Megaport Ltd

ASX:MP1

Earnings Call Transcript 2022-Q4

[Operator]

Hello, everyone, and thank you for joining the Megaport Limited Fourth Quarter Cash Flow Report Release and Investor Briefing. We will begin with a presentation by the Megaport management team, followed by a 15-minute Q&A session. [Operator Instructions]

Now over to you, Megaport team. Thank you.

[Vincent English, executive]

Thank you very much. Good morning to Australia. Good afternoon for people overseas in the U.S. Welcome to the global update. We have just released our quarter 4 4C cash flow statement to the ASX, along with the global update and a copy of this short presentation, which is heavily focused on a preview of our unaudited financial statements and our cash flow for the full year FY '22.

I'd just like to remind everybody, this is the first time we're doing this for a quarterly because we will be connecting together on the 9th of August when we will be releasing our full year results, plus the annual report and then hosting over 3 days of meetings for everybody to attend and ask numerous questions. There's a Q&A session halfway through this for the last 15 minutes so that everybody can ask some questions, but we're going to have a limited time frame. We are in a blackout period where we're going through our audited procedures for our financial report.

Look, the reason we're doing this presentation is there's been a great amount of questions and feedback come back from the second half this year in terms of where our business is performing from the aspect of not just from the cash but also from our operate and expand, the leverage that we're seeing in our business. So we want to take this opportunity to kind of take everybody through that and give a snapshot, most of the detail, if not all of the detail, that you're going to see is really in the 2 documents that we've already released to the ASX.

Okay. So let's begin. First off, we want to highlight that we've had a record MRR growth in the quarter 4. It's up 13% in absolute terms. It grew up by $1.2 million to $10.7 million MRR. There is a little bit of upside in FX there, but that puts us on a run rate of $128 million of annualized revenue.

I also want to highlight that this quarter, we are EBITDA positive as a whole in our business. It's slightly delayed, as we mentioned, Q3 from some timing differences. But now we've seen that come through, which proves our operating leverage in our business. We will have a lot more detail on that on a regional basis in our full year presentation. But what's been really -- what's really added to that is that our Japan business, which we launched in November '19, is now EBITDA positive. Our Canadian business, which we launched 4 months before that, is now EBITDA positive. So our business as a whole is continuing to grow, proving our model. And again, there will be a lot of details in the financial section, which Sean will take you through.

And we're seeing growth across all of our metrics. Some of them are performing a lot higher than others. We're seeing a lot coming through from our revenue, which is really important. Our average revenue per port has increased 7%, along with some of our port growth, which gives us average revenue per port of $1,120. And likewise, we're seeing an increased growth in spend in total services and by customer, which we will go into in a lot more detail in our customer cohort analysis in our full year report.

Next, just some of the stats that are in the report, and I'm not going to go through them all, just on some key ones. Ended up at 533 ports in the quarter, which was a good uplift. It was 7% for us in uplift in ports. And in terms of the customers, we've also seen up by 101 customers in the quarter -- sorry, in quarter 4, up on quarter 3. So again, 2 very significant indicators, and these are some of the things we wanted to call out.

Notwithstanding, we grew our data centers by 14. Data centers are no longer for us a key metric, but we will still report them. They're not a massive driver. We've already established ourselves in 25 countries. We've also got the most cloud on-ramps. We got over 780 data centers that we're connected into. Adding another 10 and 20 and 30 doesn't move the needle when we're operating in some of the top GDP countries in the world today. What is important is -- now at this point in time is our growth in ports, MCRs and VXCs and, in turn, our growth in customer acquisition. We will be focusing heavily on that during our presentation at the annual report as opposed to just reporting on the KPIs, which are now readily available for everybody to see.

The customers for us are obviously -- are starting to accelerate not just -- as I said earlier on, not just in terms of the growth of new customers, but larger customers coming on to our base and spending more, which we will take through in more detail on that.

Next slide. And then just to talk about MRR as well, our highest quarter, just under $1 million, $961,000 underlying monthly recurring revenue growth, AUD 1.2 million Australian dollar terms, which is continuing to grow. And that's what we're expecting to see going forward from where we see our business. And it's been a significant uptick from where we've been operating at for the last 2 quarters, given our heavy investment in the channel and the slight growth that we see coming through there.

If you looked to the chart in -- on your right, just to talk about the growth in the channel split, which is the light blue on the top part of the stack bar, our channel grew from 35% to 36%, $10.7 million in monthly recurring revenue in total for the quarter. But that uplift of 1% equated to a 44% indirect or channel sales lift in our -- in that quarter. It's contributing to that $10.7 million. So it means that we're seeing -- we know this from some of our operating metrics that we're seeing an acceleration in our channel program as it gets going. And that's the lag part that was -- we were off on our timing over the difference between quarter 2 and quarter 3.

Just with that now, I'm going to hand you over to Sean Cassidy, our CFO, to talk you through about our global revenue and also some of our financials. And then we'll take some -- I'll wrap it up then, and we'll take some Q&A after that. So over to you, Sean.

[Sean Cassidy, executive]

Thanks, Vinny. Our monthly recurring revenue or MRR at the end of Q4 was $10.7 million. As Vinny mentioned, this is up $1.2 million or 13% from our March figure. All of our regions had strong growth with Europe up 9%, Asia Pacific up 12% and our North American market up 15% to $5.7 million per month.

Our North America market is our largest, obviously, and it's an increasingly important market for us. It is 53% of our group revenues, and it is 58% of our growth. The United States alone is the single biggest contributor to North America, and it alone accounted for 51% of our revenues in June. That figure does not include U.S. dollar billings in other jurisdictions. With 1 of 3 of our staff located in the United States and half of our assets also located there, a majority of our major contracts are denominated in U.S. dollar. It's clear that we are a U.S dollar-driven company. So from the 1st of July, the U.S. dollar has become the functional currency for the group.

Moving on to the financials for the quarter. I will point out that these remain unaudited financials as of now. Our audit is still progressing. Revenue for the quarter of $30.6 million is up $2.7 million or 10%. As I noted earlier, monthly recurring revenue is up 13% quarter-on-quarter, and that indicates an acceleration in the growth as the quarter progressed. Direct network costs of $7.6 million are slightly up on Q3. We brought on 14 new data centers into our network throughout -- in the quarter.

Partner commissions, $3.1 million, represented by 10% of net revenue, and that's broadly in line with what we've been seeing all year. We'll expect this percentage to increase in future quarters as momentum in the channel continues to build. Profit after direct network costs and partner commissions, 19 -- that effectively, our gross profit, of $19.9 million, a 65% gross margin in the quarter. That's 2 percentage points up on Q3 and 4 percentage points up on H1. Gross margin for the full year at 62%, 8 percentage points up on FY '21. OpEx in the quarter of $18.9 million mean that OpEx throughout H2 of $40.2 million is broadly in line with H1.

Momentum with our half year results, we noted that our investment in scale up, scale out was largely complete, and that you shouldn't expect additional step-up in OpEx in the second half of the year. We have held our OpEx flat in H2 versus H1 largely, although there's been a little bit of additional spend in marketing and travel. That cost control has delivered the company's first quarterly EBITDA profit. Having touched upon EBITDA breakeven in the month of June last year and have invested heavily in our sales in the first half of this year, a full quarter's profit represents real progress, and it shows the return on the delivery on the investment that we made in ourselves in the first half.

Moving on to the cash flow. Cash flow from operating activities was positive $1.6 million in the quarter. While we're not a seasonal business per se, there is a certain cadence to some material operating cash outflows that we've highlighted in previous 4Cs. Q4 is traditional low for us in terms of cash outflow. And in fact, Q4 last year, we were only marginally negative from operating activities.

CapEx of $9.5 million, of which $4.1 million is IP, that relates to further development of Megaport ONE, which will see commercial launch in August, and automation on our PartnerVantage portal, PartnerTransact (sic) [ VantageTransact ]. $5.4 million in PP&E relates to the 14 data centers that we brought into our network in the quarter, continued development and upgrade of our backbone 400-gig metros and the replacement of end-of-life roofing equipment as we move to the next-generation software-defined network.

Full year CapEx of $39.8 million is relatively high for us. We would normally expect that figure to be about $30 million. But we have -- included in that is some work in progress or inventory that we have been -- has been on accelerated purchase as we stayed ahead of silicon supply chain issues. We continued to buy on a kind of 9-month horizon, and we're currently sitting on about $10 million worth of work in progress on our balance sheet. Cash flows from financing has reduced over the last few quarters. We have had no inflows from exercise of options relating to our current share price. And cash flows from vendor financing have been positive to us because of the accelerated CapEx spend that I noted earlier. Cash burn for the quarter of $6.3 million is a marked improvement over Q3, and we finished the year with $82.5 million cash on hand. We're currently negotiating a revolving credit facility. That will take our liquidity or cash available to in excess of $100 million.

With the momentum we're seeing in the business and the move to cash flow -- to EBITDA positive, we're pretty confident that we will, in a few quarters, see sustained cash generation from operating activities, which will be followed a few quarters thereafter by free cash flow generation. We have clear runway to get there, and we are very confident that we don't need to look for additional funding.

And with that, I'll hand back to Vinny.

[Vincent English, executive]

Thanks, Sean. I was just looking back on our quarter 4 and where we're at. And as we mentioned in quarter 3, there's slight timing differences we had. We were very buoyed and confident about the momentum exiting quarter 4 coming into the new financial year '23. And we have a very high degree of confidence not just in our financial planning, our financial management, our logistics planning and our wherewithal to still be the leading network as a service provider in the world.

So with that, and there will be a hell of a lot more color more on our products, our customer cohorts, our customer strategy, our sales and revenue strategy in our -- and there will be high emphasis on that pretty much on half of our presentation once we've covered off the financials in the annual presentation. So there'll be a lot more color on that.

With that, I'll hand it back to the moderator for -- we've got 14, 15 minutes for Q&A.

[Operator]

[Operator Instructions] An expanded Q&A session will be held after the full year results briefing. So we've got our first question from Tim Plumbe.

[Tim Plumbe, analyst]

I'll just ask one question and jump back in the queue in the interest of time. Can you maybe just elaborate a little bit more in terms of where you guys are up to on that indirect strategy? I think you mentioned 44% of new ports being added coming through that channel. However, if we look at the commissions to third parties quarter-on-quarter, that was flat. So are we seeing the uplift quarter-on-quarter that we need within that strategy? And maybe if you can just talk to some of the learnings that you've had and how you're thinking about the next 12 months of expanding out to other partners?

[Vincent English, executive]

Yes. No, I'll touch on it briefly, Tim, because I have -- we are putting together quite an extensive presentation around about how all that works in 3 weeks' time. But the 44% uplift is an indication of the momentum move from that 1% uplift from 35% to 36% between quarter 3 and 36%. So it's not directly correlated to the revenue because obviously, you have to bring the customer on and all -- the revenue is coming through. So there's a little bit of a lag there. But it's an indicator to us about the momentum that's growing.

If we had a lot of that in the first quarter, if we had that back in quarter 3, that would be a much higher percentage, and we would see that come through. But you would also see the revenue. So when you see higher revenue, you see higher commission payments. That's as a result of that. But like 80% is typically kind of an indicative number of what you would see dropping through, depending on the type of deal and the customer that you're in.

So look, we're -- it's work in progress, right? We've been ramping this, like I said, since last April really hard, made some changes internally to allow us to make those tweaks and get more focus on -- more depth in the partners we've brought on rather than adding more partners. So that gets us to a revenue trail much quicker in terms of enabling them. And we will show a funnel and kind of an opportunity kind of pipeline kind of graphics around that and see how -- so everybody can understand how we are looking at it and how we approach it and also gives you an idea of the speed and how that gets turned on.

[Operator]

Next up, we've got Siraj.

[Siraj Ahmed, analyst]

Quick question. So just looking at the quarter, it seems like it's sort of back to the core products with ports doing quite well, MVEs down quarter-on-quarter. So can you just talk to any changes you have made and how we should think about the product mix going forward? Because clearly, MVE is going to be a key product for you guys as [ is the other product ], the quarter performance and the expectation moving forward.

[Vincent English, executive]

Yes. I'll jump in here first, and then maybe Sean can touch on it. But look, the way we -- we've just refocused a few things, right? I think we spent a lot of emphasis on building out the channel, which is the correct strategy to do, and we've done that. And you've all known the on commentary and on the questions we've answered around quarter 2 and quarter 3 where we've had a little bit of shifting to people who understand our products trying to bring up the channel at the same time with the products that we've got. So I've seen -- it's more of a revert back to norm now for us where we're getting -- once everybody is getting up to speed with the momentum. However, from an education point of view, product, the collateral onboarding of partners, that we're now getting back to the core. And like 90-odd-some percent of our business comes from ports, VXCs and MCRs right now. MVE is still in its infancy as we're building it out.

And just to point out, it's not a direct correlation for MVE to the channel. Channel for us is all of our products, right? So if we get channel sales, it's anybody selling any of our products. So I think that's where it's at. It's a momentum building exercise, but we've had that shift back from personnel getting focused back on our core products where we had them a little bit diverted when we're trying to build out the channel.

[Operator]

If I could now direct you to a text question that's come through from Wei Sim.

[Vincent English, executive]

Okay. I don't see it. If someone can read it out, it would be great. Thanks.

[Operator]

Sure. "So did some cost provisioning in quarter 3. Do we envisage the possibility we may need to go back to the EBITDA negative in coming quarters before being consistently EBITDA positive over the longer term?"

[Vincent English, executive]

I think that's you, Sean.

[Sean Cassidy, executive]

Yes. Thanks for the question, Wei. Yes, we are EBITDA positive, but this is still marginal. And we continue to grow as a business. I am -- but we're no means going to hockey stick in into large EBITDA profits, and it's going to be close. I am hopeful that we will be EBITDA positive going forward every quarter. But like I said, it will be close for -- certainly Q1 and Q2 should be a little bit better.

[Operator]

Now I've got a question from Nick Harris coming through verbally.

[Nick Harris, analyst]

Great to see that channel progressing. I was just curious, could you just make a couple of comments on what you're seeing sold through the channel in Q4, i.e., is it ports or MVEs that are moving the dial there?

[Vincent English, executive]

Yes. Good question, Nick. It's a mix, right? We're seeing -- I think there was an emphasis at the beginning where it was more like it was MVE, but the quicker sales are ports and VXCs and MCRs. So MCRs and ports and VXCs have kind of probably taken up more than 50% of that uplift. This just means that we're enabling our products to a wider audience that can sell it. And MVE sales are a little slower, but we're seeing really good traction with Fortinet, Versa, in particular at the moment. So they're less reliant on hardware as customers have that. So it's more about turning up services. So they have a lower or a slower -- sorry, a faster sales cycle in terms of coming through that. And some of those deals, they tend to be a little bit more global as well.

So it's kind of a combination of both. It's kind of what we want to see, to be honest, because you do need a regular rhythm of our core products coming through while we know some other products need more time, and they will tend to be bigger deals. So we want to see a consistency on the conveyor belt, whether it's coming from -- when it's coming through the channel. So we'll need both. But it's been pretty evenly spread right now as we're enabling and onboarding. And some of those sales, like I said, our core products are actually easier and quicker to turn up than having to orchestrate or build out your own hardware network to allow for SD-WAN products to work.

[Operator]

Now we've got Garry.

[Garry Sherriff, analyst]

Vinny and Sean, I just wanted to check, cost inflation is a common theme everywhere at present. Can you elaborate on where you're seeing that in your business and whether you have that ability or intent to pass on those higher costs via higher pricing?

[Sean Cassidy, executive]

I can take that.

[Vincent English, executive]

Yes. Go ahead, Sean. Go ahead.

[Sean Cassidy, executive]

Yes. We're not seeing a huge amount of inflation coming through our business. Thankfully, most of our contracted CPI increases will be kind of in the data center space, and it's contracted. So [ we're thankful ] for what the current inflation levels we're seeing out there are. We are protected by the contracts that we have currently signed.

Most of our OpEx, as you can see, 75% or slightly more of our OpEx is salary. And while there has been kind of wage inflation issues over the last while, we're starting to see that ease up a little in the current environment. So we're not seeing huge inflationary pressures on our business, and there have been no need to pass much on to the customers at all.

[Vincent English, executive]

But to answer the latter part of your question, we do have the ability to do it. Like the question is when we see the necessity to do that, right? And at the end of the day, we're still growing the business. And we believe the pricing model for the majority of our products is at the right spot because we want to grow and bring customers on. So [ let's go and see the ] market with what we've got as the leading service provider in this space, and that's kind of how we look at it. And there might be tweaks and changes here and there on the fringes, but that would be just to bring things in line rather than with inflation.

[Operator]

Now we've got Paul.

[Paul Mason, analyst]

Just in terms of the split between direct and indirect sales, one of the things over the last couple of quarters has been that you've been deploying a lot of the direct sales team into educating partners, and that had sort of taken away from their ability to execute on direct sales to some degree. Could you make some comments on sort of with this result, which is obviously a lot better than the last 2 quarters, was that still a factor? Or was your direct sales team effectively like unimpeded this quarter in terms of having to do a second job in educating partner channel?

[Vincent English, executive]

Yes. No, I think to an earlier question that's linked, we have seen a lot more focus since the April time frame when we made a few tweaks and rejigged a few things around about how do we onboard quicker and faster and, like I said, go deeper with the partners that we had coming on, on the indirect side rather than spreading ourselves too thin. And then that's meant that we've had to -- we've had the majority of our teams all come back in to focus on quarter 4 as per their -- what we originally hired them for.

So I think you're seeing the benefit of that come through right now in this quarter, and that shouldn't change as far as we're concerned. That's important. We had to divert that. It was an important part of the investment in the first half and coming out of the first half into quarter 1, trying to educate and onboard a lot of these partners who don't really fully understand how our product works and how -- we had a lot of education to do there. So yes, that was the decision we made, and that's kind of probably lost. That was that piece I talked about in quarter 3 where we sort of had a time gap because we were a little -- probably relieved that we thought that was going to happen faster than it actually really did. So we've refocused that right now so -- to bring that back in. And I think you're seeing an impact of that come through in quarter 4. And we're going to keep focused on that. There's not -- it should actually get -- it should be less distracted from here on in.

[Operator]

Next, we've got a question from Bob.

[Bob Chen, analyst]

Vinny and Sean, just a quick one for me. Just looking at that pretty strong incremental MRR coming through for the quarter, how should we think about that going into sort of the next couple of years? Like can we expect that level of run rate to be sustained into the next few quarters?

[Vincent English, executive]

Is this the underlying MRR chart that I showed earlier on, about $1 million? I think it is.

[Bob Chen, analyst]

Yes. That's where I found it.

[Vincent English, executive]

Yes. I mean, look, as Sean said, we're going to change our functional currency to U.S. dollars. So we should be talking less and less about an underlying MRR. And then the euro-U.S. is nearly at parity anyway. So really, there's only sterling in the end that we have to -- which is not -- they're not -- they're important parts of our business, but they're not overly dominant.

So I think overall, it's an important chart to look at in terms of where our growth is. But a lot of that's been driven by, as I've said earlier on, just the refocus that we took back in April around this. It's also about the -- making sure that we're in the right markets that we need to be in and how do we grow that. And a lot of it is also linked to the customer acquisition growth. So 100 customers in quarter 4 was a decent turnout. And the good thing about that from our perspective is we've seen a lot of that come through in June, which means that we're going to have -- the majority of them, when they take up services in June, are going to be billing pretty much for the whole of quarter 1.

So we can see that kind of lag. It really depends like where a customer start comes on in the first month, the second month or the third month of a quarter, where do you see the link between the customer acquisition and then the growth in the revenue and services at the same time. But yes, that's been one of our goals is to make sure we get sales and customers in earlier in the quarter, so you get a bigger bank.

[Sean Cassidy, executive]

Yes. And I'll just step in a little bit as well, Bob. While the whole reason we did the channel is to increase the kind of revenue growth and as an accelerator in the top line, and we expect to see MRR growth increase going forward, let's not forget, this one is a record quarter. So using that as a baseline is -- would be on the [indiscernible] of things. So well, there is -- has been a return to the sales efficiency that we saw tail off in kind of Q3 of this year, and there is a strong improvement. And it is a better indication of our sales momentum going forward. But just please bear in mind that this is an all-time record high.

[Vincent English, executive]

Yes. And also, bear in mind that Europe goes on vacation for July and August. So you're going to -- it's not all -- and it's a growing segment in our business as well. So it's vacation time. So there is a little bit of seasonality, a lot of people getting stuff done in quarter 4 so they don't have to work too hard in quarter 1, if you know what I mean.

All right. Do we have time for one more question? Or are we on time?

[Operator]

We're on top of the hour.

[Vincent English, executive]

Okay. All right. All right. Listen, I appreciate everybody coming on. I know it was short, but we are in a sort of a blackout period. And we just wanted to make sure that people in the current environment got a little bit more color on our KPIs that we will continue to push out quarterly. So look, we're looking forward to catching up with everybody with a lot more detail more on the financial, less on the KPIs as most of them are now available but certainly a lot more focus on customers, the customer cohort, the revenue strategy and then just the plans for FY '23 and beyond overall for Megaport.

Okay. With that, thanks very much for coming on the call.

[Sean Cassidy, executive]

Thanks all.