Blackbaud Inc Q2 FY2024 Earnings Call

Good day, and welcome to the Blackbaud Inc. Second Quarter 2024 Earnings Conference Call. Today's conference is being recorded. I'll now turn the conference over to Tom Barth, Head of Investor Relations. Please go ahead, sir.

Good morning, everyone. Thank you for joining us on Blackbaud's second quarter 2024 earnings call. I'm Tom Barth, the new Head of Investor Relations here at Blackbaud. I'm very excited to have recently joined the Blackbaud team. I likely know a lot of you, but I look forward to working with all of you. Joining me on the call today are Mike Gianoni, Blackbaud's CEO, President and Vice Chairman; and Tony Boor, Blackbaud's Executive Vice President and CFO. Mike and Tony will make prepared remarks and then we'll 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. Please refer to our most recent Form 10-K and other SEC forms for more information on those risks. The discussion today will focus on non-GAAP results. Please refer to our press release and the investor materials posted to our website for the full details on our financial performance, including GAAP results as well as full year guidance. We believe that a combination of both GAAP and non-GAAP measures are more representative of how we internally measure our business. Unless otherwise specified, we will refer only to non-GAAP financial measures on this call. Please note that non-GAAP financial measures should not be considered in isolation from or as a substitute for GAAP measures. With that, I'll turn the call over to you, Mike.

Thank you, Tom, and good morning, everyone. Before I talk about our second quarter, I'd like to highlight how far our company has come these past several years by executing on our five-point operating plan. We've extended our position as the world's leading provider of software to power social impact through product innovation to better serve the very specific needs of non-profit customers. Successfully implemented key revenue initiatives to enhance the predictability of our growth, all while maintaining key attention to cost management and cash flow. As a result of this work, we've accelerated our revenue growth, significantly improved our adjusted EBITDA margin driven by sustained double-digit non-GAAP EPS growth, and generated significant free cash flow, which we have used to fuel a material stock repurchase program that was recently expanded and replenished to $800 million. Our progress is also evident in our strong second quarter results. Organic revenue growth for the quarter was approximately 7%, significantly accelerating from the 2.8% growth in the second quarter of 2023. Total revenue growth was strong, growing 8%, excluding the negative revenue growth impact of EVERFI. Our adjusted EBITDA margin was 36%, up nearly 300 basis points year over year, and our non-GAAP earnings per share was $1.08, up 10% year over year, which does not yet reflect the full benefit of the $200 million ASR. The final piece of which will settle later this share, but does reflect a higher tax rate. These results are a direct result of our continued focus and execution against our strategy and operating plan we have detailed in previous quarters, and they highlight the leverage and strength of our technology, franchise, and financial model. While our record of performance is exciting, we're just getting started. The company is approaching another inflection point. In addition to improving our operations and go-to-market capabilities, we have successfully addressed and closed the book on many of the challenges the company faced over the past few years, allowing us to now focus primarily on the tremendous growth and value creation opportunities ahead in the near, mid, and long term. We believe Blackbaud is a compelling investment with multiple opportunities for strong shareholder returns. First, as an industry leader, with the most comprehensive set of purpose-built and mission-critical software and services, we have an inherent ability to penetrate even further into a rich market opportunity. Second, the leverage of our financial model allows us to continue to aggressively invest in innovation, which provides great value for our customers and enhances our ability to attract new customers. Third, we generate strong cash flows and are committed to disciplined, value-maximizing capital returns. We believe that at current valuations, Blackbaud is undervalued and we plan to be aggressive in the repurchase of our stock to improve shareholder value. I'd like to comment on the first two drivers, and Tony will speak to the third as well as dive into our results and guidance. We have a rich market opportunity in front of us, strengthened by our innovation. U.S. charitable giving in 2023 was over $500 billion, of which roughly $100 billion is donated, granted, and invested through our Blackbaud platforms globally. In our social sector, we continue to primarily focus on mid-size and enterprise nonprofits. And as market leader, we continue to see great opportunities to land new logos to well expand our offerings to our existing customers. And we appreciate that our customers have choices too. For decades, we have enjoyed being the market leader with strong brand recognition and unmatched breadth and depth of our product capabilities. But we're not relying on the success of our past. We continue to invest aggressively in innovation and partner with our developer network through APIs to produce continuous product enhancements throughout our portfolio, including generative AI capabilities, which in turn enable our customers to raise more money while increasing operational efficiency, ultimately allowing them to spend more time executing on their charitable missions and less time on administrative tasks. We're a natural choice for customers and new prospects alike. The alternative for our customers is a disjointed competitive landscape where we believe no company offers the combined breadth and depth of our capabilities. These include smaller, disparate point solutions that address only single aspects of the complex comprehensive technology needs of non-profits or larger horizontal software companies that lack depth of non-profit-specific functionality and offer require complex, expensive customization and potentially additional vendors to meet customer needs. Moving to our business results, our social sector is our largest revenue segment representing 88% of total revenue in the quarter. The social sector is performing extremely well. Social sector revenue grew 8.5% year-over-year in the second quarter. A dramatic acceleration compared to the 2% growth rate in the second quarter of 2023. The social sector has proven to be very resilient, as demonstrated through the last several downturns in the COVID-19 pandemic, and we have great confidence in the long-term trajectory of this business. In our corporate sector, performance has been impacted by EVERFI, which despite being only 8% of total company revenues has been a drag on growth. EVERFI has unique and valuable assets, including a comprehensive catalog of content, great customer relationships, and a deep talent pool. However, EVERFI has faced a number of external challenges and while we have taken decisive actions, including changes to corporate sector leadership and divestiture of non-recurring components of the business, EVERFI continues to be a drag on Blackbaud's overall strong performance. Accordingly, we are actively considering a range of strategic alternatives for EVERFI, one of which includes a potential divestiture of the business. This work is in the early stages and EVERFI remains well-positioned to support its customers. We will continue to update you as progress is made on this initiative. Before turning to Tony, I want to reinforce the meaningful progress we've made over these past several years to bolster our foundation for success. Our operating plan continues to drive top and bottom-line growth as well as strong cash flows. We remain committed to repurchasing as much as 10% of our outstanding shares in 2024. Our near-, mid-, long-term future is bright. I'll come back after Tony in a few minutes with some closing thoughts and then we'll take your questions.

Thanks, Mike. I'm very pleased with our continued progress and remain excited about the road in front of us. The execution on our strategy and operating plan is visible in our positive top and bottom-line financial results. Looking to those second quarter results, total revenue was $287 million, up 6% year over year, and almost 7% on an organic basis. Our social sector, which represents the lion's share of Blackbaud's revenue at 88%, continues to perform particularly well with revenue growth of 8.5%. Within the social sector, contractual recurring revenue grew 9.5% year over year, while our transactional recurring revenue in the social sector was up 8.2%. The corporate sector, which represented approximately 12% of total revenue in the quarter, declined 9.2% and continues to be weighed down by underperformance at EVERFI. Recall, EVERFI only represents 8% of the company's total revenues, and our results reflect the divestiture of EVERFI UK that was completed in March of this year. We expect headwinds at EVERFI to continue, and as Mike said earlier, we're pursuing strategic alternatives for this business. Moving to below the revenue line, we're also pleased with the outcome of our continued cost management initiatives that drove a 290 basis point year-over-year improvement in our second quarter adjusted EBITDA margin of 35.7%. We overachieved on our rule of 40 goal for the quarter with a result of 42.4% and are well on our way to our rule of 40 goal for the full year of 2024. We generated $36 million of adjusted free cash flow in the second quarter, taken together with a strong adjusted free cash flow generation in the first quarter of $53 million. Our first half adjusted free cash flow is up approximately 50% compared to the first half of 2023. Our robust free cash flow gives us confidence to continue investment in a number of critical areas like product innovation and stock repurchases. In addition to our previously announced ASR, we plan to be aggressive in repurchasing our stock at the current valuations. As recently announced, the board of directors has reauthorized, expanded, and replenished the company's existing stock repurchase program, raising the total capacity from $500 million to $800 million available for repurchases of the company's common stock. We believe there is no better use of capital than investing back into the business through product innovation and returning capital to shareholders around these valuation levels. Before I talk about annual guidance, I'd like to highlight several items for you to think about, which may help in developing your views for the remainder of the year and end of 2025. Regarding revenue, in addition to the continued anticipated headwinds at EVERFI, we cannot predict whether there will be any viral charitable giving events in 2024, like the ones we benefited from in 2023, and if there aren't, this creates a more difficult comparison for the second half of 2024. Second, as a reminder, our modernized approach to contract renewals is expected to generate sustained revenue growth for the business. In summary, we are moving our customers to a standard three-year contract, which is new for us, and we're following industry norms by implementing annual price escalators within those multi-year contracts, which is also new for us. You can refer to our investor deck for additional information on this program. Additionally, here are some bottom line items. During each third quarter, the company implements its annual employee-wide merit increase, which causes margins and cash to dip slightly. We plan to continue to maintain tight controls on costs and headcount, but there may be quarter-to-quarter fluctuations with the timing of attrition and hiring as we continue to invest in the business. Next, our business has some degree of seasonality with our second and fourth quarters typically outperforming the first and third quarters. As far as quarterly pacing, as I mentioned earlier, our third quarter is expected to be a difficult comparison over Q3 of 2023 due to the increased levels of viral charitable giving events last year. Of course, we could see some of these events reoccur. Lastly, regarding our accelerated stock repurchase or ASR, this program had an initial delivery of 2.1 million shares in March, and we currently expect an incremental delivery of more than 500,000 additional shares at settlement later this year. Turning to guidance, we are reiterating our full-year guidance ranges across all metrics. The core social sector continues to perform well and is tracking the plan. However, due to underperformance at EVERFI, we currently anticipate being towards the low end of our revenue guidance range. At the same time, we anticipate being at the high end of our adjusted EBITDA margin guidance range due to our strong profitability performance year-to-date and continued focus on cost management. We have a lot to be proud of in the first half of 2024. We continue to execute on our operating plan to drive strong top and bottom-line results and cash flows. We're especially pleased with the performance of our core social sector and have confidence in its ability to produce profitable growth going forward. We remain focused on providing enhanced value to our customers and our shareholders. We also, as Mike discussed, are committed to removing the negative impact of EVERFI, which we believe will accrue value to the benefit of our shareholders. Let me turn it back to Mike for a quick comment and then we'll open up the line for questions.

Blackbaud's revenue growth and margins have improved dramatically over the last couple of years, including this quarter. We feel that much of this success, including high single-digit revenue growth in our core social sector, expanding EBITDA margin, and strong free cash flow seems to be undervalued by the investment community. Therefore, we'll continue to aggressively invest in the repurchase of our shares. Our proven operating plan is driving tremendous results, and we believe Blackbaud’s near, mid, and long-term future is bright. Thank you, and we look forward to your questions.

Our first question is coming from Brian Peterson of Raymond James. Please go ahead.

Thank you for the question. Mike, I would love to get an update on how the bookings environment looks on the social side. How does the health of that business look and as we're thinking about the lower end of the growth outlook for the year, is that solely related to what's going on with EVERFI? Just want to get an update on the health of the social side of the business.

Yes, sure. Brian, bookings are doing fine on the social side of the business, which is pretty much the whole company minus EVERFI. New logos are good, product sales productivity is up, and the revenue drag is fully related to EVERFI. I'll just point out, just said this in the prepared remarks, but Q2, the social sector is about 90% of the company. Last year's Q2 grew at 2% this year, 8.5%, a massive improvement in the business. And we've got plans for EVERFI, as I mentioned, to improve the business, including a potential sale.

And maybe a good follow-up on that, just to understand EVERFI or even looking at the corporate segment in general, how could we think about the margin profile of that business relative to the social side? Anything you can share there, Tony?

The EVERFI business has a revenue outlook that I want to clarify. An additional positive aspect for us in the latter half of the year is the possibility of some charitable viral events. As you may recall from our prepared comments, we are facing a challenging comparison this year since we had an exceptional Q3 and Q4 last year, driven by several significant charitable viral events. Currently, our forecast does not include any of these, but if we see some occurring, it could provide additional upside. Overall, EVERFI's profitability and contribution are quite dilutive in terms of both growth and EBITDA, so there is considerable work to be done in that area. We have several plans in place, and as Mike mentioned, we've already implemented management changes. We will keep you updated on our progress with those efforts.

The next question is coming from Rob Oliver of Baird. Please go ahead.

Thank you, guys. Good morning, and I apologize for any background noise. Mike, my first question is for you just in light of the announcement regarding EVERFI and the potential strategic alternative considerations, I was wondering if you could just talk to your general view about the corporate sector, the corporate part of the business. Is that still an important part of the business for Blackbaud? Why do you need to be in it at all? And talk about your philosophy on whether you should remain there? And then I just had a question follow-up for Tony as well.

Sure. The corporate sector includes several platforms, primarily EVERFI, and the YourCause business is performing exceptionally well, contributing positively to the company's growth. The challenging aspect is EVERFI. YourCause has a significant global presence, linking global non-profits and corporations that support them. It plays a crucial role in our ecosystem, and once again, that platform is performing well, showing good growth and international expansion. I believe it's an essential sector, connected to the non-profit sector through the companies on the YourCause side. As we have mentioned several times, EVERFI represents 8% of the company, while the remainder of the company is doing very well.

Great. Thank you, appreciate that. And then Tony just, you talked about migrating your customers towards three-year renewals, three-year contracts on the social side of the business. And it does seem like that's been going well. You can certainly see it in the growth rate. I'd be curious, I know there was a cohort, and I've asked you this question before. There was a cohort of customers that took one-year renewals and not three, and you did call out some potential for concern that we need to get through that cohort. Where are we in that cohort now? If you can give us an update, that would be great. Thank you.

Rob, thanks for the question. We started this program late Q1 of last year. So, we have come up on a good chunk of those initial contracts, where customers may have chosen a one-year versus a multi-year agreement. That's what we were keeping an eye on. The good news is that our renewal rates have fared very well. Overall, our gross dollar retention number, which we now disclose publicly, you can see held steady at 90% for the company. It's pulled down a little bit by EVERFI, but overall, we held constant at 90% gross dollar renewal year-over-year, which is very positive considering all the efforts on the contractual front.

Rob, I'll just add something, too, just for clarification. So, this program has been going on for a while now. It's just part of the business. It includes moving customers to three-year contracts. For your question, it also includes annual price escalators, which we've never had before, and these will continue when these three-year contracts renew. We will also have annual price escalators in, call it, years four, five, and six, if you will. The program doesn't end after the initial three years. It continues.

The next question is coming from Matt VanVliet of BTIG. Please go ahead.

Good morning. Thank you for my question. As we move past summer and approach the new school year, could you share some insights on how the K-12 business is performing, particularly highlighting any areas of that portfolio that are excelling?

Yes. Thanks, Matt. K-12 is doing really well. We've got some very good leaders in there, in sales and product and engineering, great market presence. We made an equity investment in a partner company to help with that portfolio that we announced a little while back, which is a K-12 website, marketing, and admissions set of capabilities that's just additive to our platform. So, we're doing really well there of the platform that runs the schools, to fundraising, financials, and tuition management, having a great year and lots of growth opportunities.

Okay. And then just following up on the EVERFI headwind here. Could you at least try to quantify how much of the forward outlook being at the lower end is due to ongoing maybe churn or at least downsell to customers versus an underperformance on new bookings? Just curious on sort of where you're feeling rent today.

Yes. Sure thing. Again, it's 8% of the company, to be clear. It's predominantly in bookings and the revenue drag on the company is EVERFI. The rest of the business, 90% or so in Q2 just grew 8.5%.

The next question is coming from Parker Lane of Stifel. Please go ahead.

I appreciate you taking the questions. Mike, you mentioned the company reaching another inflection point as a result of you putting a lot of the challenges of recent years in the rearview mirror. You just sort of rehash what some of those challenges, the most notable challenges were and how it sets the company up for sustainable growth going forward?

Yes, absolutely. We implemented a 5-point operating plan that had been prepared prior to the onset of COVID, which caused us to pause for a bit. We've since made significant progress on several aspects of that plan. We've closed data centers, updated list prices, and introduced a new contract renewal program. We're also promoting a lot of innovation. This has contributed to our company's growth, which increased from 2% to 8.5% last quarter. Many of the previous challenges, including a security incident from years ago and associated legal matters, are now largely resolved. For instance, we announced a settlement with California and just finalized a class action matter. These issues were a distraction for management, but with them behind us, we are seeing a lot of positive developments. Year-to-date, our free cash flow has increased by 50% compared to last year, and our EBITDA stands at about 36% per quarter. I've highlighted revenue growth before, and all key metrics are aligning well for growth and margin expansion.

And then Tony, on the viral charitable giving, I understand you have a very tough comp. Can you just talk about the visibility you have into those campaigns? I know they kind of are related to specific events that are typically unforeseeable. So, how do you consider that in your guidance for the balance of the year?

We currently do not plan to include any charitable viral events in our forecast. As I mentioned earlier, if we do see some of those in the second half, it could provide some upside on our revenue guidance, which we currently expect may be at the low end due to EVERFI. The visibility is challenging, as many of these events are unforeseen and could be affected by various factors like weather or unfortunate circumstances such as wars. However, there are other types of charitable viral events, like races and walks, that we have a bit more visibility into. Typically, the significant downturns we faced last year came from unexpected events, so we will have to wait and see what the second half of the year brings. We didn't experience anything substantial in the first half.

I think the point we made though is that those represent some upside for the second half of this year. Not downside there ever some upside. The drag in revenue again is EVERFI.

The next question is coming from Kirk Materne of Evercore ISI. Please go ahead.

Mike or Tony, can you just talk about sort of the new contract cycle for you all? I mean, I think there was supposed to be roughly 30% this year and then the balances in the next couple of years. I guess, how's that going? Or any clients coming to you and wanting to sort of renew earlier or talk about sort of shifting over to different contract terms earlier? Just give us an update on that.

It's going well, Kirk. We've got some slides on this in the IR deck to try to explain it. It's going well. It's just a core part of the company now. We'll be done with about 65% of those available by the end of this year. And the program is going as planned. There's been no changes. Pretty much the bulk of the customers are signing up for three-year contracts. As we get through this, we have significantly less and less one-year contracts. We'll have some small amount of customers remaining at one-year contracts because they're mandated to have only a one-year contract, which is fine. But, in the main, we'll be a pretty much a three-year contract company, that renews about 30% to 35% of them every year. So, in 18 months or so, we'll start the cycle again and we'll renew those for three-year contracts with annual price escalators. So, all in all, it's going really well.

And then Tony, sorry if you touched upon this, I jumped out a little bit late, but on the divestiture of EVERFI non-recurring business in the UK. I assume that's a very small part of the drag. I think the bigger part of the drag in corporate is just softer bookings and retention. Is that the way to think about it?

Correct. Yes, that was a single millions of dollar business that we divested in the U.K. and our organic numbers would adjust for that.

At this time, I'd like to turn the floor back over to Mr. Boor for closing comments.

Thank you, Donna, and thank you, everyone, for joining us today. In August and September, we will be attending a number of investor events, including several investor conferences, which are now listed on our Investor Relations site. We look forward to speaking with you soon, and have a nice day.

Ladies and gentlemen, thank you for your participation. This concludes today's event. You may disconnect your lines and log off the webcast at this time, and enjoy the rest of your day.