Blackbaud, Inc.
Q4 2020 Earnings Call Transcript

Published: 9 Feb 2021

[Operator:]

Good day and welcome to Blackbaud's Fourth Quarter and Full Year 2020 Earnings Call. Today's conference is being recorded. Now, I’ll turn the conference over to Mark Furlong. Please go ahead, sir.

[Mark Furlong:]

Good morning everyone. Thanks for joining us on Blackbaud's fourth quarter and full year 2020 earnings call. Joining me on the call today are Mike Gianoni, Blackbaud's President and CEO, and Tony Boor, Blackbaud's Executive Vice President and CFO. Mike and Tony will make prepared comments and then we will open up the line for your questions. Please note that our comments today contain forward-looking statements subject to risks and uncertainties that could cause actual results to differ materially from those projected.

[Mike Gianoni:]

Thanks Mark. Good morning everyone. Thanks for joining our call today. Q4 was a very solid quarter and strong finish for what has been a unique year to say the least. As we discussed during our December event where we outlined our long-term goals and strategic outlook are pivot to place a greater emphasis on profitability positions us for significant improvement on the Rule of 40 as we exit the pandemic including a return to sustainable revenue growth rate in the mid-single digits or greater. Our results are solid early indicator that overtime the Rule of 40 is within our reach. We achieved 30 on Rule of 40 for the fourth quarter and we were within 10 basis point of the Rule of 40 in the month of December as our organic revenue growth rate strengthened towards the end of the quarter. Without doubt this past year has tested the industry and underscored the resiliency of our customers and our market as they serve such a critical role in solving the challenges we face as a society. 2020 put a spotlight on the need for digital capabilities associated organizations were forced to quickly pivot Corona operations to ensure they continue to deliver on their missions in this environment. For example, while we shift online in virtual fundraising as with reshaping the landscape in this market for many years, that shift has rapidly accelerated. In 2020, we saw over 20% year-over-year growth in online giving with more than a quarter of donations made on our mobile device and ended the year giving grew nearly 30% year-over-year.

[Tony Boor:]

Thanks Mike. Good morning, everyone. Today I'll cover our results for Q4, the full year and our outlook for 2021 before opening up the line for your questions. You can refer to today's press release and the investor materials posted to our website for the full detail of our Q4 and full year 2020 financial performance. Turning to our results, fourth quarter revenue increased 1.9% versus Q4 of 2019 with recurring revenue growth of 4.3% on organic basis, inclusive of a very strong finish to the quarter. I'll reiterate Mike's comment that our customer base is healthy overall with our customer retention improving to 93% for the year. Our renewal rates exceeded our pre pandemic expectations for the year, we had a greater mix of our customers opt in for longer renewal term periods, and we ended the year with better than expected accounts receivable agents, all of which are positive indications of the health and resiliency of our industry and customer base. Payments transaction volumes exceeded our expectations and were the primary driver of revenue growth for the quarter. Transactional revenue grew $14 million year-over-year in the fourth quarter. This strong performance also highlights the often underappreciated resiliency of our market. As expected, the shortfalls in bookings that began at the start of the pandemic put pressure on our contractual recurring revenue growth in the fourth quarter, though on a full year basis, contractual revenue grew year-over-year. There's no question that the current environment has put a greater emphasis on investing in digital and cloud based solutions. And we're optimistic that this will materialize in improving pipeline bookings as we progress through 2021. We were pleased to see a solid start with January bookings coming in ahead of plan, though it's early and January is a seasonally low month for bookings. On a full year basis, our revenue grew to $913 million, despite lower usage base transactional revenue and bookings due to the pandemic and the continued decline in one time services and other revenue. One time services and other revenue declined approximately 22% after normalizing for the reclassification of retained and managed services and this decline was amplified in the fourth quarter, due in part to our pivots offer our annual user conference at no cost in 2020. Despite the challenges faced this year, our full year revenue was only about 3% below the midpoint of our original guidance heading into the year. I'll also remind you that for the full year, we reclassified approximately $17 million of retained and managed services that would have historically been presented in recurring revenue to one time services and other revenue. This reclassification reduced organic recurring revenue growth rate by approximately 200 basis points, or 140 basis points after normalizing 2019 for the change. For more detail, please refer to the supplemental schedule included in our investor presentation available on our Investor Relations website. Moving to earnings, our fourth quarter gross margin was 57.1%. We generated adjusted EBITDA of $69 million, representing an adjusted EBITDA margin of 28.4% and diluted earnings per share of $0.85. As you know, our actions in response to the pandemic improved our liquidity and generated significant cost reductions, which substantially elevated our profitability for the quarter and the full year and allowed us to continue making critical investments in the business related to areas like digital marketing, engineering, security, customer success, and our continued shift of cloud infrastructure to third party cloud service providers. For the full year, we generated adjusted EBITDA of $242 million, up $53.1 million, representing an adjusted EBITDA margin of 26.5%. Full year diluted earnings per share was $2.94, an increase of $0.70 per share, and 25% above the high end of our original guidance coming into the year. Again, not all of the cost actions taken in 2020 will repeat this year, or continue into the future. For example, we have fully reinstated our company funded 401K match program for 2021 and we will return to cash based merit and promotional salary increases for eligible employees. That said, we have high confidence in our ability to operate in an increasing margin profile going forward given the progress made this year, and additional plans we have for the coming years. Evolution of our go-to-market strategy with a digital first mindset has substantially reduced our go-forward cost base in sales and marketing. And we've largely completed one major initiative last year when we revisited our real estate strategy with a focus on optimizing our footprint for the future of work at Blackbaud, including the purchase of our global headquarters building and exiting certain office leases around the globe. As a result, we entered 2021 having roughly halved our real estate footprint. This drove $23 million in onetime expense in 2020. But we estimate this will generate approximately $14 million in run rate cost savings going forward. It will also give us additional flexibility as we evolve our workforce strategy with our heightened focus on operational efficiency and in light of our flexible workforce strategy going forward. We also revisited elements of our tax planning strategy and wrote off certain tax assets, resulting in an increase in our effective tax rate for the fourth quarter that will not repeat in 2021. That brings me to the cash flow statement and balance sheet. Our Q4 free cash flow was $25 million and our full year free cash flow was $76 million, representing a full year of free cash flow margin of 8.3%. The real estate actions I just mentioned resulted in fourth quarter and full year cash outlays of approximately $20 million and $39 million, respectively, which reduced our full year free cash flow margin by roughly 430 basis points. And we do not expect this to repeat in 2021. We ended the quarter with $495 million in net debt. Our capital strategy calls for a debt EBITDA ratio of less than 4.0 times. And at the end of Q4 we stood at 1.8 times, which is our targeted optimal leverage ratio. And we had $429 million of borrowing capacity. In 2020 we eliminated our dividends as a cash conservation measure. However, we will continue to deploy our capital in close alignment with our capital strategy, which includes the option for opportunistic share repurchases. As Mike mentioned, the month through months of December and January, we purchased 1.2 million shares of common stock for $69 million. As of January 31, we had approximately 180 million remaining and available under the current share repurchase authorization. Now let's turn to 2021. From a revenue perspective, we’re encouraged by the strong finish to 2020 and the durability of our recurring revenue streams. The obvious challenge continues to be accurately predicting the duration and magnitude of the pandemic, and the ultimate impact on our revenues, particularly transactional revenue. On one hand, we can see potential upside from an acceleration of key trends like the shift to online giving, that could very well be sustainable. But on the other hand, it's hard to be certain when in person events will return. This heightened level of variability and transactional revenue makes it difficult for us to put out definitive guidance ranges like we've done in the past. But I do want to provide some insight and our best estimates for 2021 in the form of three scenarios. The first and most likely scenario based on our modeling suggests that we will generate roughly $900 million in total revenue. Our base assumptions for 2021 start with the continued decline in one time services and other revenue, which we expect to decline $15 million to $20 million year-over-year. To some extent, the 2020 shortfall in bookings will drive less implementation services revenue in 2021. But overall, this strategic mix shift we've been driving for years, and it will and it continues to be a positive move for us over the long run. Moving to recurring revenue, we anticipate our contractual recurring revenue representing roughly two thirds of total revenue will be modestly above 2020 levels. Our customer base is stable with customer retention increasing in 2020 to 93%, and renewal rates that were ahead of our plan for the year. The shortfall and bookings performance last year will have a greater impact on 2021. But there's no question the current environment has put a greater emphasis on investing in digital and cloud solutions. While we don't yet have perfect line of sight into when this will materialize and increasing pipeline and bookings, we expect to see a pickup in activity in the second half of the year. And we've been making enhancements in our go-to-market necessary to capture this growth opportunity. Transactional revenue, which is roughly a quarter of total revenue, is the most difficult to predict given the current variability and underlying drivers, such as timing a number of in person events, and marketing campaigns, as well as fluctuations in donation volumes and tuition payments. And we as we said, we're encouraged to see progress with a vaccine rollout. And that transactional revenue tied to in-person events is expected to recover quickly as soon as customers are able to hold events again. Our current plan assumes we begin to see this recovery in the second half of 2021. We estimate that this will be somewhat offset by a modest year-over-year decline in payments revenue as we normalize for the over performance we saw in Q2 and Q4 of 2020. That said, we anticipate total transaction revenue for the year to be roughly flat compared to 2020. Though again, we saw a substantial increase in the percent of giving done online, and it's possible this becomes the new normal as organizations have had to adopt more digital capabilities. We've also evaluated a heavily de risked in conservative scenario, I'll emphasize upfront we view this scenario is very unlikely, but we're sharing this to be transparent. In this scenario, we've incorporated the impact of another full year shortfall in bookings, and assumed our retention rates and renewal rates decelerate, which would ultimately cause a decline in contractual recurring revenue. We've also factored in the transactional revenue impact of no in-person events, again in 2021, and substantial declines in payments revenue, well below 2020 levels. If this were the case, and again, we view this as unlikely, our best estimate of $900 million in total revenue could be high by $10 million to $30 million, depending on what you assume for transactional revenue performance. This brings me to our upside scenario, which accounts for potential acceleration in transactional revenue and bookings performance. If we continue to see elevated levels of payment volumes similar to what we saw in late 2020, and we see an accelerated recovery in transactional revenue with events coming back, then we could see substantial upside to our estimate for transactional revenue. To a lesser extent, given the radical nature of our revenue if we're able to generate increased pipeline and bookings earlier in 2021 we could see upside to the full year contractual recurring revenue at one time services revenue. We estimate $10 million to $20 million of revenue upside in this scenario. Summarizing revenue for 2021, the most likely scenario based on our modeling suggests we will generate roughly $900 million in total revenue. We anticipate a $15 million to $20 million decline in one time services and other revenue, which is driving a year-over-year decline in total revenue. Recurring revenue, which is the core of our business is expected to grow modestly in 2021. And we're optimistic that this will set us up for acceleration in revenue growth post pandemic. Shifting to profitability and cash flow, we continue to progress on initiatives like the migration of our cloud infrastructure to third party cloud service providers, which we expect to result in future gross margin improvement as we're able to reduce our own colo footprint and the associated duplication of costs. The enhancements we're making in our go-to-market will significantly reduce the payback period for our customer acquisition costs, while increasing sales velocity, and I do not expect our sales and marketing or customer success expense to return to pre pandemic levels. As I mentioned earlier, our work to optimize our real estate footprint will generate approximately $14 million of annual cost savings going forward. Our most likely scenario calls for an adjusted EBITDA margin of roughly 25% and this is inclusive of several cost actions, taken in 2020 that will not repeat in 2021. While revenue remains somewhat variable in the near term, we're confident our ability to manage costs and ultimately profitability across these revenue scenarios. Our pivot to place a greater emphasis on profitability positions us to significantly improve on Rule of 40 and post pandemic environment, and gives us heightened confidence in our expected future free cash flow generation. The near term variability in transactional revenue and bookings makes it difficult to be precise in our free cash flow estimates for 2021. I'll remind you our typical contract is three years in term billed annually upfront and variability in bookings during the year will have a more immediate impact on 2021 cash flow. Our capitalized software development costs have largely leveled off, and we're expecting less capital expenditures in 2021, given the purchase of our headquarters drove a substantial increase in CapEx in 2020. With that said, we anticipate generating at least $100 million in free cash flow in 2021. We will also continue executing against our capital deployment strategy, which calls for ensuring access to adequate levels of capital to grow the business through a balance through balance sheet management, rigorous oversight and investments in the business, including acquisitions, and identifying and efficiently returning excess capital to shareholders, including the option for additional share repurchases. In summary, 2020 was an exceptional year with the resiliency of our customer base dedication of our employees and our pivot to place greater emphasis on liquidity and profit drove solid results for the year. There are significant opportunities in front of us to continue to strengthen the business and elevate our financial profile. And we are well positioned to drive towards a long term aspirational goal to achieve the Rule of 40 with mid-to-high single digit organic revenue growth. We believe that steady execution against this financial framework paired with our updated capital deployment strategy will drive shareholder value in 2021, and years to come. With that I like open line for your questions.

[Operator:]

Thank you Our first question comes from line of Tom Roderick with Stifel. Please proceed with your question.

[Tom Roderick:]

Happy New Year. Thanks for taking my questions. Tony, let me start with you. I appreciate all the case 123 framework here for some scenario analysis. And that's really helpful. I guess the question if I just think about the base case versus, cases two and three, tell me a little bit more about how you plan to manage the expense structure? And when you would sort of adjust that expense structure, particularly from a go-to-market and headcount standpoint should be should the environment start to diverge from the base case scenario? At what point would you look to pair back on expenses or to the contrary, what are the signs you're looking for that say, we can green lights and more go-to-market expenses and start thinking about more of a growth mode?

[Tony Boor:]

Yes. Thanks, Tom. Good to talk to you. I think one big thing that to remind everyone of is that we're going to see From 34

[Tony Boor:]

Yes, I think Matt, it’s certainly this year when we’re still in the midst of the pandemic, there’s certainly more focus on the profitability and frankly because we have more control over that. And so there is certainly I’m keeping a keener eye on driving that, because I can’t – I don’t have as much assurance that investments for growth will drive the right kind of returns, because a bit of that is still out of our control due to the pandemic and related impacts. Going forward, I think our strategy still holds. We’ve always talked about balanced approach. If we see that we can get adequate returns, I don’t think our hurdle rate has changed from that perspective, but we can see we can get adequate returns from investments for growth. We will certainly pursue those. As you know, growth drives typically a higher valuation in the market for our shareholders. And so as always we are planning to keep a balanced focus there between both growth and profitability. That’s why I like the Rule of 40, right. Both sides of that are impactful on the Rule of 40 itself. So if I can drive a point of growth than a point of margin on that growth, that’s double positive impact to the Rule of 40 itself. So, I think in the pandemic to answer your question a little more focus on profit, because we have more control. I think post pandemic we go back a bit more to where we were which is kind of both growth and profitability. But I think we have the ability to do both.

[Operator:]

Our next question comes from the line of Ryan MacDonald with Needham & Company. Please proceed with your question.

[Ryan MacDonald:]

Yes, good morning gentlemen. Thanks for squeezing me in here. On online payments momentum, I’m curious as we looked at the shift to e-commerce this year, we saw that acceleration results in a number of retailers and brands really accelerate their adoption of additional channels to sell in online. Are you seeing at all in some of the conversations you are having with existing customers a similar dynamic building momentum of sort of adopting online payments – they have lagged in the past at all?

[Mike Gianoni:]

Yes, this is Mike here. Absolutely Ryan. That’s why the market went – all I’m getting from under 10% to 13% of the market level in one year. So yes, we are definitely seeing that. And I would equate that to the retail space.

[Tony Boor:]

Yes, Ryan I’d add when you think about like the churches because they couldn’t have, folks weren’t able to go to mass or to church. They had to shift so many churches, spacious lawns were still kind of passing the baskets, cheques and cash. They had to go to online tithing so there was a significant increase in the faith based space, move online for tithing and other giving. A lot of the big non-profit that would have a typical gave us in advance because they couldn’t have those live that had to move to virtual. And so that by definition moved to online versus cheques and cash at the events. A lot of folks have gone to virtual auctions, so as part of their events or fund raising efforts as well which moved those online. So there’s certainly been a shift as Mike said, and I think that’s going to continue atleast from some of the work I’m doing with non-profits. I’d expect that to be a continued thing going forward.

[Ryan MacDonald:]

Excellent. And just one quick follow up. On the in-person events, you expect that to come back around mid-year. Are you actually starting to see your customers putting those big events or plan those big events in the calendar, obviously they will take a few months to sort of market and brand, are you actually being arrive in the calendar now that you have been more confidence that those in-person events are atleast on schedule to return mid-year? Thanks.

[Mike Gianoni:]

Yes, right. It’s Mike. They are all planning for that back half of this year. So that’s a good time.

[Tony Boor:]

I think some in the first half may still be having events on their fiscal year, but doing them virtually. I know though even one personally as the Marathon, like the Atlanta Marathon has actually been scheduled I think it’s late this month or early next. And all they are doing is they are changing their set up of that and you have to register for a time slot instead of starting people on big patches, they are going to start I mean more contained groups. Then you are going to have a mask up until you start the race, and so people can creative and we are seeing all of those come back to London Marathon schedule late this year. So, yes, very positive on that front.

[Operator:]

Thank you. Our next question comes from the line of Rishi Jaluria with D.A. Davidson. Please proceed with your question.

[Rishi Jaluria:]

Hey Mike and Tony thanks for taking my questions. Nice to see some resilience in this business. Wanted to start by following up on the ESG steering committee that was announced last week. Can you give us a sense for ultimately what sort of calls that you want to get out of this and you know outside of obviously making the stock more attractive which has given the record inflows we are seeing in the ESG funds. Are there other areas you see this going, is there something that maybe could help your efforts on the CSR side of the equation for example. And then I’ve got a follow up.

[Mike Gianoni:]

Yes, sure it’s Mike. Yes, this announcement we made is just a natural fit for Blackbaud. We’ve had such a big CSR focus over the years. So announcing something with ESG and having to be a formal program was a working group which is underway. It’s just been a natural extension to kind of who we are and what we do. We are working at following these standards that are out there and doing some other things that are going to be right in line with ESG. So it’s a really good fit for us, it’s not just for shareholders. It’s for our employees and kind of who we are with the company, very easy natural extension for us to go in this way. And it’s a great way to aggregate a lot of things that are already underway at the company.

[Rishi Jaluria:]

All right, great. And then Mike, I wanted to go back to your comment that you made during the prepared remarks, which is that it seems like you saw a decent acceleration in the business in December. And I know that’s obviously a seasonally strong month. But can you give us a little bit of color on what you saw in December, was it payment saw an acceleration or other things that would be helpful? Thanks.

[Mike Gianoni:]

Yes, sure. It was predominantly payments. We’ve always said that the business is very scalable because we have a situation with payments and frankly with events too we are because our customer retention is even up. We just need things like payments and events to happen. The customer has already sold and implemented. So they are kind of sitting there and activity holds right, organic revenue growth. We saw that in Q4 and in December and it was predominantly payments. And the other thing that happened was we also I think performed well. From a margin standpoint I mentioned in my prepared remarks. We pretty much had a Rule 40 in the month of December, which is very strong for us. And it was really driven a lot by organic growth and some pretty good margin results. So it really I think proves the scalability of the company in that regard.

[Operator:]

Thank you. Ladies and gentlemen, this concludes our question-and-answer session. I’ll turn the floor back to Mr. Gianoni for any final comments.

[Mike Gianoni:]

Great, thank you. Thanks Operator. I’ll just close by saying we have a lot to be excited about heading into this year. Our market is once again proving it’s resiliency. I believe we are uniquely positioned to elevate our status as a leader in this market. We believe that steady execution against the Rule 40, financial framework and our continued commitment to disciplined capital deployment will generate substantial shareholder value. Thank you everyone. We look forward to providing a more comprehensive update and our initiatives to accelerate long-term performance at our investors session in March. Thanks.

[Operator:]

Thank you. This concludes today’s conference. You may disconnect your lines at this time. Thank you for your participation.