Earnings Call Transcript - MANH Q2 2023

Operator, Operator

Good afternoon. My name is Camilla, and I will be your conference facilitator today. At this time, I would like to welcome everyone to the Manhattan Associates Second Quarter 2023 Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. As a reminder, ladies and gentlemen, this call is being recorded today, July 25, 2023. I would now like to introduce your host, Mr. Michael Bauer, Head of Investor Relations of Manhattan Associates. Mr. Bauer, you may begin your conference.

Michael Bauer, Head of Investor Relations

Great. Thank you, Camilla, and good afternoon, everyone. Welcome to Manhattan Associates' 2023 second quarter earnings call. I will review our cautionary language and then turn the call over to Eddie Capel, our CEO. During this call, including the question-and-answer session, we may make forward-looking statements regarding future events or the future financial performance of Manhattan Associates. You are cautioned that these forward-looking statements involve risks and uncertainties, are not guarantees of future performance and that actual results may differ materially from the projections contained in our forward-looking statements. I refer you to reports Manhattan Associates filed with the SEC for important factors that could cause actual results to differ materially from those in our projections, particularly our annual report on Form 10-K for fiscal year 2022 and the risk factor discussion in that report as well as any risk factor updates we provide in our subsequent Form 10-Qs. We note that the turbulent global macro environment could impact our performance and cause actual results to differ materially from our projections. We are under no obligation to update these statements. In addition, our comments include certain non-GAAP financial measures to provide additional information to investors. We have reconciled all non-GAAP measures to the related GAAP measures in accordance with SEC rules. You'll find reconciliation schedules in the Form 8-K we submitted to the SEC earlier today and on our website at manh.com. Now, I'll turn the call over to Eddie.

Eddie Capel, CEO

Very good. Thanks, Mike. Good afternoon, everyone, and thank you for joining us as we review our second quarter results and discuss our increased full-year 2023 outlook. Manhattan delivered record Q2 and first-half results. For the quarter, total revenue increased 20% to $231 million, and adjusted earnings per share increased 28% to $0.88, both exceeding our expectations. Q2 was our ninth consecutive all-time record revenue quarter. Driving top-line outperformance and earnings leverage was 44% growth in cloud revenue and 23% growth in services revenue. This encompasses double-digit top-line growth across all our geographies as our global teams continue to execute very well for our customers. While global macro volatility continues to be persistent, Manhattan's business fundamentals are solid. Demand for our solutions is robust, customer satisfaction is high, and investment in research and development and our associates continues to widen our technological leadership across supply chain execution, omnichannel, and retail point of sale markets. Now RPO, the leading indicator of that growth, increased 38% to just over $1.2 billion. Demand for our mission-critical cloud solutions remains strong and resilient across our entire product portfolio. From a vertical perspective, retail, manufacturing, and wholesale continue to drive more than 80% of our bookings for the quarter. Across our solutions, the sub-verticals are quite diverse. For example, in the quarter, cloud deals won include a beverage distributor, a luxury brand and specialty retailer, a food distribution services company, an office supply retailer, a technology distributor, and a home furnishing brand and manufacturer, as well as a number of others. Year-to-date, competitive win rates continue to be solid at about 75%, with 25% of our new cloud bookings being generated from net new logos. Additionally, in Q2, we had a healthy mix of conversions, upsells, and cross-sells. While the timing of large deals and bookings mix will certainly vary on a quarterly basis, we believe the breadth across sales categories and products exemplifies our multiple opportunities for sustainable future growth. Foundational to our growth is the combination of our ability to deliver industry-leading solutions and service to our customers. Our best-of-breed cloud-native platform and solutions provide unmatched access to innovation and are a crucial component to our customer success, helping our clients strengthen their relationships with their end customers, drive more revenue, and improve efficiency. These powerful benefits are translating into a robust solutions pipeline that has new potential customers representing about 35% of our demand. Our solid product activity is also driving our services growth and pipeline. For example, our professional services team completed over 100 go-lives in the quarter and continues to perform superbly for our customers. To support our growth, we're making solid progress on a hiring goal of approximately 450 new associates for 2023. In Q2, we added over 150 new team members, bringing our total new hires to over 330 for the first half of the year and over 900 over the past 18 months. While we remain appropriately cautious regarding the global economy, we continue to invest for growth. This includes strategic investments in industry innovation, further enablement of our customer success, and expanding our addressable market. In late May, at our global conference, Momentum, we showcased some of our industry-leading innovation. Our customer attendance trends continue to be strong, with both 2022 and 2023 conferences running above pre-pandemic attendance levels. A part of the explanation for our continued engagement growth of Momentum is the expanded breadth of the customer personas that we serve. This includes significant participation level increases from both store systems leadership and technologists within our customer base. As you'll recall from prior calls and as clearly noted in the recent Forrester Wave for omnichannel order management, we are the definitive market leader when it comes to providing store capabilities around order fulfillment. In fact, every day, nearly 100,000 store associates use our cloud-native technology to ship orders to customers' homes, prepare them for pickup in curbside, and perform other critical omnichannel retail functions. Additionally, as our customers evolve their consumer experiences, we have cutting-edge advancements waiting to help them. For example, this year, we unveiled native support for RFID within our store applications, and we're currently working with several leading retailers to deploy this technology. Support for RFID delivers a dramatic improvement in store inventory accuracy—a metric which has a direct impact on store fulfillment of online orders and the digital consumer experience. RFID can also deliver a significant reduction in store associate labor hours. We've also built RFID support into our point of sale applications, so checkouts and returns are faster and easier for the customer. Recently, we closed a new point of sale deal with a leading North American outdoor apparel brand. This deal was notable for several reasons, including that our point of sale is the very first application that they are subscribing to from Manhattan. While we believe more strongly than ever in the power of unification within omnichannel and supply chain, it's also important to be able to compete successfully on an application-by-application basis for new business. Turning to another key customer constituency—the technologists, who were present at our Momentum conference. Ever since the first release of our Manhattan Active platform in 2017, we've made it a priority to deliver new capabilities each quarter focused on the technologies within our customer base, from an unmatched library of API endpoints, extension points, and a fully extensible focused application. The focus we have on serving technologists and developers has never been more apparent. It's now easier than ever for our customers to tie our APIs into their broader supply chain commerce system landscape. Our Manhattan Active platform technology sessions at Momentum this year were standing room only. Our customers weren't just there to hear about the tools for their technologists. Given the modern API-first architecture of the Manhattan Active platform, they also wanted to learn about the possibilities that OpenAI might afford us all. We believe that the combination of best-in-class supply chain commerce solutions, a modern technology architecture, and generative AI has strategic and game-changing potential for all of us. At Momentum, we feature some real-world working generative AI prototypes for our customers to bring the abstract to life. For instance, one challenge of using best-in-class agile supply chain technology is managing the almost infinite flexibility and configurability it offers. Machine learning can assist with system self-tuning, but optimizing through manual configuration can be time-consuming and challenging. We believe that the power of natural language models can assist on both fronts by providing super-fast access to key documentation, knowledge bases, and explainer videos, while also allowing our customers to configure our application directly from text-based dialogue. Once fully productized, this powerful facility will accelerate the initial implementation of our systems and quickly adapt configurations to changing business conditions and new innovations. We've also had initial success using large language models to write code. During an implementation, integration of our systems into the broader ecosystem can sometimes be one of the proverbial long poles in the tent. In our labs, we've seen these models successfully develop integration code across several key endpoints. While progress in this area is early, it is meaningful and very encouraging nonetheless. Finally, we are optimistic about technology's ability to deliver a strategic step change in chatbots focused on the end consumer. Chatbot technology of the past has successfully automated simple questions and answers around order and delivery status, but these capabilities have been confined to a finite and narrow set of functionalities. Using large language models, we believe the range of what chatbots can do can expand enormously, and given our focus on customer service, this is a real opportunity to deliver next-generation end-consumer experiences around chatbot engagement. As you can see, we are excited about the opportunities around large language models, and we will continue to work with our technology partners to advance our strategy into the future. That concludes my business update. Dennis is going to provide you with an update on our financial performance and outlook, and then I will close our prepared remarks with a brief summary before we move to Q&A. So, Dennis?

Dennis Story, CFO

Okay. Thanks, Eddie. Our Manhattan global teams continue to execute very well in a challenging macro environment. For the quarter, we delivered a strong balanced financial performance across top-line growth, operating margin, and cash flow. This includes posting record results across revenue, RPO, adjusted operating margin, and earnings per share. On an as-reported basis, our Q2 results came in at the Rule of 50. If our revenue growth is normalized for our cloud transition, excluding license and maintenance revenue, our results exceeded the Rule of 50. FX did not have a meaningful impact on RPO or revenue in the quarter. Also, in reviewing our strong financial performance, growth rates are on a year-over-year basis unless otherwise stated. Looking at total revenue: total revenue was $230 million, up 20%. Excluding license and maintenance revenue, which removes the compression driven by our cloud transition, our total revenue was up 27%. Cloud revenue totaled $61 million, up 44%. As Eddie highlighted, we ended the quarter with RPO of $1.2 billion, up 38% compared to the prior year and up 7% sequentially. Our RPO performance was a healthy mix of sales across our categories, including conversions, new logos, and upsells, along with solid results from our Manhattan Active suite of products. We also experienced a few larger deals get pushed in timing combined with a few customers experiencing bankruptcies. While immaterial as a percentage of RPO, without the bankruptcy contraction, our sequential RPO increase would have been roughly in line with Q1, about $100 million. As of June 30, 98% of our RPO represents cloud-native subscriptions. Global services delivered record revenue, totaling $125 million, up 23% as cloud sales continue to fuel services revenue growth globally. Adjusted operating profit was $68 million, with an adjusted operating margin of 29.6%, up 210 basis points year-over-year. Our performance was driven by strong cloud and services revenue growth combined with operating leverage as our cloud business scales. As Eddie discussed, we continue to invest for future growth. This resulted in Q2 earnings per share of $0.88, up 28%, and GAAP earnings per share of $0.63, up 29%. Turning to cash: operating cash flow was a solid $41 million, with timing of collections driving the year-over-year change. This led to a free cash flow margin of 17% for the quarter, with year-to-date free cash flow margin totaling 22%. Year-to-date operating cash flow increased 18% to $99 million, absorbing about $37 million in cash taxes paid in the first half of the year. For the full year 2023, we are on pace to pay approximately $75 million in cash taxes. Moving to the balance sheet: deferred revenue increased 28% to $227 million. We ended the quarter with $153 million in cash and zero debt. Accordingly, we leveraged our strong cash position and invested $67 million in share repurchases in the quarter, resulting in $141 million in buybacks year-to-date. Our Board has approved the replenishment of our $75 million share repurchase authority. On to our updated 2023 guidance. Consistently, our financial objective is to deliver sustainable double-digit top-line growth and top-quartile operating margins benchmarked against enterprise SaaS comps. This includes a balanced investment approach to growth and profitability. With strong first-half performance and increasing visibility, we are raising our 2023 revenue, operating margin, and EPS guidance. We are also reiterating our 2023 RPO guidepost range and midpoint of $1.35 billion. All guidance references made on today's call will be the midpoint of their respective ranges. As noted on prior earnings calls, we will be updating our RPO outlook on an annual basis. On RPO, as previously noted, our bookings performance is impacted by the number and relative value of large deals closed in any quarter, which can result in lumpiness throughout the year. So for the full year 2023, we expect total revenue of $890 million, up $30 million or 3% from our prior midpoint of $860 million. Excluding license and maintenance attrition, this represents 24% growth. Our target is 16%. For Q3, we expect total revenue of $226 million, with 24% year-over-year growth excluding license and maintenance. Our target is 14%. For operating margin, we are increasing our midpoint to 27.5%, up from our prior midpoint of 26.5%. Included in this outlook is a 150-plus basis points headwind from the reduction in license and maintenance revenue. We are continuing to invest in our business. At the midpoint, we are targeting Q3 operating margin of 27% and 24.3% in Q4, accounting for retail peak seasonality. Our full-year adjusted earnings per share outlook is increasing by $0.21 to $3.09, up 7% from our prior midpoint of $2.88. On a quarterly basis, we are targeting Q3 of $0.77 and $0.65 in Q4, which again accounts for Q4 retail peak seasonality. For GAAP earnings per share, our midpoint increases by $0.17 to $2.20, up 8% from our prior $2.03 midpoint. For Q3, we are targeting GAAP earnings per share of $0.53. Here are some additional details on our 2023 outlook: we are increasing our cloud revenue midpoint to $247 million, representing 40% growth, and up 3% from our prior midpoint of $240 million. On a quarterly basis, we are targeting $63 million in Q3 and about $66 million in Q4. For services, we are raising our forecast from $473 million to $479 million. The $476 million midpoint represents 21% growth, and is up $17 million or 4% from our prior $459 million midpoint. On a quarterly basis, we target Q3 services revenue of $125 million and $110 million in Q4, accounting for retail peak seasonality. We anticipate maintenance revenue of about $131.5 million, reflecting an 8% decline, forecasting Q3 at $31 million and Q4 at $29 million. We expect hardware revenue of about $5.5 million per quarter and anticipate license revenue of $1.5 million per quarter. For consolidated subscription, maintenance, and services margin, we continue to target about 54% for the full year. We expect approximately 54.5% in Q3 and 53.5% in Q4, based on retail peak seasonality. Finally, we expect our tax rate to be 21.5% and dilutive share count to be 62.6 million shares, assuming no buyback activity. In summary, solid execution by the Manhattan global team and a great Q2 and first-half performance. Thank you, and back to Eddie.

Eddie Capel, CEO

Very good. Thank you, Dennis. We are pleased with our second-quarter and first-half results. While we continue to be appropriately cautious on the volatile macro conditions, Manhattan's business momentum remains positive, and we are optimistic about our long-term market opportunity. Thank you, everyone, for joining the call, and thank you to our global team for all the terrific work that you're doing for our customers. That concludes our prepared remarks. Camilla, we would be happy to take any questions.

Operator, Operator

Thank you. We'll now be conducting a question-and-answer session. Thank you. Our first question comes from Terry Tillman with Truist Securities. Please proceed with your question.

Terry Tillman, Analyst

Hey, good afternoon, Eddie, Dennis, and Mike. Great GAAP earnings performance, by the way, in the quarter. Eddie, I got a question for you and then a two-parter for you, Dennis. The first question for you, Eddie: it's a really important event every year; you all put a lot of effort into it in terms of Momentum. The theme around Unified Commerce is intriguing. How does that resonate with some of the interactions and maybe even some of the prospects there at the conference? They're using a lot of tools probably to do buy online, pick up in store, but it's a lot of point solutions. Do you see an opportunity—whether it's that POS win or with your OMS or your other store-level technologies—to create a vendor consolidation play and win new business that way versus just a WMS deal?

Eddie Capel, CEO

Yes. That's certainly part of the strategy, Terry. The good news is that across our OMS and store systems customer base, we're leading with different capabilities and then gradually rolling out more capabilities as those customers need them. You can feel some of the vendor consolidation play coming into play, which is certainly part of the strategy.

Terry Tillman, Analyst

That's good to hear. Dennis, a follow-up question, the two-parter. The first part is, you definitely handily beat my RPO addition estimate, but I think you called out a couple of puts and takes. I'm curious about the larger deals slipping in the quarter. Is that something you think timing-wise can be made up in the second half of the year? Or how do you think about that going forward? And the second part—I'll repeat this because I'm long-winded—the second part is just that we're getting further along this transformation, both in the business model and the financial model. I'm curious about the visibility as you look into '24 and '25. How is it shaping up on subscription revenue and services? Thank you.

Eddie Capel, CEO

I'll take just that front-end piece of lumpiness and deals moving around. Terry, that hasn't changed in the last 23 years that I've been here. You used the expression 'puts and takes', and that's exactly what it is. It will remain a little lumpy. We feel like we had a solid Q2, and yes, it always seems like there are a couple that got away, but we’ll pick those up down the road.

Dennis Story, CFO

The final point, Terry, is visibility is great. We've got a super pipeline in front of us. We have to execute, but we are very happy with the visibility.

Brian Peterson, Analyst

Hi, guys. Thanks for taking the questions. Eddie, maybe just starting with you. You spent some time on generative AI in your prepared remarks. I'm curious about the magnitude of what that could do for you internally. I know that’s early, and as you build this microservices cloud architecture, what does that do to the monetization potential of the business longer term?

Eddie Capel, CEO

Certainly, we think it has massive potential. Let me put it this way: there’s a lot of uncertainty about the costs associated with generative AI. Moving forward, we need to ensure that we keep our eye on the return on investment, both for internal usage and for our customers. Fortunately, when we designed and architected the API-first microservices architecture years ago, we anticipated generative AI would be on the horizon. To truly benefit from its implementation, you need an API-first architecture; it’s challenging to integrate generative AI with a monolithic architecture. We believe this positions us well, and we are in early stages of developing use cases across knowledge-based, navigation, configuration, and code generation.

Brian Peterson, Analyst

Great. Thanks for the perspective, Eddie. One more on hiring: very good progress this quarter. Has the hiring environment eased at all? Given what you've seen in RPO, was there a temptation to raise that hiring target for the year? Thanks.

Eddie Capel, CEO

Look, we've got a pretty healthy target. We hired around 550 last year; 450 is our target for this year. We're on track for that. Hiring hasn't gotten any easier. We're going after top technical talent globally, and the demand profile hasn’t waned. We believe there are individuals looking for a place to advance their careers, and we think a market-leading company like ours, using forward-thinking technology, is a terrific opportunity.

Dennis Story, CFO

Pretty solid operating margin even with that headcount addition, Brian.

Joe Vruwink, Analyst

Great. Hi, everyone. Maybe just a discussion on point of sale and how big that business could become over time. If I think about the size of the order management business and recognize how long Active Omni has been on the market, do you think that's perhaps a relevant starting point for how large the point of sale business could become? Could point of sale approach that size over a similar time frame? What are the key factors to consider in forecasting that market, since it's a much larger total addressable market but also a newer offering from Manhattan?

Eddie Capel, CEO

Good question, Joe. The opportunity for point of sale, we believe, is at least as big as our warehouse management system business. However, we won't accumulate 30 years of WMS revenue quickly. If we were to start fresh, I think the point of sale opportunity can be as big as WMS, meaning it has the potential to exceed OMS.

Joe Vruwink, Analyst

Okay. Very good. Following up on RPO: we had a good bookings quarter, but with some big deals slipping. Does this mean that while larger deals slipped, the quarter saw a standout volume of transactions that balanced the overall performance? If so, does this point to underlying market health? How do you view the conversion of your pipeline going forward, especially when it sounds like the pipeline is in a good place?

Eddie Capel, CEO

I don’t think there’s really anything to interpret about one quarter, Joe. It tends to be a little lumpy each quarter, whether it’s big deals, new logo acquisitions, or customer migrations. This quarter was just different than others, and next quarter will be different too. So, I don't think there’s much to glean from a single 90-day period.

Matt Pfau, Analyst

Great. Thanks for taking my question. On the commentary around bankruptcies, I think you stated it would have been closer to $100 million in sequential RPO added without them, implying a $15 million impact. Was that all driven by one customer, or were there multiple customers contributing to that?

Eddie Capel, CEO

It involved a small handful of customers.

Matt Pfau, Analyst

Got it. Additionally, I wanted to follow up on the point of sale customer added—this was their first product with Manhattan. Can you share more details about how that deal came about? Do they have a roadmap to integrate additional products from you?

Eddie Capel, CEO

Yes, look, there are no guarantees here. We need to execute well on the current project to garner more business from this customer. This was a full RFP-driven and multi-vendor selection process for a standalone point of sale system. Nothing else considered during this process. This is why we highlighted this win so specifically. We have robust opportunities in both commerce and supply chain, and beating the best in the point of sale industry is a positive indicator.

Mark Schappel, Analyst

Hi. Thank you for taking my question, and nice job on the quarter. Eddie, regarding the new Active Yard Management solution introduced at the user conference, can you provide additional insight into the interest you’re observing and which types of customers are showing the most interest?

Eddie Capel, CEO

Yes, we are excited about it, Mark. While it's not our biggest product release, it's important strategic progress. Yard Management represents the physical intersection of WMS and TMS. We are seeing good early interest and plan to have the first live customer in the fall of this year, which indicates solid early adoption.

Mark Schappel, Analyst

Great. Building on that, at the user conference, you mentioned focusing on filling in the white space between the solutions. Could you share insights on what some of the other white spaces might look like?

Eddie Capel, CEO

Without getting into specifics—which would get me in trouble—a healthy amount of white space still exists within supply chain execution. Still inside the four walls of distribution centers, we see opportunities around extended execution portfolios and in commerce. There are significant upcoming changes in the commerce space, and we are situated well to explore all those opportunities with our team of over 1,000 research and development engineers.

Blair Abernethy, Analyst

Thanks. Great quarter, gentlemen. Just a macro question: I noticed the EMEA region grew 29% this quarter. It seems to be performing well amidst a more challenging macro environment. Can you provide your comparison of how regions are performing? Reflecting on your guidance for 2023, are you on a similar trajectory, or are trends improving or worsening?

Eddie Capel, CEO

Regional performance is about the same, though a few locations have deviated. The U.K., for instance, is relatively flat, and we anticipated more supply chain expansion post-Brexit. We thought China might bounce back quicker, especially on the luxury side, which hasn't happened as expected. We have a multi-geography business which allows us to absorb these variations, but to be clear, some things have changed along the way.

Blair Abernethy, Analyst

Thanks, Eddie. Back to the product side: reflecting on some of the technologies you discussed at Momentum, which areas do you see as having the most significant impact for Manhattan Associates leveraging these new technologies?

Eddie Capel, CEO

We have a strong market-leading position with our next-generation warehouse management solutions. The need for advanced distribution is projected to continue strongly. Our order management suite is also leading the market, so the evolution of commerce is critical. Unifying transportation management, warehouse management, inventory management, and commerce solutions is promising. However, if you ask me where the greatest growth opportunity lies, it would be in our point of sale solution because we’re very early in this rapidly evolving market. Thank you, Camilla. I'll just conclude by thanking everyone for your time, support, and diligence. We appreciate the opportunity to share our results & feedback with you and look forward to connecting again in about 90 days. Thank you very much.

Operator, Operator

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