Megaport Limited (MP1) Earnings Call Transcript

Good morning, everybody, and welcome to Megaport's half year results and market update presentation today, the 10th of February 2021. I'd like to begin by taking you through some of the company highlights. Overall, as reported in our last quarterly up to date recently, monthly recurring revenue was up 11% at $6.63 million (sic) [ $6.3 million ], the period ending in 31st of December. Overall, our annualized revenues are also up 11% at $75 million, and the total number of customers increased by 201 in the 6 months to 2,043, also up 11%. In terms of the number of ports in the network, increased by 16%, up 924 to 661 (sic) [ 6,691 ] in the 6-month period. And also the number of services in the period increased by 15% of 2,566 to 19,278. And the total number of data centers -- installed data centers increased by 20, up 5%. And as you recall, the majority of these data center installs came from the back end of our last financial year and into July, and we're going to continue to refocus on the build phase in the second half of this financial year. Continuing on our highlights and on our leading cloud partners. We've added 2 new cloud partners, both Cloudflare and OVHcloud to the ecosystem during the first half of this financial year. The number of cloud onramps, we continue to work with our partners increased by 23, up 12% to 220. And the number of cloud regions also increased by 11, up 10% to 120. And the total number of enabled data centers closed at -- was up 47 to 716, up 7%. I do want to call out one additional highlight, and that is that Megaport during the month of December 2020 after 8 months, completed and received its ISO 27001 accreditation, which is really important for our financial services business and ongoing security information. In terms of looking at the breakdown regionally, the revenue performance in the first half of the year is just comparing the period. The first 6 months of this financial year FY '21 to the first 6 months of FY '20. Total revenue in North America increased by $5.8 million or 51% in the same period last year, up to $17.2 million. In our APAC region, it increased 31% to $12.3 million, and our European region increased by 30%, up to $6.5 million. Overall, revenue increased by $36 million in the first 6 months this year compared to the first 6 months of the preceding year, up 39% or $10.1 million. Looking into the financial performance, in the financial statements that we released from the 4D this morning. Overall, as I said, revenue was $36 million, up 39% for the period. The profit after direct network costs was $18.2 million, an improvement of $5.1 million. And overall, our profit after direct network cost margin maintained the same at 51%. Operating expenses were $26.9 million. And overall, our normalized EBITDA reduced at $8.675 million compared to $10.2 million in the preceding period, an improvement of 15%. The EBITDA -- normalized EBITDA margin, as I said, closed at a negative 24% compared to 40%, an improvement of 16 basis points in the period. Overall, net loss for the year increased to $38.4 million compared to the $18.9 million the preceding year. And a lot of that was drawn to the nonoperating items of $18.8 million, which included over $17 million for FX losses, the majority of which were unrealized. Looking to the revenue breakdown. As I said, revenue is $36.9 million, an improvement of 39% from the preceding year. 48% or $17.2 million was accounted for in North America, up from 48%. The APAC region was $12.3 million, at 34%, slightly down on the 36% preceding year and Europe, it was at $6.5 million, accounting for 18%, also down 2% the preceding year. As you can see from the split and continued growth, our largest region on the market is our North America business, which is continuing to grow, and we expect this to also take a larger share of the revenue going forward, I will have a more detailed breakdown in the region announced later in the presentation. Looking at the breakdown of the operating costs. Net direct network costs of $17.8 million increased from the preceding year. A lot of this stuff is due to the majority of sites that were added in the latter half of our financial year, which we've had the full cost written this half of the year. There was an average 80 sites increased difference in the preceding periods compared to this period. The profit after direct network costs, as I said, are $18.2 million. Employee costs at $20 million, up $4 million in the preceding period as we continue to expand this and support the business growth. Marketing costs and travel costs both reduced significantly mainly due to COVID-19 as we've have little or no travel as part of our company policy with COVID-19. And obviously, a lot of events and conferences that we would partake in around marketing also reduced as a result of the same COVID-19 restrictions. Overall, OpEx, $26.9 million compared to $23.5 million uplift in the same period. Looking at the financial position balance sheet, 2 call-outs. Current assets include very much improved trade receivables as we reported in the most recent Appendix 4C cash flow where we had -- our debtor days have reduced 33 days compared the loss we've had before with the highest number of receivables. So notwithstanding the COVID environment, our customers are continuing to stay very sticky with Megaport and that's very evident on the way that receivables and the payment of most bills have continued to improve. Overall closing cash position in the period is just under $145 million. Having a look at the overall group results at the end of December -- for the month of December comparing to preceding periods in preceding years. As you can see from the chart, the operating leverage is starting to really come through. At the end of December our profit after direct network cost margin was 54%, a slight improvement on December preceding year but the group EBITDA margin has improved, down to the negative 15% from negative 30% preceding year. This bodes well and is on track for our overall goal to achieve breakeven on an EBITDA basis for the entire group by the end of the financial year June '21 on an exit run rate basis. Switching to some business updates and starting with some of the KPIs. Looking at the top chart, overall, there's been a consistent growth period-on-period over the last half year and preceding periods. Our ports were up 16% and services were up 15% in the half year. The overall average revenue per port is $934, also up from the preceding period. The monthly recurring revenue, however, grew by 11% in the last 6 months, and that's mainly due to the tailwinds we've seen and the appreciation of Australian dollar versus the U.S. dollar, which I'll touch on that a little bit later. Looking to the update on the Megaport Cloud Ecosystem. Like I said, we had 220 onramps with addition of 23 onramps in the period that came from adding also 2 new partners, both Cloudflare and OVH. And that also increased the number of cloud regions we were active in by 11 up to 120 as we continue to focus on our ecosystem and our partners. Later in the presentation, I'll talk a little bit about MVE and SD-WAN, but we will continue to grow our platform and add more partners, not just cloud partners, as we continue to address customers' needs and destinations for their data usage. Looking to the network effect. And I would say, categorically, this is probably the last time I'll present this slide. The spiral graph on the top right-hand corner illustrates, as usual, the ports on the outer ring and the density of the number of connections in -- on the inner ring for services connecting. The bottom pie chart, 68%, a further increase not only in the number of services and customers and ports we have, but also the number of increase in the density of connectivity to 1 or more cloud providers. Looking to the spiral graph, just to call out where some of the prominent cloud partners are at the -- roughly at 2:00 position is AWS, and that's sort of an orangey color. And down at the 5:00 position, slightly pink color is where Microsoft Azure are. Slight to the left of Microsoft Azure, that slight green bar, is the first time we have Oracle appearing on our spiral graph as more and more multicloud comes into effect. And at the 3:00 position, that slightly purply pink color is Google. So they are the 4 main prominent users with what -- AWS and Microsoft Azure still the more prominent 2 cloud partners of choice for direct enterprise customers. So just on an update and switching to Megaport Cloud Router. And as I just mentioned about the multicloud and hybrid cloud usage, more and more customers are continuing to use MCR. We have an increase in terms of the number of MCRs. The total of MCRs in use at the end of December is 382, up 160 from the same period last year. Overall, average revenue per MCR is $812 per MCR, up 11%. The average revenue per customer is steady at around $5,150 per customer. And the number of services continue to be steady at around 13.8 to 14 services per customer using an MCR and we continue to use that. And as we continue to add more features and functionality to MCR, we expect this, along with MVE to continue to grow with customers under usage for cloud and for any other endpoint services across the ecosystem. Switching to an update on the Megaport Virtual Edge, MVE. First of all, an update on the platform stage. We have deployed to 11 major metros in -- already, 4 in the U.S., 2 in Europe and 5 in the APAC region, with a further 10 metros to be added in the coming months, with an additional 7 in the U.S., 3 in Europe and 2 in APAC. The MVE platform is available live for service to use it across the Megaport Virtual Edge from the 31st of March, so well on track with that. We've signed an MOU with VMware for their VeloCloud SD-WAN, and that integration is underway. We expect that to be available in the early part of quarter 4. And our technology partner pipeline with other providers, there's ongoing -- that strong pipeline where ongoing negotiations will cover at least 50% of the SD-WAN market share over the coming months. For an update on the Cisco SD-WAN integration into service offering, customer trials are well underway. Everything is going pretty well. The integration with Cisco Viptela service offering will be available in this coming quarter -- sorry, fourth quarter coming up, on track. The product launch will also be featured at the Cisco Live Premier Global Conference on the West Coast on the 30th and 1st of April to all of the Cisco resellers and the Cisco partners. So that's all well on track as we get down to the final components of our go-to-market strategy together over the course of the next few weeks. I guess the overall message on the MVE is that we're on track, and we expect it to be live, available for commercial use at the start of the fourth quarter. Switching to an update on some of the regional highlights. Overall, as I said, growing ecosystem. We expect this further updates for the number of sites. We're at 386 across the global as we added 20 in here, the majority of which came as an overflow from the preceding financial year. We are switching to build mode now that the MVE platform is pretty much up and running and from an installation point of view, is done. We expect to be in the region between 400 to 405 in terms of ending our FY '21 June run rate for installed data centers. And obviously, that has an impact on increasing our enabled data center footprint. Looking to a deeper dive in North America. 10 of those 20 sites that we added in the period came in to the North America region, up 6% at 184. We added 136 customers to 1,039, up 15%. The total number of ports, we added 561 in the 6 months to 3,014, up 23%. The total number of services we added 1,531, up 23%. And our monthly recurring revenue grew by 15% to $3 million on a reported Australian dollar basis. However, in U.S. dollar terms, this monthly recurring revenue grew by 26% in the 6 months, and I will touch on that next slide. Overall, profit after direct network cost margin improved by 4 points from 38% to 42% in 6 months. Just to note, on the average revenue per port of $981, well it did decrease by 6% in the period. In U.S.-denominated terms, it grew by 2% as opposed to the Australian reported average revenue per port. Looking to the currency impact. And really, FX has been quite volatile in the past, probably preceding 9 to 10 months. Looking at the chart on the left-hand side, where we look at the monthly recurring revenue in U.S. dollar terms, it grew by 26% from $1.7 million to $2.2 million in June -- from June to December. And then obviously, reported in Australia terms, it grew from AUD 2.5 million to AUD 2.9 million, which was an increase of 15%. And you can see the impact on the Australian dollar -- depreciation of the Australian dollar against the U.S. had an impact of 9% on our MRR. Note, the purpose of showing this slide is really to draw out the fact that the underlying business has continued to grow at double-digit rates and notwithstanding the FX impact. I also want to point out that our North America region achieved EBITDA positive in the second quarter of this half year results. So that means that all 3 regions, which I'll touch on later, all 3 regions ended up EBITDA positive in the business. Looking to that very point on the operating leverage, and this is the snapshot at the month of December. You can see from the chart that in December, our run rate profit after direct network costs are running at 42% and that the business has turned EBITDA positive for November and -- during the period, our quarter 4 of that period is now at 9% and continue to grow, and we expect that to improve over the second half of the year as the whole business as a whole shifts towards EBITDA breakeven for June on a run rate basis. Looking into the APAC region. The second 10 of the 20 sites that we added came into the Pacific region, growing by 10% -- or 11% in the period. Customers grew by 66, up 8%. The total number of ports grew by 234, up 10%. Number services in the region grew by 780, up 10%. And overall, our monthly recurring revenue grew $2.2 million, also up 10%. So across most of our metrics, a consistent 10% growth rate in the period from June to December. In terms of the profit after direct network costs, it declined slightly from 72% to 68% as we did invest in extra sites in the period and some network infrastructure. The Pacific region also includes our Japan market. Excluding the Japan business, our profit after direct network cost is 72%. Looking to the operating leverage chart for the APAC region. And in December, as I said, the profit after direct network cost at the end of December was 68%, and our EBITDA margin was running at 36% and consistently growing year-on-year. Excluding the Japan market, the profit after direct network cost was 72%, and the regional EBITDA margin was 43%. We are making very good inroads, with our Japan market is continuing to grow in great traction there. And we expect this time next year that, that business would be profitable and contributing to enhancing the margins in our APAC region. The European business, we didn't add any sites, as we did most of the heavy lifting in the second half of the financial year last year. Total number of customers grew by 31, up 9%. The number of ports grew by 129, up 15%, and the number of services grew by 255, up 10%. Monthly recurring revenue remained flat. As you recall from our first quarter -- our quarter 1 in this financial year, we had a softening in our monthly recurring revenue due to some repricing. That's now recorrected itself, and we expect this to improve in the second half of the year as we've seen in the growth rates in quarter 2 versus quarter 1. Overall, the profit after direct network costs in the region slightly decreased by 64% to 60%, but we expect this to recorrect itself in the second half of the year. Looking to the operating leverage for the month of December. Overall profit after direct network costs were 60%. The profit -- the EBITDA profit for the period is now running at 7%. So all 3 regions are now profitable. The APAC region turned profitable back in June at the beginning of the year -- or the end of the last financial year, beginning of this financial year. So we expect that margin to continue to improve as revenue grows within the business. So overall, I just wanted to give a quick update. In terms of COVID-19, the health and wellbeing of our team is still the highest priority. Working from home protocols, together with some -- with the suspension of all travel, is to continue for some time. And this is, again, like I said, safety, health and wellbeing of our teams. We're a globally dispersed team over -- with 230 employees across 23 countries. The impact on the Megaport's operations financial performance has not been significant as we've seen from the results and the performance. The financial position, it remains strong, with over $145 million cash at the bank at the end of the period, allowing us to continue to grow and expand our network and our ecosystem. Also in terms of our platform information as -- innovation and product focus, as I mentioned, we're continuing to expand with the MVE platform, not just with SD-WAN providers, but also other network function virtualization, which will come through during the rest of the calendar year 2021. And we're all really looking forward to a project that's very much on track, which is the successful launch of MVE with SD-WAN in the start of quarter 4. And finally, the other objective that we set ourselves for this year was that we are on track to achieve the EBITDA breakeven on an exit run rate for June. Achieving EBITDA positive in North America region this half year was an important milestone for us to be on track for that, and we've done that. So sort of all 3 regions are EBITDA positive, this just leaves us to cover the corporate overhead during the second half of this financial year. So our focus remains very much on revenue growth and at the same time, achieving the group EBITDA positive on an exit run rate. And finally, recently, we just announced that a new Chief Revenue Officer, Rodney Foreman, who joined us on the 1st of Feb, and this is part of our overall strategy to start to break into indirect and other channels selling and enabling other partners to sell on our behalf as we continue to focus on adding more customers and revenue to the Megaport platform. That concludes the presentation for this morning. There is some additional materials in the appendix for -- about Megaport and some case studies. They're there for FYI for anybody else who wants to get some more detail. I'd like to hand it over now for questions, please.

Vincent, it's Andrew here. I don't know if you can hear me.

Yes, I can.

Okay. Sorry. I wasn't sure how to communicate a question. If I could just start with a couple. Do you mind clarifying the outlook comments on EBITDA? You say you're on track to exit this year on a breakeven run rate basis. But obviously, you were profitable in that second quarter. Can you just sort of talk us through what costs you're anticipating will accelerate in the second half that are preventing you from simply saying, okay, we are now EBITDA breakeven, or can be EBITDA breakeven?

Yes. There's -- I'd -- EBITDA breakeven for all 3 operating business units, there's still the corporate overhead, which we have to cover for the second half of the year, which we -- if I draw your attention to the chart on the operating leverage in the financial section, there's -- I think it's Slide 11. You can see from the chart, that's the overall group position at the end of December, whereas the 3 regions are all a [ possibility ].

Okay. Understood. So the regions remain EBITDA positive, but the covering of that corporate overhead incorporated in the last piece and that gets covered. Can I ask...

Yes. So the...

Sorry?

I was just saying, the continued growth in revenue, this is where it all -- the margin improves from here on in. So we've got the regions up and running. They're paying for themselves, they're in the black. So as each region continues to deliver and bring more customers and growth, that margin improves, there's not too much more incremental cost to be added that will -- to deflect that situation or the outcome of getting to EBITDA positive for the group as whole.

Got it. And on growth, just on that sort of operating margin at the gross profit level, the last 2 halves, there hasn't really been a change in gross profit margins, and you've indicated some of the costs that have gone up. But would you expect from this second half of fiscal '21 onwards, we would start to see that gross profit margin deliver operating leverage at that level? Or is there something that's changed that means your incremental margins are no longer in that sort of 70% region? Could you just help us understand that?

No, not -- yes, sure. I mean if you're looking at that same slide, 11, comparing December '19 to December '20, we added 80 different sites in that same period. So the cost for those would have impacted the margin. So like every other period when we added -- when we do some heavy lifting on sites, we expect the preceding period to deliver as we monetize those. And as you know, we haven't added that many sites this financial year yet, and we're expecting to probably end up around at 405 mark for the end of the year. So we won't be adding anything like the cost in terms of increasing network costs that we had preceding before. So it's very much now focusing on leveraging what we've already got and built. And some of that, you can see in the port utilization in each of the 3 regions where even in North America, even adding all those sites, we're only at 30% core utilization. So we've got 70% headroom there to actually sell into and that's the focus now.

Okay. And if I could just sneak in one last question, just building on that. The appointment of a global revenue officer, I mean, how will this position impact sort of make a difference to your go-to-market strategy or the rate at which you're adding new customers and selling services? Should we be able to see a discernable impact as the year goes on with respect to momentum in those metrics?

Yes is the short answer. Less emphasis on direct enterprise selling because I think we've already got the team set to do that. So that will continue in its current format. Might be a couple of slight faint tweaks, but we will be building in around channel and indirect selling, mainly around system integrators, managed service providers, resellers in general. So we're enabling other people to sell our product as part of their portfolio. And so, in other words, going for volume effectively without having to necessarily increase a direct selling team. So it's more of an indirect shift. Rodney has great experience, over 20, 30 years of doing that, a high track record in achieving that. And that skill and that knowledge and experience is part of -- and the culture fit with our company is really part of why we're excited about taking on that journey. And I did talk about that. That was a key, a key role, a key element that we wanted of our chief revenue officer when we were going through the recruitment phase earlier this year.

Vincent, it's Bob here from JPMorgan. Just a follow up to that last point there on sort of the going down that indirect sales path. I mean how does that impact your margins going through the partner channel rather than the direct channel sales?

Yes. I mean there's a commission structure. Each one is slightly different. But the trade-off is you have a lower OpEx impact. And -- but you do have that commission that comes off the top, as typical of how it works. So it might be a little bit of a flattening on the margin, but it should be more than compensated by the volume of sales coming through, and has a more improved impact on the EBITDA position rather than necessarily on the gross margin. It really depends where the cost is. The cost tends to be covered in the cost of sales or direct network costs or net of revenue as opposed to increase in the OpEx.

Okay. Great. And then just on the MVE product that's launching quite soon. I mean from my perspective, like how should we think about modeling that going forward? This doesn't seem like there's too much sort of financial details out there. So could you talk about it in comparison to your current product and ports and services model that you currently said?

Yes. I mean, I can talk about it generally. It will be a similar construct for each, each partner that comes on to the network. So there'll be effectively a billing event around the actual MVE instance itself, where we charge for that. There will also be a charge for the volume of VXCs that will be used to connect depending on how many branches or how many locations or regions or countries for that matter, that are connected as part of that enhancing the overall SD-WAN footprint or network based on the customer. So it will be -- services will be impacted and there will also be an increase in services, which will be VXCs, which we track. There will also be a new product, which built like MCR, where we track MCR separately, we'll be tracking MVE. So we would be able to report on that as we go forward. And that will be a separate billing instance. It's not too dissimilar from how the MCR construct is done.

All right. Perfect. And then just finally for me. I'm starting to see like the average revenue per port sort of coming through sort of flat across some of the regions. Where do you sort of feel that level will sort of flatten out? It looks like most of the regions like the services per ports have start flattening out around that sort 3 service per port level? I mean, is that how we should think about it at sort of a mature business level in a few years' time?

Yes, at 3% to 5% is about the average and it depends on the type of customers that are coming on. We are seeing more Fortune 500. We do take more in the U.S. compared to everywhere else. I think the problem when we report in Australian dollars is that when you get volatility or the strengthening of the Australian dollar, it starts -- disproportionate to the actual growth rate. So we are seeing a lot more services, and you can see that they've grown service per customer service per port, number of service in the half. You we were all like in around 20% to 23%. And the actual U.S. dollar revenue increased by 26%. So when you look at it in U.S. dollars, maybe we should start reporting in U.S. dollars. When you start looking at in U.S. dollars, it's much higher. It's just the fact that I think it's a little bit distorted and mirrored here by the fact that it's in Australian dollars. But I think the biggest growth region, by far, going forward, will be the U.S. market, and that's why we're -- and we always said that. So we're focusing on that as we are in each of the markets. But I think in terms of acceleration of the growth, it will be in that space in the short term.

And the next question is from Jonathan from RBC Capital Market.

So question about margins. So Slides 22, 24 and 26, you gave a pretty good overview on kind of the regional level. And if you could maybe remind us, the APAC margins that you're seeing now at the regional level, what are the reasons why you may or may not see that in Europe as well as in North America?

Yes. John, I expect in North America is, like I said, we had a lot of -- if you look at the gross margin or the profit after network cost in North America, it does look a little less than where it should be compared to the other regions, but we have invested more than anywhere else in the last 12 months and 6 months in terms of the uplift in cost there in network cycle. A truer reflection, we will see that bump up over the next 12 -- or 6 to 12 months and more akin to a high 60s number over the course of the next -- certainly over 2021. And obviously, I think we'll end up with a higher EBITDA margin in the U.S. as a result of that. Part of the other reason, I think the margins are a little flatter in gross margin level is because partner commissions, where we have most of our partners, are actually in the U.S. or North America. So that cost, instead of being in the OpEx line, this cost of commissions of a direct sales is actually in the direct cost network line. So it looks a little deflated compared to others on a region-by-region basis. But I think the EBITDA number will far outstrip that because there's less cost there going forward.

And then Cloudflare, new on the partner list, and I just wondered if you could talk to what sorts of business you're anticipating bringing in through that relationship as distinct with some of your other traditional public cloud partners.

Again, a lot of it's got to do with private infrastructure and some private cloud, and this goes back to hybrid. So there are certainly instances where our customers want to use both public cloud and the, I suppose, private infrastructure, private cloud applications that are in the Cloudflare and similar to OVH and similar to Rackspace, where they've got their own products, but customers are looking to enhance that with access to public cloud. So having the ability to have all of that connected through 1 single payment [ lines ] through Megaport port creates that ease of use for the end customer, hence, that was one of the major reasons for doing that. Again, thinking about the customer journey and what they're trying to connect, not all of the public cloud tends to reside in some of the same facilities and same locations where some of these other partners exist. So the ability to actually connect all of that together is the main driver.