Gen Digital Inc. (NASDAQ:GEN) Q4 2023 Earnings Call Transcript

Gen Digital Inc. (NASDAQ:GEN) Q4 2023 Earnings Call Transcript May 11, 2023

Gen Digital Inc. beats earnings expectations. Reported EPS is $0.46, expectations were $0.44.

Operator: Good afternoon everyone. Thank you for standing by. My name is Lauren and I will be your conference operator today. I would like to welcome everyone to Gen’s Fourth Quarter and Full Year 2023 Earnings Call. Today’s call is being recorded and all lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. At this time for opening remarks, I would like to pass the call over to Ms. Mary Lai, Head of Investor Relations. Ms. you may begin.

Mary Lai: Thank you, Lauren and good afternoon everyone. Welcome to Gen’s fourth quarter fiscal 2023 earnings call. Joining me today to review our Q4 and full year results are Vincent Pilette, CEO; and Natalie Derse, CFO. As a reminder, there will be a replay of this call posted on the IR website along with our slides and press release. I’d like to remind everyone that during this call, all references to the financial metrics are non-GAAP and all growth rates are year-over-year unless otherwise stated. A recon of non-GAAP to GAAP measures is included in our press release which is available on the IR website. Today’s call contains statements regarding our business, financial performance, and operations including the impact of our business industry that may be considered forward-looking statements and such statements involve risks and uncertainties that may cause actual results to differ materially from our current expectations.

Those statements are based on current beliefs assumptions and expectations and speak only as of the current date. For more information, please refer to the cautionary statement in our press release and the risk factors in our filings in the SEC and in particular, our most recent reports on Form 10-K and 10-Q. And now, I will turn the call over to our CEO. Vincent?

Vincent Pilette: Thank you, Mary. Good afternoon everyone and welcome to our earnings call. As I reflect on the year, I’m proud of all that we have accomplished and I’m excited about the tremendous long-term opportunity in front of us. Three years ago we strategically set out singularly focused on and redefine cyber safety for the billions of individuals connected to the digital world. We believe then as we do now that the complexity of our digital lives call out for someone to help protect people from the myriads of threats with innovative and easy-to-use technology that could seamlessly stitch together solutions across security identity and privacy and then reaching to adjacent trust-based solutions. Well, that someone is us, Gen.

We are confident that our reach, innovation capability, and disciplined execution can deliver on that strategy and will sustainably deliver long-term profitable growth and increasing shareholder value. Let me quickly recap our year. For fiscal year 2023, we delivered another year of organic growth our fourth consecutive year of growth in consumer cyber safety. We delivered mid-single-digit growth in cyber safety bookings and revenue and exited the year on a $3.7 billion revenue run rate up from $2.4 billion three years ago. During that period, we considerably expanded our scope across our cyber safety pillars security identity and privacy and became truly global with 60% of our customers now from outside the US. We also expanded our reach with our vast capabilities in freemium and free user base in the hundreds of millions.

Gen with its trusted brands, omnichannel expertise, and rigorous execution is well-positioned to expand the adoption of cyber safety across the globe. We have over 38 million direct paid customers as we exit fiscal year 2023, up from 20 million three years ago. Despite the pressure on our direct customer count in a post-COVID environment, which saw a sequential decline of 180,000 in Q4, our direct business actually grew low single-digit in Q4 and fiscal year 2023. Our direct customer retention rate ended the year at 76% and our annual ARPU was nearly $87 as we exited fiscal year 2023. In two quarters since the close of the Avast acquisition, we have increased our overall annual ARPU by $3 and our overall retention rate by one point, a testament of the increased value we are providing our customers with our expanded product portfolio offerings, the membership adoption, and the increased loyalty.

Both metrics, ARPU and retention rates, improved sequentially in this last quarter and our confirmation of the value creation thesis at the core of our merger with Avast. In addition to 38 million direct paid customers, we also protect over 26 million indirect customers with solutions sold through partners. In fiscal year 2023, indirect customers grew over 1.5 million with about 400,000 sequentially added in Q4. Our partner revenue delivered its third consecutive year of double-digit growth for fiscal year 2023 and we continue to see tremendous opportunities to reach more consumers via diversified channels in our partner business. Our employee benefits channel again grew double digits accelerating in growth as employers recognize the growing demand from the employees.

Identity protection is becoming a stable offering in benefits packages just like health care and life insurance. We also continue to scale our telco relationships in key international markets, working closely with our partners to expand their offerings and provide comprehensive cyber safety protection to millions of customers. Our strategy to diversify the distribution channels and grow the value of the offering with these partners is actually working. On the innovation front, we maintained a strong pace throughout fiscal year 2023. We introduced more than 10 new products and features including international privacy monitoring assistance Norton AntiTrack, Norton Identity Advisor, Avast email Advisor, Avast Identity Solution with Avast Secure Identity and Avast One Platinum, Norton Executive Benefit Program for the C-suite with reputation management features, utility account alerts for US LifeLock and Norton 360 numbers.

Each of these is a step forward in our strategic efforts to rapidly expand capabilities, protection and geographic reach in privacy and identity. We have accomplished a lot in the business this year, but I would be remiss to not mention the tremendous job the team has done in bringing together Avast and NortonLifeLock. Within six months of growth, our sales, G&A and overall infrastructure processes have been fully integrated. Our single ERP, integrated code cash processes, unified go-to-market structure and functional organizational structures are all in place. We’ve already realized two-thirds of the cost synergies as we exited fiscal year 2023. This was no small feat given the size scale and complexity of the two businesses. Overall, we have accelerated the integration process and we are on track to achieve the $300 million plus annual cost savings exiting fiscal year 2024.

Our integration efforts helped us deliver another point of sequential operating margin improvement in Q4, reaching 57%. In fiscal year 2023, we scaled operating profit to $1.8 billion, up 24% year-over-year and more than doubled compared to three years ago. This profit margin and the resulting unlevered free cash flow, gives us great confidence that we can navigate to the short-term volatility and uncertainties of the global economy. Product integration broadly defined is what remains in front of us and is well underway. We see it as an opportunity to accelerate our march towards our vision of cyber safety, that is digital life-centered, tailored to your needs and easy to use. This requires a unified and simplified product architecture. Progress on this front will allow us to extend our reach to more people giving them exactly what they need while better enabling us to educate them on additional protection and value that we can offer.

This is a key enabler of our revenue synergies in fiscal year 2024 and 2025. We still have work to do here. But with our comprehensive set of products, we believe these changes unlock not only those mid-term opportunities but also position us perfectly for the long-term in cyber safety and in trust-based adjacencies. You’ve heard me talk time and time again about all of our opportunities but let me sum it up briefly. [Technical Difficulty] cyber safety much more accessible engaging and easy to use for everyone. That will undoubtedly continue to grow our customer appeal and loyalty. To start and in particular within the Avast business, we can improve the customer experience and fully integrate our customer journey. Avast retention improved two points in the last six months and we believe the potential is at least 10 points improvement as we incorporate user-focused changes.

Secondly, customers always focus on value and we have a tremendous opportunity to show them the value of our cyber safety offering and to continually add to it as the needs evolve and the threats increase. The move towards protection of identity privacy and the protection of your full digital footprint will continue. We have increased monthly ARPU $0.26 or 4% in the last six months. And our long-term objective is to move above $8 where we were with NortonLifeLock adjusted for a new geographical mix. Finally, we know that customer count is a critical metric for our long-term success. In addition to continued growth in indirect customers, where a portion of the market is moving to, we know that in the long-term we will grow our customer materially.

And we believe that our initiatives in mobile emerging markets and optimizing marketing spend amongst a few, will help us stabilize the trend in direct customer count and ultimately return it to growth. And with that, let me pass the floor to Natalie, who will talk about our detailed performance.

Natalie Derse: Thank you, Vincent and hello, everyone. For today’s call, I will walk through our full year fiscal 2023 performance followed by our Q4 results and wrap up with our outlook for Q1 fiscal year 2024. I will focus on non-GAAP financials and year-over-year growth rates unless otherwise stated. Fiscal year 2023 was another year of progress towards achieving our long-term $3 EPS target and was our fourth straight year of organic growth as a pure-play consumer cyber safety company. As we successfully closed our merger with Avast and integrated as one Gen company, we finished fiscal year 2023 with over $3.3 billion in total revenue, growth of 19% in USD and 23% growth in constant currency. When including Avast’s historical financials, cyber safety revenue grew 4% year-over-year in constant currency amidst the dynamic macro environment.

We challenged ourselves to accelerate the execution of our committed cost synergies and remain disciplined in our investments, which enabled us to expand full year operating margin to 55% up 220 basis points year-over-year. This growth and discipline led us to deliver $1.81 in EPS, up 4% from the prior year and up 10% in constant currency after incurring a significantly higher amount of debt cost than anticipated at the time of the deal announcement. Our customer base is resilient with over 38 million direct cyber safety customers. Across our Gen business, we have a strong and increasing customer retention rate of 76% and a growing direct monthly average revenue per user or ARPU of $7.24, as we scale our cross-selling and upselling efforts providing increased value to our direct customer base with new security, identity and privacy offerings.

Our business with partners continues to grow and we’ve expanded together to a total paid customer base of approximately $65 million. We are enabling growth with the continued evolution of our product portfolio, and introduced over 10 new products and features this year to provide best-in-class protection and unlock new capabilities for our customers. Turning to Q4 performance. Q4 was our 15th consecutive quarter of growth and our results reflect another quarter of consistent execution. We exceeded our revenue guidance and came in at the high end of our EPS guide. We also crossed $1 billion in bookings for the first time with Q4 bookings up 29% in USD, and up 32% in constant currency. When including Avast’s historical financials, cyber safety bookings grew 2% year-over-year in constant currency.

Q4 non-GAAP revenue was $948 million, up 32% in USD, and up 35% in constant currency. This also includes an unfavorable FX headwind of $21 million year-over-year or three points of growth. When including Avast’s historical results, cyber safety revenue grew 3% year-over-year in constant currency. Direct revenue was $831 million, up 32% in USD, and up 3% when including Avast historicals. We continue to drive higher value and loyalty with our existing customers, as both ARPU and retention improve. As I referenced above monthly direct ARPU is US$7.24, an expansion of $0.15 quarter-over-quarter driven by our cross-sell and upsell efforts and as our identity and privacy offerings grew double digits in the quarter. Ending direct customer count was 38.2 million, a decline of 183,000 customers quarter-over-quarter, a trend we are working hard to reverse.

Lower web traffic demand continues to impact the customer acquisition funnel, despite improvements in conversion. We continue to invest in a diverse mix of marketing spend to reach new audiences, drive more traffic to our sites, while dynamically optimizing the channel and geographic mix to drive the highest returns. It is imperative that we continue to focus on improving retention in our existing customer base. Our aggregate direct retention rate improved one point quarter-over-quarter to 76%, which is a strong indication that our efforts to increase customer engagement are working. Offering the best customer experience remains at the core of our values and we are pleased with the progress made this quarter. Before I move off the direct business, I want to give a quick update on revenue synergies.

As I shared six months ago, we expect traction with revenue synergies to be measured directly through ARPU and retention improvements over the coming quarters to support our bookings and top line growth expectations. Two quarters later we have expanded monthly ARPU by over $0.25, translating to $3 of increased annual ARPU. We have improved Avast retention making progress to narrow the prior 20-point retention differential between NLock and Avast observed at the time of close. You will continue to see us expand our ARPU and retention rate over the coming quarters. Moving on to partners. Partner revenue was $100 million in Q4, delivering 35% growth year-over-year as reported in USD and 9% growth when including Avast historical results. This was our third consecutive year of double-digit revenue growth in our partner business, as we continue to scale our identity offerings through key channels like employee benefits, telcos and breach protection.

With our broad reach and omni-channel strategy, we will continue growing our pipeline, scale and nurture existing partnerships, and build further growth momentum. Rounding out our revenue, our legacy business lines contributed $17 million this quarter, and now make up less than 2% of our revenue. We expect legacy to continue its decline at a similar pace as Q4. Turning to profitability. Q4 operating income was $541 million, up 38% year-over-year. We expanded operating margin to 57%, as we continue to make strong inroads to the 60-plus margin framework, we’ve outlined in our long-term model. In Q4, we reduced our overall operating expense profile from 31% to 29% of revenue sequentially, while maintaining gross margins above 86%. Since the close of the merger, we’ve rightsized our organization structure to under 3,700 from approximately 4,500.

Our hybrid workforce strategy has also enabled us to further rationalize our real estate and data center footprint driving structural reductions in our operating model. Exiting Q4, we achieved approximately two-thirds of the annual cost synergy target from a run rate perspective with the remaining integration efforts focused on product and engineering. We remain well on track to achieve cost synergies of over $300 million as we exit fiscal year 2024. Ultimately, our accelerated pace and track record of strong execution will unlock more operating leverage enabling us to selectively reinvest back into growth and innovation in fiscal year 2024 and beyond. Q4 net income was $296 million, up 9% year-over-year. Diluted EPS was $0.46 for the quarter, stable year-over-year and up 4% in constant currency including $0.02 of currency headwind.

Interest expense related to our debt was approximately $160 million in Q4 and EPS impact of $0.19 and a $0.16 headwind compared to last year. Our non-GAAP tax rate remains at 23%. And our ending share count was 644 million, down $7 million quarter-over-quarter reflecting the weighted impact of last quarter’s share repurchases. Turning to our cash flow and balance sheet. Q4 operating cash flow was $324 million. And free cash flow was $323 million which includes approximately $177 million of cash interest payment this quarter. This brings our total fiscal year 2023 free cash flow to over $750 million which includes $381 million of interest paid — interest expense paid approximately $120 million of costs related to the Avast merger and $43 million of cash restructuring expenses.

Our ending cash balance is $750 million. Turning to capital allocation. We remain intentional and balanced with our capital deployment. In fiscal year 2023, we returned over $1.2 billion of capital to shareholders with approximately $900 million share buybacks and the rest in the form of our regular quarterly dividends. In Q4, we paid $80 million to shareholders in the form of our regular quarterly dividend of $0.125 per common share. For the next quarter, Q1 fiscal 2024 the Board of Directors approved a regular quarterly cash dividend of $0.125 per common share to be paid on June 14, 2023 for all shareholders of record as of the close of business on May 22, 2023. In addition, since we closed the Avast merger, we have deployed approximately $460 million towards debt paydown when you include the April voluntary payment.

We continue to be supported by strong total liquidity of over $2.2 billion and we have no near-term maturities due in the next two years. With our strong cash flow generation and disciplined capital deployment we will continue to utilize our capital to deliver EPS expansion with expected net leverage of approximately 3.9x within 12 months post Avast deal close and remain committed to the target of approximately 3x over the long-term. We will maintain a balanced approach, commit to our regular dividends, pay down debt and deploy opportunistic share buyback. Now turning to our fiscal Q1 2024 outlook. For Q1, we expect non-GAAP revenue in the range of $940 million to $950 million translating to low single-digit growth in cyber safety expressed in constant currency.

We expect Q1 non-GAAP EPS to be in the range of $0.45 to $0.47 per share, as cost synergies are partially offset by near-term increased interest expense based on current SOFR forward curves. For the full fiscal year 2024, we expect bookings growth in low to mid single-digits, scaling through the year as we make progress on our key metrics. We remain focused on driving our long-term objectives and are still targeting to exit fiscal year 2025 on a $3 annualized EPS with the following underlying key assumptions: cyber safety business to grow mid single-digits, post-synergy structure of 60-plus percent operating margin, free cash flow deployed towards debt paydown and share buyback, SOFR for curve trends indicate rates below 3% exiting fiscal year 2025.

Diluted share count expected to be around pre-Avast merger levels. In summary, we were closing out this fiscal year with a strong sense of accomplishment. We have successfully introduced Gen to the world and are excited to scale as the leader in global cyber safety protection. Our financial model remains resilient powered by our best-in-class products and technologies and a loyal customer base. As we look forward to fiscal year 2024 and an evolving macroeconomic environment, we will remain very disciplined in how we operate focusing on executing our plan and will be strategic and intentional in where we invest to maximize long-term shareholder value. As always thank you for your time today. And I will now turn the call back to the operator to take your questions.

Operator?

Q&A Session

Operator: Thank you. [Operator Instructions] Our first question comes from Saket Kalia from Barclays. Saket, please go ahead.

Operator: Thank you. [Operator Instructions] Our next question comes from Angie Song from Morgan Stanley. Angie, please go ahead.

Operator: [Operator Instructions] Our final question is a follow-up question from Saket Kalia from Barclays. Saket please go ahead.

Operator: Thank you. At this time, as there are no more questions, I will turn the call back to Vincent Pilette, CEO for closing remarks.

Vincent Pilette: Excellent. Thanks, Lauren. And I want to thank each Gen employee for their hard work, and for embracing and directly managing through so much change. Our entire team is driven to protect and advocate for our customers, and we do not take for granted the millions of people around the world, who trust us to help them safely navigate the complex digital world. We have a strong culture of innovation and execution. We have a winning strategy, and we will continue to execute to drive profitable growth, and create long-term value for all our stakeholders. So thank you for joining our call today, and I look forward to talking to you soon.

Operator: This concludes the conference call.