what can be done with it because it's -- there's a lot of functionality there that they're not using today. And again, that's where customer success plays a big role.

Is there any work that you need to do from a go-to-market perspective to drive greater adoption advances?

Well, I mean, we're building out the customer success org. That was something that didn't exist before. And when I got here, I felt like it was a key missing component. Scott Brown agrees, and we're sort of joined at the hip on driving that customer success part of our business, which is very critical in the subscription world.

The real core of the Teradata story over the last couple of years has been the shift to subscription. You're really most of the way through, though within that subscription revenue, you have true subscription, but you also still have maintenance on the back of perpetual. So as that mix shifts, where do you see the sustainable growth rate of your recurring revenue base?

Well, clearly, this market has grown in the double digits. And we feel, given what the capabilities in-depth and breadth that Vantage had, along with what we're doing, that we should be able to grow at least at that market rate.

And you were -- the recurring revenue base grew a bit slower than 10% last year. Do you think -- what's the time frame to reaccelerate into that double-digit growth rate?

Yes. I mean I think we see it coming, right? I mean as the Vantage product matures more, as we build out the customer success, as we have different deployment options, as we can uniquely address customers on-prem versus cloud needs, all of those things help drive this multi-year opportunity. We see across the customers and prospects that we go after.

Okay. And from a margin standpoint, at the 2018 Analyst Day, you talked about 65% gross margin in 2021. Within that, recurring revenue at 75%, consulting at 20%. You're a bit behind on those targets. Are those still reasonable levels? And what are your plans to expand margins from here?

Yes, there's no reason why we don't get to those margins. That's still in the long term. Yet clearly, we're off a bit on timing. '19 wasn't -- we didn't quite get to where we thought we were going to get to. So timing is a little bit better. Obviously, as we get the new CEO in place, I'll sit down with him or her and get their point of view. But ultimately, it's a mixed thing. So how much of this is on-prem versus cloud versus how much is software-only, because we're doing some things on with Vantage, particularly our area of focus right now is on VMware and running that in a software-only environment. So ultimately, that will have an impact. It's just what it is. And then ultimately, what's the recurring revenue mix here? How much of this is consulting versus how much is recurring? Is that 80-20? 85-15? 90-10? Clearly, what we're trying to do from a partnering perspective will impact some of that over the course of the next 3 years as well. But all of that will play into why we believe we get to 75% recurring revenue margins, 20% consulting margins.

And well, consulting is a little bit behind, in particular, last year on the margin trajectory. You also talked about making a decision to go after cloud business, which has lower margins. And so you're really investing in growth and giving up some margin in the near term.

Right. I think that's a trade-off we gladly make, right? I think one of the biggest things that we hear from investors there, was like are we relevant in the cloud? And to the extent we show more traction there, I think that would more than make up for any slight impact to margins. That would be a trade-off we'd gladly make.

Absolutely. From a free cash flow standpoint, when any company goes to these subscription transitions, free cash flow is depressed for a few years, but ultimately comes out higher than where the company started in your perpetual model. Looking historically, Teradata used to generate in the $300 million range. Is that -- how do you think about the right target for long-term free cash flow?

Yes. I mean, yes. I think we're there plus, right? And they did have a few years where it got close to $500 million or slightly over. But the way we think about it is we think free cash flow starts to track towards what your operating income level, at least at the operating income level. And then beyond that, which is why we think free cash flow gets back into that 20-plus percent of revenue range here over the next few years. And as we're obviously coming out of '19, where we said that's the bottom on free cash flow, we're turning that corner now and it starts to build from here.

In terms of fine-tuning the subscription model, you've made some changes to sales compensation over the last couple of years. Do you feel like you're on the right commission structure? Or are there more changes you need to make to incentivize the shift?

No, we've done some gradual shifts, right? I mean when we started -- when I showed up, there was clearly some things that needed to be changed to win the hearts and minds of the sales force to sell subscription over perpetual, which we did. And last year, we became a growth ARR component. I'd say the one kind of minor tweak we did for 2020 is to make sure the right kind of consulting being done in the business, and there was a bit of a tweak there because that's very important that we're doing the right kind of consulting versus consulting for consulting's sake. And that -- those were it. So nothing wholesale that needs to be done here.

Teradata's solution is in integrated appliance, and a lot of investors new to the story, don't necessarily appreciate that Dell servers and NetApp storage branded as Teradata. Is it -- why is it important? Is it important that you provide an integrated solution? Is there potential to move towards more of the software-only model over time?

Yes. So clearly, we bring a lot of value to that hardware, right, in those relationships. And our customers are asking for an integrated solution in an on-prem world. Obviously, in the cloud world, it's running on whatever infrastructure that, that cloud provider's running on. But -- so yes, it's Dell, it's NetApp, it's Mellanox and others. Because we provide a level of performance for high and high-performance complex use cases that's unmatched in the industry. Now having said that, as I mentioned earlier, one of our key focus areas is also to work with partners, particularly around the software-only version, which we're doing. A big area of focus this year is on VMware, which is a software-only version.

And did that -- that runs on any type of hardware?

Yes. We don't know what the underlying hardware that, that customer is going to run it on, but...

Okay. And is that joint go-to-market with Dell?

No, not today. Not today, but we're working, obviously, with Dell on that front.

Okay. Certainly, with the stock price performance over the last year, there's a lot of investor interest as to what you can do to unlock value because if you ultimately execute on the subscription transition, the free cash flow targets that you just highlighted, there's significant upside to the stock price. But obviously, going through a transition creates a lot of volatility and has impacted the stock price. So one of the questions I get is, is Teradata strategic asset, is -- does it make sense for Teradata to become part of a bigger company that has a broad go-to-market? Or would there be a benefit of Teradata going through some of the execution and subscription transition as a private company? What's your thought about some of the strategic alternatives that could unlock value?

Yes, there's no question we provide significant value to our customer base that we believe is recognized by our customers in the marketplace, right? And so you'd have to ask the strategic vendors whether they believe this thing is a key asset. We know we drive unparalleled value to our customers, that's why we've been around for 40 years. In terms of the other part of your question, we -- we're doing quite a bit, right? And so these transformations are noisy. But we've largely made that model transition. We ended up at 89% subscription in '19. We ended up with $106 million of perpetual. So the biggest impact to that change are behind us. And so having the company go private to sort of work through that, probably that time has passed given where we're at, to be honest. But...

But just in the back, the clock isn't working here. So if you can put up the time, just so that I can manage it. But let me ask one more question and we'll see if there's any questions in the audience. We've talked a lot about what you're going through in the business. What do you think is most underappreciated or most misunderstood by investors?

Yes, I think there's 2 things, really. I would say the momentum we have in the cloud, our cloud business is growing. It's accelerating. We're doing some really good things there. I think that's not well understood or appreciated, one. And two, I think Vantage in the depth and breadth of that platform and what it enables. Clearly, it enables some very complex things, right, a lot of advanced analytics. It has over 100 analytic functions integrated into that database and so forth. And the opportunity that, that presents with us with our customer base to go after that which were, again, our customer success org, our consulting org plays a key part there of how we can drive that on a multiyear opportunity as we enable and show what's available to customers, how they can take advantage of it, what the business value impact is. I don't think that's well understood either. Those would be the 2 key things that I think are very misunderstood.

Okay. Let me stop there and see if there are questions. There's one in the back here.

Do we have a microphone?

She'll bring the mic.

I have 2 questions. First question is, as you transition from -- to more to serving clients in the cloud, so what are the challenges? You said one thing is margins. But obviously, you can offset that, assuming if you can operate at a lower cost. Now that's why I'm asking, what is the 2 challenges? Are you facing 2 different sets of clients in terms of requirements?

So in the cloud, there's a couple of things there. Yes, the economic model, as it scales, improves over time, clearly. But also important is just the ease of use and the agility of the cloud product is very different than an on-premise product, and you got to think about that differently. And I would say those are the 2 key things that we are highly focused on.

So does it make sense for you to focus on 2 type of clients, cloud and on-premise?

So yes. Most of our customer base is trying to figure out their journey of what do they want to maintain and continue to do on-premise and what do they want to do on the cloud, and we uniquely address both of those. There will be some customers that are going to do only things in the cloud, and we want to be able to play there as well. We have the best data management platform or whatever you want to call this Teradata platform. It's the best in the business in the on-premises world. There is no reason why it can't be the best in the business in the cloud. And that's the journey we're on, and we're going to make it be the best in the business in the cloud as well because we drive a set of performance and analytics that the rest of the industry doesn't do.

Any other questions? Just back to the subscription transition, the international revenue was down more than the Americas last year. Is that a sign that those customers are behind in the transition? Are you starting to see that subscription pressure in international markets? Or is that just a macro statement?

No, that's -- I think that's a lot of what you see in traditional tech companies, right? International always tends to lag what you see happen in the Americas. And so that was a big headwind in our international business because they moved in a major way to subscription in '19, across '19, which we are very pleased with, from where they were in '18 and even '17 when I joined late '17. So that's moved very nicely. And so that headwind, while it was pretty significant in '19, starts to decline now as we get into '20.

Okay. And then just to wrap up, as we started out, there were some execution issues last year, but you have a new team in place. You've laid out the plan to improve operational execution and go to chase new customer sets. What's your confidence level in sort of your visibility and your ability to execute in 2020 relative to 2019 as a company?

Yes, we feel much better. We're much better positioned coming into the year, whether the comments I made earlier around go to market, what we're doing on the product side and so forth, that gives us a lot of confidence that the plan we've laid out is achievable, right? So we feel good about what we see building across the year. And as we execute out of this year into 2021 across all these transformations, I've always felt these transitions, there's a big inflection point that's occurred. If you look at the -- I don't know, pick a 10 or 12 big public companies that have gone through this, and you look at their journey and what were those metrics like and when did people really start to believe and so forth. And I asked the -- your investment banking colleagues to come in and because I had a thesis and said, could you model this out for me? And they gladly accepted and came and it played out. It's these things tend to move in a major way when subscription revenue crosses over that 50% of total revenue mix into that 50% to 60% range. One of the reasons why we break down our ARR by component is so people get a sense of where we're at, right? And our subscriptions, 49% of our ARR, means it's low 40s as a percent of total revenue mix because of consulting. But we're going to hit a point over the back half of 2020 that puts us on a path in 2021, where subscription revenue is going to be greater than 50% of our total revenue mix. And to me, that's a huge milestone that -- the reason why I joined the company back 2 years ago was to get us to that because if it plays out like the rest of them, then you see the expansion in market cap and those ensuing 2 to 4 quarters when a company clicks through that move in a major way. And we're really close to making that happen, which is why, again, the time to do this as a private company is probably behind us because we're coming out the other side.

Good. That's a great place to end. Thank you so much for your time.

Thank you, Katy. Appreciate it. Thank you, everyone.