Pegasystems Inc. Forecasts a Growth Rebound in 2017

Business management software specialist Pegasystems (PEGA 0.38%) posted fourth-quarter results this week that paired a sharp growth slowdown with evidence of strong gains ahead.

Here's how the big-picture results stacked up against the prior year:

Data source: Pegasystems financial filings.

What happened this quarter?

Sales growth stalled, with revenue falling 2% compared to the prior quarter's 13% increase. The drop was driven by a big decline in license-based revenue that overwhelmed solid gains in the cloud segment. Yet executives were happy with the broader demand trends that smooth out volatility from the timing of a handful of large contracts.

Image source: Pegasystems.

Highlights of the quarter included:

• License revenue dropped 24% but the cloud business jumped higher by 21%. For the full year, cloud revenue spiked 35% while license revenue only ticked slightly higher, leading to overall sales gains of 10%.
• Gross profit margin fell to 69% of sales from 74% last year as licensing, maintenance, and services costs rose.
• Pegasystems allocated more cash to operating expenses, especially sales and marketing and research and development. That trend, combined with falling gross profitability, produced a 68% drop in operating income.
• Backlog, which represents contracted but not yet billed business, soared higher by 26% to $528 million to mark the company's biggest contract pipeline by far.
• For the year, recurring revenue climbed to $394 million, or just over half of the sales base.

What management had to say

CEO Alan Trefler said the software specialist's results show that its enterprise offerings are meeting the needs of clients. "We're pleased with the solid results we delivered in 2016," he said in a press release. "Our solutions are unique in their ability to empower our clients to not just manage challenges but to leverage them for competitive advantage."

As for its finances, executives are excited about the positive impact that the shift to subscription-based orders is having on its business. "The rapid growth of recurring contractual commitments led to record license and cloud backlog," according to Chief Financial Officer Ken Stillwell. "The significant trend improves the predictability of our business and supports expanding margins as we grow," Stillwell explained.

Looking forward

The spiking cloud backlog gave executives confidence to make aggressive sales and profit projections for the year ahead. Revenue should improve to $860 million in 2017, and that 15% increase would mark a solid acceleration over the prior year's 10% gain. Stepping back, the company is on track for 20% compound annual growth over the last decade.

Pegasystems will aim to expand its customer base in 2017, particularly among large enterprises and agencies. Its business management products are present in some of the biggest insurance companies, auto manufacturers, banks, and federal departments, but coverage in each of these areas can improve.

Meanwhile, profit growth should be muted as the company prioritizes expanding its sales base. Earnings should be $0.43 per share this year, which would be lower than the profit it posted two years ago. However, Pegasystems' seems well positioned to enjoy a healthy mix of revenue and profitability growth while its sales base becomes sturdier and more predictable thanks to an increasing reliance on recurring revenue contracts.