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SecureWorks Corp. (NASDAQ:SCWX)
Q4 2020 Earnings Call
Mar 27, 2020, 8:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good morning and welcome to the SecureWorks Fourth Quarter and Full Year Fiscal 2020 Financial Results Conference Call. [Operator Instructions] We are webcasting this call live on the SecureWorks Investor Relations website. After the completion of the call. A recording of the call will be made available on the same site. At conclusion of the company's prepared remarks, there will not be a live Q&A session.

I will now turn the call over to Paul Parrish, Chief Financial Officer. You may begin.

Paul Parrish -- Chief Financial Officer

Thanks everyone for joining us. With me today is our CEO, Mike Cote.

During this call, we will reference non-GAAP financial measures including non-GAAP revenue, gross margin, operating expenses, operating income, net income, EPS, EBITDA, adjusted EBITDA and adjusted free cash flow. A reconciliation of these measures to their most directly comparable GAAP measures can be found in our web deck and press release. Please also note that all growth percentages refer to year-over-year change unless otherwise specified.

Finally, I'd like to remind you that all statements made during this call that relate to future results and events are forward-looking statements based on current expectations. Actual results and events could differ materially from those projected due to a number of risks and uncertainties, which are discussed in this morning's press release and our SEC reports.

Now, I'll turn it over to Mike.

Michael R. Cote -- President & Chief Executive Officer

Thanks, Paul. Before we get started, I want to take a moment and express a personal thought. I know it's unusual for an earnings call, but we're in an unusual an unprecedented time in our world's history right now. I'd like to extend my prayers and heartfelt best wishes to those around the world who are dealing with the COVID-19 crisis. I know many people are experiencing illness and loss and our thoughts and sympathies go out to them all. As the CEO of a global security company, protection is always at the top of my mind, whether that's protection of data or our customers or our team, we are a global company and our teammates, partners, customers, family and friends worldwide are being impacted in many ways. There is and will continue to be a business impact felt globally. But I believe the human spirit is strong and we will come out of this test with new insights, new strength and a stronger community for all.

Now I'd like to transition and talk about SecureWorks, our transformation and our plans for the year ahead. This time last year, I laid out SecureWorks vision for changing the security industry and our role therein. I'm pleased to provide an update on our traction on today's call, more recently, I talked about three areas where I felt our future was bright. First, the release of our SaaS-based product Red Cloak Threat Detection in Response or TDR and our Managed Detection & Response or MDR service wrap [Phonetic]. Second, the way our new offerings are more natural fit with the Dell Technologies sales team and with channel partners. And finally, I introduce new leadership teammates. Ian Bancroft, our Chief Sales Officer; Steve Hardy, our Chief Marketing Officer; Maureen Perrelli, our Chief Channel Officer; and Paul Parrish, our Chief Financial Officer.

Now let's talk about the SecureWorks advantage. The explosion of data, devices and connectivity is expanding the attack surface. At SecureWorks, we believe in a collaborative approach to cyber security and formed by the sharing of analytics, data and intelligence, coupled with industry leading technologies. This collaboration drives us to innovate and create new technologies that are simpler, faster and more capable. All of this drives long-term value for our customers with the unique approach designed to be consumed the way customers want based on their business needs. We can do this because we are a security company bringing solutions to market through software. Not the other way around. And after more than two decades, continuing to be a trailblazer in this ever changing industry is more important to our customers.

Our purpose is to secure human progress by outpacing and out maneuvering the adversaries. We believe our industry-leading model will define the future of security. We live our vision by addressing customers' mission critical security challenges. Challenge number one, the game is continually changing. The number and sophistication of adversaries and the number of successful exports is not falling down, nor is it growing too. Our solution based on over 20 years of experience and insights, we secure our customers with the actionable intelligence and context they need to efficiently operate their security programs.

Challenge number two, prospects tell us they often feel alone in the fight. Our solution, our platform and global network brings the community together to accelerate the benefit of the network effect across our customers, our solutions and our services. Challenge number three, there are not enough trained personnel for every company to have adequate staffing. This shortage of security expertise to investigate the growing number of alerts leaves companys vulnerable. Our solution, we have the best trained team focused solely on cyber security, which includes threat intelligence, incident response and security operations capabilities that leverages the power of machine learning to automate tasks at scale.

Our customers are looking for technology solutions which work together can be scaled as their business needs change and can provide actionable insight. Businesses need security to be an accelerant to their work, not a source of friction. Leveraging deep industry partnerships, we work across the customer security product landscape time together on a holistic security program. I am proud to say that SecureWorks is the business partner that customers can rely on to secure their cyber assets in the digitally connected world. So we understand the challenges customers are facing today, how specifically the SecureWorks build solutions that meet the needs, we give customers the speed and scale of machine learning along with crowd powered data and analytics. We work with customers in a way that makes sense for them. We do this by decoupling our software applications and services layers.

Our services, we believe our customers are looking for access to unique detection and response capabilities, advisory consulting and Incident Response. Our applications, we deliver solutions that can work with leading security products. This inclusive approach brings more efficiency and a higher ROI to our customers. And our customers are choosing SecureWorks. Paul will talk more specifically about the numbers, but I want to tell you about some things which make me exceptionally proud of our team and grateful for the customers, who we continue to partner with to secure their businesses. And together, we can use technologies securely to drive human progress.

Let's start with those customers. Take for example, one of our customers that is a large orthopedics company. Their organization experienced tremendous growth in both size and technology over the last year. They were looking for a company that would protect their growing environment at scale. We beat the competition because of the strength of our end-to-end capabilities and a combined go-to-market effort with Dell Technologies. This is a perfect example of SecureWorks and Dell partnering together to meet and exceed our joint customers needs.

Another new customer example, I'd like to share is a large pharmaceutical company in North America, who selected us on a $400,000 MDR deal. This customer saw value in the visibility gained across their entire environment and the ability to leverage SecureWorks for investigation and response efforts. SecureWorks ability to automate containment and prevention actions added tremendous value sealing the win.

In Q4 we closed 72 Managed Detection & Response or MDR deals on our new platform, up from 19 in the previous quarter, demonstrating the great traction and momentum we're seeing for our SaaS-based solutions. Our Q4 annual contract value was value was the highest in our two decade history. And our security analytics application solutions, TDR and MDR, are Secureworks' most successful launch. Why are we seeing customers shift to Secureworks? It comes down to providing the right solutions with the right intelligence and partnership with our customers. We are targeting our best-in-class combination of software and skilled professionals to uniquely address the needs of our customers. Before we go deeper into our financial results, I'd like to spend a moment and talk about our strategy. As I said earlier, security is in our DNA. We were born a security company. It's who we are and who we will always be. Now, as we pivot, we are bringing security to the market through software that can be consumed by customers in a variety of ways to meet different needs. We've been clear from the onset that we're in the midst of a transformation. Our vision is to be the essential cybersecurity company for a digitally connected world. That means we'll continue to innovate with our products, services and integrated solutions, and we're underpinned by one of the industry's most respected counter threat intelligence units. We are committed to putting our customers first in all we do. Additionally, we will continue to, one, make investments in our technology platform to continue driving our transformation. Two, enhance our reputation as a premier differentiated solution provider. And three, continue to provide exceptional products, services, solutions, and rapid threat response for our customers. We are unique in this industry and it positions us well for success as cybersecurity becomes more important in a digitally connected world. Here's how we're differentiated. Our heritage is security operations. We have proven workflows. We know how to make solutions that get the job done because we have the telemetry, automation and expertise to detect and remediate faster than anyone. In the last 20 years, we've grown as the need for cybersecurity has grown. We truly believe we have superior analytics, threat intelligence and network effect. Our cloud native platform is the right backbone for our strategy. It works with leading vendors' products. We can work with our customers right where they are and secure them better. As I think about what's ahead in fiscal 2021, there are a few areas I'm particularly excited about. Our software solutions with integrated threat intelligence that can be delivered stand-alone or with services. We can do this ourselves and soon through partners. We are overhauling our marketing capabilities with new talent, a renewed focus on digital demand generation and pipeline acceleration. We're continuing to strengthen our sales training, enabling them to ensure we're meeting the ever-changing needs of our customers against the dynamic backdrop. We offer great software with a superior customer experience. So, customers can have collectively smarter technology that enables them to be exponentially safer. We have reoriented our North American sales force to focus on new customer acquisition, while continuing to build deeper partnerships with our existing customers. And we are seeing early proof points that we're gaining traction. While we have historically sold direct, we realize more companies around the world need the SecureWorks advantage. So, we are focusing on expanding our reach through our channel program, which is sharing our market leading security expertise, so partners can leverage our products and services to sell their customers a complete security solution. No one else has the 20 years of cybersecurity operations experience to put together a complete solution like we can. I believe there is nothing like what we offer out in the market today. Again, I want to thank each and every one of my SecureWorks teammates who work to protect the world on behalf of our customers, particularly during these very challenging times. Now, I will turn it over to Paul to take you through our full financial results.

Paul Parrish -- Chief Financial Officer

Thanks, Mike. FY '20 was a good year in many ways. We saw improvement in our operating leverage, delivered positive adjusted EBITDA each quarter for the first time as a public company, now reaching seven consecutive quarters of positive adjusted EBITDA, and generated record cash flow from operations. We maintained our strong financial position, while investing in our new security solutions and related go-to-market efforts, as you just heard from Mike.

In the fourth quarter of FY '20, revenue of $142 million exceeded the top end of our guidance range and represented an 8.6% increase over Q4 FY '19 and 0.5% increase sequentially. Gross margin as a percentage of revenue was 57%, increasing from 56% in the prior year, and we generated $43 million of cash flow from operations in the quarter, primarily on improved collections of accounts receivable. We exited the quarter with annual reoccurring revenue of $437.5 million and we closed a record 21 deals with a total contract value exceeding $1 million in the fourth quarter.

Revenue from our managed security solutions, including increased revenue from Dell's SafeGuard and Response offerings, grew 10% year-over-year and comprised 76.3% of total revenue. Consulting revenue increased slightly year-over-year, primarily in our incident response and technical testing offerings. Finally, revenue outside the US represented 26% of total revenue in the fourth quarter, up from 24% of total revenue in Q4 last year on consistently strong growth in the UK, Middle East and Japan.

Gross margin totaled $81 million in the fourth quarter of FY '20 or 57% of revenue, a 98 basis point increase from the prior year. In Q4, severance costs negatively impacted gross margin by approximately 100 basis points or $1.4 million. Also, the revenue shift as we transition our Dell SafeGuard portfolio mix to VMware Carbon Black had an approximate 160 basis point negative impact on Q4 gross margin.

Fourth quarter operating expenses totaled $82.5 million compared with $71.8 million last year. In Q4, severance costs aggregated $4.9 million across operating expenses, primarily in sales and marketing and G&A. Research and development expenses totaled 15.7% of revenue in the quarter, flat to Q4 FY '19, as we balance incremental investments in our software, app and platform development activities.

Sales and marketing expenses were approximately 29.2% of revenue in the fourth quarter compared to 27% for the prior year Q4, the increase driven by 230 basis points severance cost impact. General and administrative expenses totaled 13.3% of revenue in the fourth quarter compared with 12.2% for the same quarter last year with severance driving 80 basis points of the year-over-year increase.

Adjusted EBITDA in Q4 was $2.3 million compared with $4.8 million last year. Severance charges totaled $6.3 million, drove our adjusted EBITDA performance slightly lower than guidance. As I mentioned, cash flow provided by operating activities was a record $43 million in the fourth quarter and $78.8 million year-to-date, compared with $57.2 million of cash provided by operating activities for the full prior fiscal year. DSO was 72 days at the end of Q4, down from 76 days at the end of Q3 and an improvement from 98 days at the end of Q4 last year.

We finished the quarter with cash of $181.8 million, which increased from $129.6 million at the end of the fourth quarter last year and $138.8 million at the end of Q3 this year. And we have an untapped $30 million credit facility, which was recently extended for an additional year on similar terms. In addition, contract provisions allow for the expansion of this credit facility up to an aggregate amount of $60 million by mutual agreement of lender and borrower. Capex was $0.5 million in the fourth quarter.

Now, for FY '21. We have been closely following the early indications of the effect on our business from the COVID-19 crisis. While we are still seeing demand for our products and solutions, our customers and prospects are being impacted in their businesses. With so much macro uncertainty, we currently don't feel it's prudent to provide full-year quantitative guidance for FY '21. Although we are not providing guidance on full-year FY '21, in the first quarter of FY '21, we expect both GAAP and non-GAAP revenue to be in the range of $133.5 million to $137.5 million, impacted by Dell SafeGuard revenue transitioning to Carbon Black and the COVID-19 crisis, especially on our consulting business. And we expect our non-GAAP net loss per share to be between $0.02 to $0.06. We remain focused on continuing to execute on our strategic plan and may give quantitative full-year guidance in future periods. Our immediate focus is on our customers and our employees as we respond to their needs in this situation. I know you share our concern in this matter.

As we close out today's call, I want to reiterate that we're in an unprecedented time in history with COVID-19. Because of that, we're all remote on today's call and will not be taking live Q&A. Thanks again to my SecureWorks teammates for their dedication to our customers. On behalf of the entire SecureWorks team, we appreciate your continued interest and support. That wraps up today's call. A replay of this webcast will be available on our Investor Relations page at secureworks.com along with our Q4 FY '20 web deck with additional financial tables. Thanks for joining us today.

Questions and Answers:

Duration: 40 minutes

Call participants:

Paul Parrish -- Chief Financial Officer

Michael R. Cote -- President & Chief Executive Officer

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