Teradata Corporation (TDC) Earnings Call Transcript & Summary

So we'll get started here. It's 8:35. Good morning, everyone. My name is Erik Woodring. I lead the Hardware Research Team here at Morgan Stanley. I'm delighted to have Steve McMillan with us today, CEO of Teradata. Had a lovely dinner last night, but he's been around a number of different technology companies; F5, Oracle, IBM, but we're delighted to have you here representing Teradata. So welcome.

Thank you. Great to be here.

So again, I think last time we talked about kind of a company that has gone through a transition, so to speak. And so you joined in the middle of the pandemic, in the middle of kind of this period where the company was shifting towards the cloud. Maybe just to level set for everyone kind of why -- what drew you to the opportunity? And what are some of the biggest changes that you've made since taking the seat up to where we are today, and we'll go from there.

Yes, I joined Teradata in June of 2020. So 3 months into the pandemic, so a virtual CEO introduction. So I've been in the IT industry for over 30 years. And really 3 things drew me to Teradata. One, if you look at the technology marketplace, there's no more exciting marketplace than data and analytics. And Teradata has a long history in terms of data and analytics. You could say Teradata invented the enterprise data warehousing space. So Teradata is a 40-year-old company who created that category of technology. The second reason was the technology itself. When I spoke to, when I did research in Teradata before joining the company, I spoke to a number of customers, and they basically described Teradata as the 1,000-pound gorilla from a technology perspective. The Teradata technology does things for our customers that no other technology could do, and a lot of that technology is very highly patented. And so that gives us a unique position in the market and that technology and the potential of that technology to transform and modernize that into a cloud context was very interesting from my perspective. And something -- if you look back through my career, it's always been around helping customer -- helping companies transform and become a cloud-first company and so I saw that opportunity with Teradata. And the third thing is really about the culture of the company and the people inside the company. As I spoke to customers about Teradata, those customers describe the people and the employees of Teradata as partners, as people that are really woven into their environments and their ecosystems. And that level of customer engagement, customer understanding gives a phenomenal base for an organization to operate from. So I think about it, those are probably the 3 key reasons and then those kind of added up to a potential. When I joined the company, our cloud business was fairly nascent. And if I look at the results and acceleration of the move to the cloud, it's been tremendous over that period. Again, I've worked for a lot of organizations, IBM, Oracle, and we would declare we're going to be cloud first, we're going to be a cloud-oriented organization, but nothing would really change. What we did from a Teradata perspective is we actually put wood behind the arrow of becoming a cloud-first organization. And we inverted our research and development envelope that was 70% dedicated towards on-prem and 30% in the cloud, and we moved that to 70% in the cloud and 30% on-prem. And so that transformational opportunity was there to drive a completely different performance curve for the company.

Perfect. Great. Great start. A lot to cover in there. Maybe let's address, maybe one of the bigger debates that we hear about. It's just competition and so -- but I want to frame it with Teradata in mind. So how is Teradata differentiated? What differentiates Teradata relative to other cloud-native data warehousing and analytics offerings? What from a technology standpoint, really, really drives that differentiation? And maybe if you just can again frame it from a cost perspective, I think that's helpful.

Yes. So a couple of differentiation points. We are truly a multi-cloud data and analytics platform. So our cloud solution runs in all of the CSP, natively in all of the CSP, so across AWS, Azure and Google and actually runs on-prem as well. So that multi-cloud capability is unique when we compare to certain segments of competition like the CSPs themselves or some of the cloud-native providers that don't have an on-prem capability. When I think about it in terms of the commercial value proposition that we offer to our customers, there's a couple of dimensions that enable Teradata to be very competitive. One is that our overall cost of running Teradata and cost per query is a fraction of our competitions. And we highlighted some of that data in our last analyst and investor meeting. The way that we do that is by utilizing some of the patents and capabilities that we have from an on-prem perspective where you're running in a very fixed capacity or limited capacity environment. And you have to get the absolute most out of all of the compute and storage in that environment. And when you take that to a cloud value proposition, it means that you can have tight financial governance across the cost of your data warehouse. And so our cost of execution in the cloud is very optimal. And when we combine that with the highest performance technology engine for executing the world's most complex queries, we have a unique ability to take the world's most complex workloads to the cloud. So a good example of that would be American Airlines. So we took the entire American Airlines data warehousing capability, which runs mission-critical flight operations, passenger ops, and we've moved that to the cloud in conjunction with Microsoft, landed it in Azure and took all of their query capability and an incredibly successful project in a very short period of time to actually run that workload in the cloud. And so we are the fastest time to value, we would say, in terms of being able to move workloads from on-prem to the cloud. And if you think about the cloud service providers, their key objective is to move as much from on-prem data centers to their cloud before another cloud service provider can grab that workload. And so working with a company like Teradata, those CSPs see a real opportunity for moving workloads from on-prem into their cloud solution.

Perfect. So another kind of key topic these days is just the macro, right? Obviously, last year, grew cloud ARR 80%. There were some FX and Russia headwinds, obviously, that were well spoke to. We talked about this. I spoke to Claire about this a year ago today. But there have been some companies that have pointed to enterprise spending weakness, elongated deal cycles, just are you seeing any of this? Maybe talk through some of your customer conversations, what you're hearing from that side?

Yes, no doubt, there's increased scrutiny in terms of enterprise deals and enterprise deal execution. I think we've got a number of benefits in terms of our conversations with customers. One is that when I talk about a strength of Teradata being the people, we are very much ingrained in some of the largest organizations in the world. So we know what their workloads are, how they operate. And even in a macro economy where there is challenges, customers still want to take advantage of the modern capabilities of the cloud service providers. And so we give them the optimal way to move their on-prem spend to the cloud and a commercial construct, which is very attractive because the CSPs will essentially give credits towards that migration and execution. And so from a cost perspective, we give an opportunity for customers to take advantage of new cloud capabilities and shift spend from on-prem to the cloud and increase the capabilities of their overall environment. And so because we know and understand the customer base, we can put together a very compelling value propositions that are -- that help our customers optimize their overall spend. And a lot of these customers have made commitments to the cloud service providers in terms of tens of millions or hundreds of millions of dollars, and they can offset that spend commitment to those CSPs by moving Teradata to that CSPs environment. And so there's a number of different factors that enable us to work with customers to give them even in challenging financial times an economic value proposition for them to move that workload to the cloud and get all the benefits of Teradata and the cloud that we're having on-prem.

Perfect. So let's talk about Cloud ARR. So it grew 80% last year. You're guiding to 53% to 57% growth this year. You still think this is a $1 billion business by 2025. Talk to me about in 2023, what are the factors that's driving that growth, migration, expansion, new logos? And then maybe, again, as we get further out closer to 2025, how that might -- how the drivers might actually change?

Yes. So in 2023, the reason we have confidence in terms of our 2023 guidance is because a lot of our cloud growth is actually going to be funded from that migration from on-prem to the cloud. And we have that tight integration with our customers so that we know what their plans are for that workload and how they plan to move that spend from on-prem to a cloud environment. So a lot of our business in 2023 is going to be driven by migration. What we've continued to see, as we've moved customers from on-prem where customer spend in the market overall is kind of flat, if I can generalize in terms of that overall market share. The on-prem market is flat. The cloud -- the data growth is really happening in the cloud. And so as we move that Teradata ecosystem from on-prem to the cloud, we start to get the benefit of that cloud growth, which is why you see an expansion rate of about a -- a net expansion rate of about a 120% for our cloud ARR. And so as cloud becomes more and more meaningful part of our overall P&L, $360 million or so when we exited 2022, as that becomes more and more a part of our overall recurring revenues, the growth associated to that will power our overall growth. And then finally, before I joined the company, Teradata had a strategy of essentially executing against the existing customer base. Over the last 18 months or so, we've introduced a new logo engine into the business. The impact of that new logo engine is not a material part of our guidance for FY '23, but we've started to see a continuing increase in take-up of new logos as we went through '21 and '22. And now we will start to see that accelerate. And then as we move out, I think we were one of the few technology companies that put out a '23 guidance, but then recommitted to some key metrics for 2025. And the reason that we felt confident in terms of recommitting to those metrics for 2025 is because our 2023 guidance set a glide path essentially to achieving that 2025 number in terms of having over a $1 billion of cloud ARR. As we move forward, as the cloud business grows, our expansions in the cloud and our new logos become more meaningful in terms of our growth trajectory. But the macroeconomic environment, I think, just now is causing a few things for technology companies, technology companies that are entirely based around consumption, I think, are going to have a challenging year this year. One of the benefits from a Teradata perspective is a lot of our contracts are actually fixed capacity contracts in the cloud with consumption on top. And the reason that -- the reason our customers do that is because when they look at their on-prem systems, their on-prem systems are running at an incredibly high rate of utilization, so 99%. And so when they move to the cloud, they want to contract for all of that in the fixed capacity bucket because the unit cost in that fixed capacity bucket is less than the unit cost of consumption. And so that gives us both revenue stability at the customer level. But when we cumulate that up, we've got incredible revenue stability in terms of the overall business. So in times of macroeconomic challenge, we're less impacted by customers reducing discretionary spend because of that fixed capacity commitment that they've made to us in the cloud.

Okay. Very good, very good. So a point of pushback that I get, I'd love to just kind of get your response to this is that Teradata is essentially taking one bucket of revenue, your historical on-premise bucket of revenue and just moving it into a different bucket, right? Cloud ARR. But collectively, you're not actually growing as a company. Just -- you're just repurposing from on-prem to cloud. Kind of what's your response to that? What's your pushback to that pushback?

Yes, we hear that too. So -- but I think if you look at -- if you just look sequentially from Q3 to Q4 from a last year and execution perspective, we grew our total ARR by a $100 million sequentially from Q3 to Q4. If you took out the impacts of Russia, as we exited the Russian marketplace and currency, our on-prem business was fairly stable. And we saw really good growth from the cloud side of our business. So that 80% growth in 2022, guiding to 55% growth in 2023 for the cloud business. As the cloud business becomes a more meaningful part of our overall ARR, we're going to benefit from those highly accelerated cloud market growth numbers. So you can see that in terms of the 120% net expansion rate and in terms of our cloud business. What also happens when we look at our customers and they migrate from on-prem to the cloud, they usually increase capacity as they move from on-prem to the cloud because they know that we're one they want to get the benefit of the negotiation in terms of that initial contract in the cloud, and they want to have that incremental capacity as they land in the cloud. So we see a number of different growth factors that are going to positively impact the business and grow our total ARR for 2023. We set a guidance for 2023 that we are confident in terms of delivery. So it's -- I think it's a well-balanced viewpoint from a growth perspective for 2023.

Okay. And then maybe following up on that and thinking longer term is you still do have $850 million of on-prem ARR. I would imagine that from your perspective, that doesn't go to 0, right? Your customers are so big and complex and have multi-cloud environments. How should we think about the trajectory of that on-prem business longer term? Is there a point where it stabilizes and then grows? Just help us think about maybe what that curve could look like over a multiyear period maybe?

Yes. From an on-prem perspective, I think you can see that as -- if you model that, it's kind of flat, right? And that's kind of the market. We think that we can probably grow 1 to 2 points from an on-prem perspective. But modeling it kind of flat is probably the right thing to do, especially in this environment in terms of looking at customer spend. So it's a very stable base. The other point I would make is if I look at our customer base, about 60% of the customers that are in the cloud with us are operating in a hybrid environment. So they've got both on-prem and capability in the cloud. And again, that is a unique position in terms of being very sticky in our customer environments as we were running mission-critical workload, our competition can't really span from on-prem to the cloud as well as Teradata can. A good example of that is some of the banks in the U.K., the U.K. government has a condition called stressed exit, where the banks have to be able to demonstrate that they can move away from a single cloud service provider into another cloud service provider or back into on-prem. Teradata is actually uniquely positioned, I think, to be able to offer that value proposition to some of the largest financial institutions in the world.

Okay. So let's pivot slightly. You launched VantageCloud Lake last August, I believe it was, I remember, at the New York Stock Exchange. It's cloud native, it's consumption. How is it complementary to your kind of pure Enterprise Vantage platform? And then just talk to us in terms of what type of customers is this offering for? Is this new? Is this existing? A mix of both? Help us understand that.

Yes. We're really proud of the product launch at the end of August. It's the culmination of hundreds of millions of dollars of investment from a research and development perspective. It is a complete reengineering of the Teradata technology that was on-prem and to a true cloud-native capability. And so if you look at the most recent Gartner reports, even without VantageCloud Lake, they rank Teradata the best data lake, the best data warehouse, the best logical data warehouse, the best analytical capability. But the VantageCloud Lake and ClearScape Analytics actually provides a whole new set of capabilities for our customers to be able to execute experimental workloads to deploy a massively scalable and high-performance data lake solution and say their environment. It enables investigatory or experimental workloads so that customers can utilize AI, ML capabilities in a highly dynamic environment. And so that new launch and that new architecture, which we launched on AWS at the end of August, we're coming out in Azure at the end of second quarter, is a capability that a lot of our customers have been waiting for and waiting to take advantage of. And it really opens up a whole new set of use cases, both in terms of our existing customers, but it gives us the ability to go from start to scale for organizations of all sizes. Our target market segment is always going to be the G 10,000 because our value proposition in terms of high performance and scalability resonates incredibly well with the G 10,000, but it enables our new logo sales team to actually go in and get a small footprint inside a customer and utilize that from start to scale in terms of a true enterprise solution. And so it's pretty exciting in terms of what that's going to open up. I was talking to one of the large banks recently who made a significant commitment to us in third quarter. One of the reasons that they did that was because they saw that our cloud lake capability was the most scalable lake solution to address their performance requirements in the cloud. And so given that path for our customers to the future, to have a future point of view around data warehousing technology and data lakes and the cloud was a real reason that they committed to us to move to the cloud with Teradata.

Got it. Good. So again, maybe pivoting a little, let's talk kind of go-to-market. In 4Q, you talked about I think it was 75% of your largest cloud deals were won with partners. You've obviously rethought about the mix of consulting versus enabling the SI. So maybe just help us understand, talk about these relationships. Why are they so important to your sales engine? How you've changed things and why that means success going forward?

Yes. This was really a 180-degree pivot in terms of company strategy. If you looked at Teradata, Teradata had actually grown as consulting and services business to 800 or so millions of dollars and the SI community actually saw Teradata consulting and services as competition. When I came on board, one of the commitments that I made to the head partner in Deloitte for data and analytics and the head partner in Accenture for data and analytics is that Teradata would not compete for consulting an SI work because it wouldn't surprise you. If you actually compete with the Deloitte or an Accenture for SI work, they don't recommend you as the technology platform for their customer. And so we habited the entire company to be partner first in terms of our execution in the market. That was a big pivot for our sales force to go through a big investment that Todd Cione, our Chief Revenue Officer, executed through on. And that number is something that we're incredibly proud of in terms of 75% of our major transactions had an SI working alongside of it to actually get the best solution for their customer base. And so it's a real pivot for the company and I think it's going to open up more market opportunities as we move forward.

Cool. Definitely a pivot. So let's talk kind of financials. One that I think is very important, we're just talking about free cash flow. By 2025, you've guided to, call it, $450 million of free cash flow. Now to be fair, Teradata hasn't done that for almost a decade now. Obviously it's a very different company than it was a decade ago. But help us understand maybe from like a revenue or a margin or a working capital perspective, what we need to see to -- or what you need to see for Teradata to get to generating that level of free cash flow?

Yes. So just from a Teradata perspective, and there's not many data and analytics companies that would say this to you. We are a profitable growth company. We are not growth at any cost. And so we look at our profitability and generating profitability and that growth envelope and making sure that we are investing our cost and expense envelope in the right way to drive the right kind of profitable growth for the company. The free cash flow generation, I'm incredibly proud of the free cash flow generation that we've executed around $400 million or so of free cash flow in 2022, and we see that path and roadmap to get into that $450 million by 2025. It's going to be driven both by top line growth, which we've already guided to for 2023, but also continuing margin improvements. As we scale out our cloud business, we continue to improve the gross margin of our cloud business as we move forward. And as that revenue stream becomes more and more and the profitability starts to increase, it will generate more free cash flow.

Okay.

And so if you think about that from a shareholder perspective, we committed last year that we would return at least 50% of our cash flow to our shareholders. We actually returned more than 90%. At the end of the day, there wasn't much from a merger and acquisition perspective to utilize our cash in that seems like an attractive buy. As you saw the valuations across the industry go through the roof in 2022. So returning, I think we ended up returning more than 90% of our free cash flow to our shareholders in 2022. We actually -- as we look to 2023, we've committed to return more than 75% of our free cash flow to our shareholders and our capital allocation strategy for 2023. So we are super excited about that. We believe that that gives our shareholders the ability to participate in the success of the company as we move forward.

Okay. So you basically answered my next question. I'm still going to ask you the same question, but slightly different now is, so you've raised your shareholder return targets. Maybe just help us understand, as we think about capital allocation, what is the priority? If you kind of just touch on each of the different pieces as we think. And how is that different from 2021, if at all, when you had the Analyst Day?

Yes, I think we -- I think what you see in terms of our overall business is the confidence that we have in the fundamental financials of Teradata. And the fact that we can set these guides in terms of what we plan to do from a shareholder return perspective. And that confidence really is based on the confidence that we have in the topline because of the commitments, the contractual commitments that we have for our customers, the lack of dependence on a consumption model. As an example, the demonstration that we've had in terms of how we manage cost and expense, the outlook we have in terms of how our CSP spend is going to move into the future. And so from a capital allocation perspective, it was a very natural thing for us to do it. Now if there's a great M&A opportunity or an acquisition, which we believe will be incremental to the value from a Teradata perspective, we will reserve the right to invest our cash in that way. But we wanted to give our shareholders an indication of what we are planning from a capital allocation perspective for 2023.

And just quickly, when you talk about M&A, are there specific targets? Is it technology? Like just help us understand, what would be -- what are you looking at? I know it's probably a wide range, but just help us, give us an idea of maybe if you were to approach that path, is there anything you have in mind, not company specific, but just?

I think what we'll be looking for is things that are tangential to the value proposition from a Teradata perspective that help with that exploitation of the lake environments inside our customers, analytics environments inside our customers. We had a big launch around ClearScape Analytics, which really drives an AI and ML capabilities inside our customers. And so that -- there's a lot of interest in that in the marketplace just now. And I think if there was a tuck-in technology capability that was interesting, then that would be something that we would look at. We continuously stand in the marketplace for those kind of opportunities. We've got a lot of capability that we are releasing through this year in terms of our organic growth because we think it will power organic growth. But we are always on the lookout for a great investment.

Good. So we have about 1.5 minutes. I'm sure you could -- we could spend the whole time talking about this. But AI is -- I wanted to save this for the last, AI is the talk of the conference, at least so far. Does -- has anything changed from your perspective? Obviously this has been -- you've been on the forefront of this topic for a number of years now. But how is the landscape changing? Is it accelerating your value proposition? Just help us understand how the recent hype is translating into any changes from your perspective?

Yes. I think AI and ML, in order for it to be meaningful and relevant for our customers, has to be based on great data and Teradata has always been the custodian of trusted data for the largest enterprises in the world. And so I think I said on the last earnings call, artificial intelligence without great data is just artificial. Yes. So it's really how do you -- how do we enable our customers to operate artificial intelligence and machine learning at tremendous scale against trusted data to give them the outcomes that they are looking for. The Teradata platform enables execution of ML ops and model ops better than any platform in the world and our open integration to lots of technologies like R and Python, AWS SageMaker, Dataiku, H2O.ai enables us to really provide a complete capability for our customer set.

Perfect. You ended exactly on time. Thank you very much. Thank you, guys, for attending.

Thank you very much. Thanks.

All right. Thank you.