N-able, Inc. (NYSE:NABL) Q1 2023 Earnings Call Transcript May 13, 2023

Operator: Hello, and welcome to the N-able First Quarter 2023 Earnings Call. My name is Lauren, and I will be coordinating your call today. [Operator Instructions] I will now hand you over to your host, Griffin Gyr, Investor Relations lead, to begin. Please go ahead.

Griffin Gyr: Thanks, operator, and welcome, everyone, to N-able’s first quarter 2023 earnings call. With me today are John Pagliuca, N-able’s President and CEO; and Tim O’Brien, EVP and CFO. Following our prepared remarks, we will open the line for a question-and-answer session. This call is being simultaneously webcast on our Investor Relations website at investors.n-able.com. There, you can also find our earnings press release, which is intended to supplement our prepared remarks during today’s call. Certain statements made during this call are forward-looking statements, including those concerning our financial outlook, our market opportunities, our continued expectations following the spin-off of our business in July 2021 and the impact of the global economic environment on our business.

These statements are based on currently available information and assumptions, and we undertake no duty to update this information except as required by law. These statements are also subject to a number of risks and uncertainties, including those related to the spin-off transaction completed in July 2021. Additional information concerning these statements and the risks and uncertainties associated with them is highlighted in today’s earnings release and in our filings with the SEC. Copies are available on the SEC or on our Investor Relations website. Furthermore, we will discuss various non-GAAP financial measures on today’s call. Unless otherwise specified, when we refer to financial measures, we will be referring to the non-GAAP financial measures.

A reconciliation of certain GAAP to non-GAAP financial measures discussed on today’s call is available in our earnings press release and our Investor Relations website. And now I will turn the call over to John.

John Pagliuca: Thank you, Griffin, and thank you all for joining us today. Our Q1 results resonated with clear takeaways: Demand for our purpose-built solutions is strong. Our business model, which we believe is both durable and differentiated, continues to deliver growth and profit. And we are executing our strategic initiatives that drive value for our customers. We solidly beat our Q1 expectations on both the top and bottom line, with revenue of $99.8 million or 13% year-over-year growth on a constant currency basis and adjusted EBITDA of $32.7 million, representing an adjusted EBITDA margin of approximately 33%. Our constant currency net revenue retention held steady at 108%. And as Tim will tell you shortly, we are raising revenue and adjusted EBITDA guidance for the year.

The MSP market reserve remains healthy, driven by persistent tailwinds. IT management continues to increase in complexity cyber threats are escalating and becoming more insidious. And it remains the case that small- and medium-sized businesses are challenged to hire technicians in a tight IT labor market. These dynamics push SMEs to use outsourced IT providers such as our MSP partners. Then MSPs use N-able software to manage and monitor the SME’s IT environments, protect them against cyberattacks and backup and restore their data in the event of a cyberattack or some other disaster. With a business model aimed at delivering enterprise-grade software to the underserved SME market, we believe we are uniquely positioned to benefit from the long-term secular growth of SME IT spending and the trend of outsourcing IT needs to our MSP partners.

Earlier today, I gave a keynote address on stage at our annual customer event in Prague called Empower, attended by MSPs, distributors and vendors from across the globe. The Empower conference is an event full of educational content, expert speakers and programming tracks geared towards helping MSPs scale and grow their business. During my keynote, I reminded the audience that the rate of innovation is accelerating. And as technologists, MSPs must turn uncertainty and change into assurance for their customers by keeping them informed and equipped, not merely to survive the rapid pace of change, but to make new technologies a competitive differentiator in their markets. Now more than ever, small and medium businesses look to MSPs to be that trusted technology and business adviser.

And while change has become constant, with the right strategy and focus, I reminded our MSP partners that the opportunities are massive. I also stressed to our MSP partners that managing and securing the cloud is no longer optional. SME spending in the cloud is rising, and market analysts are forecasting continued demand growth. According to Gartner projections, 95% of new digital workloads will be deployed on cloud native platforms by 2025, and we are making significant investments to enable our partners to address this growing demand. We do this in several ways. First, we deliver our solutions in the cloud. For example, our RMM solutions, N-central and N-sight, scale with our MSP partners and allow device management across several operating systems from one dashboard delivered seamlessly through the cloud.

For Cove, our cloud-first data protection-as-a-service solution, we just announced that we are strengthening disaster recovery-as-a-service by combining a highly efficient, cloud-first, multi-tenant architecture with the convenience of recovery directly into Azure, further standardizing business continuity for our partners and allowing MSPs to utilize their Azure Instances versus investing in infrastructure or private cloud offerings. The benefit of this near-instant approach on restore, combined with the benefits of the public cloud, including availability, scalability, cyber resilience and geo redundance. As of the end of the first quarter, our cloud-based Microsoft 365 backup offering was deployed for over 1.4 million unique users, up from about 900,000 in the first quarter of 2022.

And on the layered security front, our EDR solution, also cloud-based, is gaining traction in the market with approximately 1.4 million devices protected. Second, we deliver solutions that help our partners manage the cloud. Our Cloud User Hub enables our partners to automate and manage their Microsoft 365 and Azure licenses in a consolidated platform. We continue to evolve our cloud monitoring and management capabilities across our portfolio. And as SME’s demand for the cloud grows, N-able is committed to providing the solutions our MSP partners need to help satisfy that demand. Meeting with partners today at Empower, they echoed that they value the way we go beyond technology. We are not just in the software business, we are in the relationship business.

And our relationship does not end when we complete a sale to our MSP partners. It begins. To name but a few of our partner programs, we have a dedicated global partner success team and our Head Nerds, who collectively spend hundreds of hours a month in one-on-one sessions with our partners. In addition, we host events like Empower, focused on peer-to-peer networking and education. We constantly work with our partners to help them automate their business so they can be efficient with their technician time. And we train them in best practices and give them materials to help them price, package and market their services. We do this because our MSP’s success is our success. Our MSPs are effectively an extension of our sales force. This intertwined relationship is a critical component of our profitable business model.

By enabling MSPs to grow, we efficiently penetrate the fragmented SME market, which helps us grow our 30-plus percent adjusted EBITDA margins. N-able is committed to being the partner of choice for MSPs of all sizes around the world, and we will continue to raise the bar in 2023 by delivering purpose-built solutions that meet the growing needs of MSPs to keep them ahead of the technology curve. And though we believe demand is healthy and the trends point in our favor that alone does not guarantee our success. We must also continue to execute and earn more fans. During our Q4 earnings call, we spoke about our key focus areas for the year: Number one, manage everything. Number two, protect and secure. And number three, operational efficiency.

And I wanted to share update on these strategic initiatives. Looking first at our manage-everything initiative. In the first quarter, we began rolling out updates to our management platform to offer MSPs the ability to manage Windows, Linux and Apple devices from one dashboard. We believe the addition of these powerful new Apple-management capabilities is a strategic differentiator that can expand our TAM and put us side-by-side in competition with pure-play Mac vendors. An example of our value proposition for integrated management capabilities is our first quarter new customer deal for more than $140,000 of ARR. The initial conversation centered around this MSP’s existing RMM product, which they felt lacked the automation, customization and flexibility they needed.

After showing them that N-central could more than satisfy what they were missing from their legacy RMM, the conversation turned to Cove and EDR. They realized they could both save money and gain functionality by switching to Cove and were impressed by the upgraded protection EDR offered compared to legacy antivirus. Our customer service capability sealed the deal and we completed a sale of N-central, Cove and EDR. We’re pleased to see continued traction in new customer logos in our RMM platforms. We also made progress on our second focus area, protect and secure. A number of market factors are driving our focus in this initiative, including evolving compliance and regulatory standards. Companies of all sizes face growing regulatory pressure to ensure data is adequately protected from bad actors, putting MSPs squarely in the compliance business.

On top of that, we are seeing insurance providers effectively mandate that SMEs must have qualifying cybersecurity solutions in place before they underwrite a policy. This, along with the growing sophistication of attacks, has helped shift security from a nice to have to a must-have for the small and medium enterprise. We saw this firsthand during the security road shows we did this past quarter across 4 countries and 3 continents. The message from our partners was clear: They need security software that can effectively protect them and their customers from attacks and be easily deployed across the endpoints they manage. And we believe that our security offerings meet these market needs. MSP conversion from legacy antivirus to EDR protection, including our recently launched Managed EDR, offering is a significant opportunity for us to help our partners who want to ensure ongoing endpoint monitoring and immediate mitigation of malicious events.

On the data protection front, our new capability to utilize Cove standby image for restore and the Azure public cloud across multiple regions is an elegant approach for service providers to deliver enterprise-grade disaster recovery-as-a-service to their customers flexibly, and affordably. And our security and data protection offerings continue to outpace N-able’s total company revenue growth. And our last focus area, operational efficiency, we continue to improve our partners’ efficiency through automation and standardization. You can see the evidence of our success here in our trailing 12-month dollar-based constant currency net retention, which remains strong at 108%. And in fact, the partners are layering more solutions across our product suite.

One great example of partners seeking to standardize the N-able tech stack is an EDR deal of more than $300,000 of ARR we signed in the first quarter. The MSP started its relationship with N-able using our N-central product in early 2022. After working with us for the past year, they understood how more products from N-able could benefit their operational efficiency. As a result, we landed their EDR business. Notably, over 50% of this deal was from the Managed EDR solution I mentioned a minute ago. This deal is one of the largest single deals in N-able company history, and it perfectly represents the value proposition we can offer partners who standardize their tech stack with us. It is important to emphasize that none of this happens without the effort of N-ablites across the globe.

In the first quarter, we were delighted to receive recognition by a Great Place to Work in the U.S. for the second year in a row, a Comparably Global Culture award, and we were included on Built In’s 2023 Best Places to Work. We are also proud to note that we recently published our inaugural ESG report and look forward to discussing our ESG efforts in the future. With that, I would like to turn the call over to Tim to discuss our financial results and outlook, and then I’ll circle back for some closing remarks. Tim?

Tim O’Brien: Thank you, John, and thanks to all of you for joining us on the call today. We delivered strong results in the first quarter, beating the high end of our revenue and adjusted EBITDA guidance. The overall value of the N-able platform, our strategy aimed at capturing the long-term secular trend of SME IT spending and managed services growth, the multiple vectors of growth in our business and disciplined cost management all helped drive our performance. We aim to operate an all-weather business model that drives continued revenue and profit growth. Now let’s review our first quarter financial results and then discuss our financial outlook for the remainder of 2023. The revenue in the first quarter was $99.8 million, representing 10% year-over-year growth or 13% on a constant currency basis.

Subscription revenue was $97.4 million, also representing approximately 10% year-over-year growth or 13% on a constant currency basis. Other revenue, which primarily represents maintenance revenue from our discontinued perpetual license model, was $2.4 million, up 7% year-over-year. FX favorability contributed approximately $600,000 to the revenue beat in Q1 versus our guidance. We ended the quarter with 1,936 partners that contribute $50,000 or more of ARR, a 12% year-over-year increase. Partners with over $50,000 of ARR now represent 52% of our total ARR, up from 48% a year ago. Looking at net retention for the first quarter, which is calculated on a trailing 12-month basis, dollar-based net revenue retention was 103% or 108% on a constant currency basis.

Turning to profit and margins. Note that unless otherwise stated, all references to profit measures and expenses are calculated on a non-GAAP basis and exclude the items outlined in the GAAP to non-GAAP reconciliations provided in today’s press release. First quarter gross margin was 84.6% compared to 85.7% in the same period in 2022. First quarter adjusted EBITDA was $32.7 million, representing approximately 33% EBITDA margin. The profit beat was driven by strong cost management and the benefit of the revenue outperformance to the bottom line. Unlevered free cash flow was $13.9 million in the first quarter. CapEx was $5.6 million or approximately 5.6% of revenue. Non-GAAP earnings per share, was $0.08 in the quarter based on 183 million weighted average diluted shares.

We ended the quarter with approximately $98 million of cash and an outstanding loan principal balance of approximately $345 million, representing net leverage of approximately 2.0x. Approximately 46% of our revenue was outside of North America. Turning to our financial outlook. For the second quarter of 2023, we expect total revenue in the range of $102.5 million to $103 million, representing approximately 12% year-over-year growth or approximately 14% on a constant currency basis. The constant currency revenue growth guidance factors in the strength we’ve seen across the business and the timing of our annual price increases, which increases our second quarter year-over-year growth expectations. We expect second quarter adjusted EBITDA in the range of $32 million to $32.5 million, representing approximately 31% to 32% margin.

For the full year 2023, we are raising our revenue outlook and now expect total revenue of $414 million to $417 million, representing 11% to 12% year-over-year growth or 12% to 13% growth on a constant currency basis. We are also raising our adjusted EBITDA outlook and now expect full year adjusted EBITDA of $127 million to $130 million, representing approximately 31% margin. Regarding foreign exchange rates, we are assuming FX rates for the remainder of the year of $1.06 for the euro and $1.21 for the pound which has a positive incremental impact of approximately $2 million of revenue on our updated full year outlook. Regarding profit, the adjusted EBITDA raise for the full year is driven by the impact of the incremental revenue to the bottom line and our efficient operational execution.

We reiterate that we expect CapEx will be approximately 6% of total revenue for 2023, and we also expect adjusted EBITDA conversion to unlevered free cash flow to be approximately 65% for the full year. We expect total weighted average diluted shares outstanding of approximately 185 million for both the second quarter and the full year. Finally, we expect our non-GAAP tax rate to be approximately 28% in the second quarter and for the full year. Now I will turn it over to John for closing remarks.

John Pagliuca: Thank you, Tim. The new normal in our market is that we, along with our MSP partners, must constantly adapt to the ever-changing nature of the macro environment. And while external circumstances may change, our strategy remains on target. We believe we are well positioned as a critical infrastructure component to help our MSPs take advantage of the durable secular trends that exist regardless of the economic cycle. The healthy demand we see, which industry observers echo, give us confidence we have the right strategy, with the right business model to address the IT complexities, cyber threats and IT labor challenges that face the industry. So as Tim told you, we are executing efficiently and investing strategically as we aim to deliver both profitability and growth.

And our teams are laser-focused on keeping ourselves and our partners ahead of the technology curve, able to manage everything, protect and secure their customers and grow and operate their businesses efficiently. Thank you all for your interest in N-able. And with that, operator, we are ready to take questions.

Q&A Session

Operator: Thank you. [Operator Instructions] Our first question comes from Mike Cikos from Needham & Co. Mike, please go ahead.

Operator: Thank you. Our next question comes from Jason Ader from William Blair. Jason, please go ahead.

Operator: Thank you. Our next question comes from Matt Hedberg from RBC Capital Markets. Matt, please go ahead.

Operator: Thank you. Our next question comes from Brian Essex from JPMorgan. Brian, please go ahead.

Operator: Thank you. Our final question comes from Keith Bachman from BMO. Keith, please go ahead.

Operator: Thank you. That is now the end of the Q&A session. I will now hand you back over to John Pagliuca for closing remarks.

John Pagliuca: Listen, thank you all for joining us on this quarterly earnings, and we appreciate your ongoing interest in N-able. And we will be signing off from Prague, so take care.

Operator: This concludes today’s call. Thank you for joining. You may now disconnect your lines.