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Morningstar | More Disclosures but Still Room for Improvement for No-Moat Verint; FVE Unchanged

No-moat Verint started its fiscal 2020 by providing investors with increased disclosure, such as additional operational metrics, further clarity on organic/inorganic growth, and longer-term operating targets. The increased disclosure is due in part to recent activist efforts from Neuberger Berman but did not go far enough to satiate our corporate governance concerns. We are maintaining our fair value estimate of $52 per share. With the shares at $58 in post-market trading, we suggest investors wait for a better entry point.

First-quarter non-GAAP revenue was $324 million, above management guidance of $315 million. The top-line beat was not a surprise as the company announced May 6 that it would exceed guidance by 1%-2%. Non-GAAP EPS of $0.73 also exceeded management guidance of $0.60. For the second quarter, management expects a $10 million sequential non-GAAP revenue increase to $334 million.

Management raised full-year guidance for the third time to $1.375 billion. It has raised guidance $50 million in total, including $5 million on this call. Of the increased guidance, $30 million is related to acquisitions made in the last 18 months. Non-GAAP EPS was also raised by $0.05 to $3.60.

Management provided investors with three-year targets, something it had traditionally not done, for revenue ($1.65 billion in fiscal 2022, up from $1.24 billion from fiscal 2019), non-GAAP EPS ($4.70, up from $3.21 last year), and EBITDA margin (27%, up from 24% last year). Customer engagement is expected to grow to $1.1 billion by 2022, from $796 million in 2019. Cloud will be a key driver of that growth at 40% of customer engagement revenue in 2022, up from 20% last year. Management expects customer engagement recurring revenue will increase from 59% last year to 70% in fiscal 2022.

While we think the additional details provided in the call were a step in the correct direction, we believe there is still room for improvement and echo many of the concerns of Neuberger Berman. Neuberger has entered into a proxy contest with Verint and is seeking a board refresh, a clearer plan for capital allocation, and improved reporting in the cloud segment. On the last two points, we are in lockstep with Neuberger.

Management’s capital-allocation record, particularly related to M&A, has been subpar, and we are wary of plans to make additional acquisitions. On the call, management highlighted its 2018 distressed acquisition of ForeSee. While the asset may turn out to be great, spending $65 million on an asset with 50%-60% renewal rates is not the best way to instill investor confidence. The outlined three-year capital-allocation strategy focused prominently on the ability to make more acquisitions with the $800 million in cash generated over that time frame, and we have concerns about management’s ability to deploy that capital effectively.

Lastly, we wish management had chosen a metric besides EBITDA margin to show profitability improvements over the long term. While it's relevant in many industries, we believe it is not as relevant for software companies, particularly those undergoing a transition to the cloud. We would have preferred to see increased disclosure related to cloud, specifically gross and net retention rates.