SECUREWORKS CORP. This management's discussion and analysis is based upon the financial statements of Secureworks which have been prepared in accordance with accounting principles generally accepted inthe United States , or GAAP, and should be read in conjunction with our audited financial statements and related notes for the year endedJanuary 31, 2020 included in Part II, Item 8 of our Annual Report on Form 10-K as filed with theSEC onMarch 27, 2020 , which we refer to as the Annual Report. In addition to historical financial information, the following discussion contains forward-looking statements that reflect our plans, estimates, beliefs, expected future responses to and effects of the COVID-19 pandemic and other characterizations of future events or circumstances. Our actual results could differ materially from those discussed or implied in our forward-looking statements. Factors that could cause or contribute to these differences include those discussed in "Risk Factors" in Part I, Item 1A of our Annual Report. Our fiscal year is the 52- or 53-week period ending on the Friday closest toJanuary 31 . We refer to the fiscal year endingJanuary 29, 2021 and the fiscal year endedJanuary 31, 2020 as fiscal 2021 and fiscal 2020, respectively. Fiscal 2021 and fiscal 2020 each have 52 weeks, and each quarter has 13 weeks. All percentage amounts and ratios presented in this management's discussion and analysis were calculated using the underlying data in thousands. Unless otherwise indicated, all changes identified for the current-period results represent comparisons to results for the prior corresponding fiscal periods. Except where the context otherwise requires or where otherwise indicated, (1) all references to "Secureworks," "we," "us," "our" and "our Company" in this management's discussion and analysis refer toSecureWorks Corp. and our subsidiaries on a consolidated basis, (2) all references to "Dell" refer toDell Inc. and its subsidiaries on a consolidated basis and (3) all references to "Dell Technologies" refer toDell Technologies Inc. , the ultimate parent company ofDell Inc. Overview We are a leading global provider of technology-driven information security solutions singularly focused on protecting our customers from cyber attacks. We combine deep expertise from service to thousands of customers, machine learning and automation from our proprietary technology, and actionable insights from our team of elite researchers and analysts to create a powerful network effect that provides increasingly strong protection for our customers. By aggregating and analyzing data from various sources around the world, we prevent security breaches, detect malicious activity in real time, respond rapidly and predict emerging threats. Our vision is to be the essential cyber security company for a digitally connected world. Through our vendor-neutral approach, we create integrated and comprehensive solutions by proactively managing the collection of "point" products deployed by our customers to address specific security issues and provide supplemental solutions where gaps exist in our customers' defenses. We seek to provide the right level of security for each customer's unique situation, which evolves as the customer's organization grows and changes. We have pioneered an integrated approach that delivers a broad portfolio of information security solutions to organizations of varying size and complexity. Our flexible and scalable solutions support the evolving needs of the largest, most sophisticated enterprises staffed with in-house security experts, as well as small and medium-sized businesses and government agencies with limited in-house capabilities and resources. Our solutions enable organizations to: • prevent security breaches by fortifying their cyber defenses,
• detect malicious activity,
• respond rapidly to security breaches, and
• predict emerging threats.
Our solutions leverage the proprietary technologies, processes and extensive expertise and knowledge of the tactics, techniques and procedures of the adversary that we have developed over more than 21 years. Key elements of our strategy include: • maintain and extend our technology leadership,
• expand and diversify our customer base,
• deepen our existing customer relationships, and
• attract and retain top talent.
19
--------------------------------------------------------------------------------
Our technology-driven information security solutions offer an innovative approach to prevent, detect, respond to and predict cybersecurity breaches. Through our managed security solutions, which are largely sold on a subscription basis, we provide global visibility and insight into malicious activity, enabling our customers to detect and effectively remediate threats quickly. In fiscal 2020, we launched our first software-as-a-service application, Red Cloak Threat Detection and Response (TDR) and related Managed Detection and Response (MDR) powered by Red Cloak. This application provides customers visibility across their entire environment, applies advanced analytics developed using machine and deep learning on diverse data from a wide range of sources, and leverages workflows designed using our 21 years of security operations expertise and integrated orchestration and automation capabilities that increase the speed of response actions. Threat intelligence, which is typically deployed as part of our managed security solutions, delivers early warnings of vulnerabilities and threats along with actionable information to help prevent any adverse impact. In addition to these solutions, we also offer a variety of services, which include security and risk consulting and incident response to accelerate adoption of our capabilities. Through security and risk consulting, we advise customers on a broad range of security and risk-related matters. Incident response minimizes the impact and duration of security breaches through proactive customer preparation, rapid containment and thorough event analysis followed by effective remediation. We have a single organization responsible for the delivery of our security solutions, which enables us to respond quickly to our customers' evolving needs and help them secure themselves against cyber attacks. FromApril 2009 toMay 1, 2020 , the number of events processed by our technology platform increased from five billion to as many as 340 billion events per day. This significant growth has required continual investment in our business. We believe these investments are critical to our success, although they may continue to impact our near-term profitability. The fees we charge for our solutions vary based on a number of factors, including the solutions selected, the number of customer devices covered by the selected solutions, and the level of management we provide for the solutions. In the first quarter of fiscal 2021, approximately 75% of our revenue was derived from subscription-based solutions, attributable to managed security contracts, while approximately 25% was derived from professional services engagements. As we respond to the evolving needs of our customers, the relative mix of subscription-based solutions and professional services we provide our customers may fluctuate. COVID-19 InDecember 2019 , a novel strain of the coronavirus, COVID-19, was reported in mainlandChina . TheWorld Health Organization declared the outbreak to constitute a "pandemic" onMarch 11, 2020 . This led to a significant disruption of normal business operations globally, as businesses, including Secureworks, have implemented modifications to protect employees by restricting travel and directing employees to work-from-home, in some instances as required by federal, state and local authorities. While we instituted a global work-from-home policy beginning inMarch 2020 , we did not incur significant disruptions in our business operations or a material impact on our results of operations, financial condition, liquidity or capital resources as of and during the three months endedMay 1, 2020 . Beginning inApril 2020 , we started to experience a limited reduction in customer demand for our solutions that we believe is attributable to COVID-19, and in future periods the pandemic might further curtail customer spending, lead to delayed or deferred purchasing decisions, and lengthen sales cycles. As of the end of the period, we also had experienced an increase in accounts receivables which we believe was attributable to slower customer payment cycles as a result of COVID-19. We expect that we may experience further delays in receiving payments due to the pandemic and reduced liquidity and capital resources may cause certain of our customers or partners to have difficulty fulfilling their payment obligations to us. These effects, individually or in the aggregate, could have a material negative impact on our future results of operations and overall financial performance. In light of these considerations, we continue to actively monitor the impacts and potential impacts of the COVID-19 pandemic in all aspects of our business. The extent of the impact of COVID-19 on our future operational and financial performance will depend on various developments, including the duration and spread of the virus, impact on our employees, customers and vendors, impact on our customers liquidity, volume of sales, and length of our sales cycles, all of which remain uncertain and cannot be predicted, but which could have a material negative effect on our business, results of operations or financial condition. At this point, the extent to which COVID-19 may impact our financial condition or results of operations is uncertain. Due to our subscription-based business model, the effect of COVID-19 may not be fully reflected in our results of operations until future periods, if at all. Key Operating Metrics In recent years, we have experienced broad growth across our portfolio of technology-driven information security solutions provided to customers of all sizes. We have achieved much of this growth by providing solutions to large enterprise customers, which generate substantially more average revenue than our small and medium-sized business, or SMB, customers and by continually expanding the volume and breadth of the security solutions that we provide to all customers. Execution of this 20
--------------------------------------------------------------------------------
strategy has resulted in steady growth in our average revenue per customer. This growth has required continuous investment in our business, resulting in net losses. We believe these investments are critical to our success, although they may continue to impact our profitability. We believe the operating metrics described below provide further insight into the long-term value of our subscription agreements and our ability to maintain and grow our customer relationships. Relevant key operating metrics are presented below as of the dates indicated and for the quarterly periods then ended:
May 1, 2020 May 3, 2019
Subscription customer base 4,000 4,100
Total customer base 5,300 4,600
Monthly recurring revenue (in millions) $ 36.5 $ 36.1
Annual recurring revenue (in millions) $ 437.7 $ 433.0 Average subscription revenue per customer (in thousands)
98 % 99 %
Subscription Customer Base. We define our subscription customer base as the
number of customers
Total Customer Base. We define our total customer base as the number of customers that, as of a particular date, subscribe to our managed security solutions as well as customers that buy professional and other services from us, as of a particular date.
Annual and Monthly Recurring Revenue. We define recurring revenue as the value of our subscription contracts as of a particular date. Because we use recurring revenue as a leading indicator of future annual revenue, we include operational backlog. We define operational backlog as the recurring revenue associated with pending contracts, which are contracts that have been sold but for which the service period has not yet commenced. Our increase in recurring revenue has been driven primarily by our continuing ability to expand our offerings and sell additional solutions to existing customers, as well as by larger subscription contracts to our enterprise customers.
Average Subscription Revenue Per Customer. The increase in our average
subscription revenue per customer is primarily related to the persistence of
cyber threats and the results of our sales and marketing efforts to increase the
awareness of our solutions. Additionally, our customer composition of both
enterprise and SMB companies provides us with an opportunity to expand our
professional services revenue. For each of the three months ended
Revenue Retention Rate. Our revenue retention rate is an important measure of our success in retaining and growing revenue from our subscription-based customers. To calculate our revenue retention rate for any period, we compare the monthly recurring revenue excluding operational backlog of our subscription-based customer base at the beginning of the fiscal year, which we call our base recurring revenue, to the monthly recurring revenue excluding operational backlog from that same cohort of customers at the end of the period, which we call our retained recurring revenue. By dividing the retained recurring revenue by the base recurring revenue, we measure our success in retaining and growing installed revenue from the specific cohort of customers we served at the beginning of the period. Our calculation includes the positive revenue impacts of selling and installing additional solutions to this cohort of customers and the negative revenue impacts of customer or service attrition during the period. The calculation, however, does not include the positive impact on revenue from sales of solutions to any customers acquired during the period. Our revenue retention rates may decline or increase from period to period as a result of several factors, including the timing of solution installations and customer renewal rates.
21
--------------------------------------------------------------------------------
Non-GAAP Financial Measures
We use supplemental measures of our performance, which are derived from our
financial information, but which are not presented in our financial statements
prepared in accordance with GAAP. Non-GAAP financial measures presented in this
management's discussion and analysis include non-GAAP revenue, non-GAAP gross
margin, non-GAAP research and development expenses, non-GAAP sales and marketing
expenses, non-GAAP general and administrative expenses, non-GAAP operating
income (loss), non-GAAP net income (loss), non-GAAP earnings (loss) per share
and adjusted EBITDA. We use non-GAAP financial measures to supplement financial
information presented on a GAAP basis. We believe these non-GAAP financial
measures provide useful information to help evaluate our operating results by
facilitating an enhanced understanding of our operating performance and enabling
more meaningful period-to-period comparisons.
There are limitations to the use of the non-GAAP financial measures presented in
this management's discussion and analysis. Our non-GAAP financial measures may
not be comparable to similarly titled measures of other companies. Other
companies, including companies in our industry, may calculate non-GAAP financial
measures differently than we do, limiting the usefulness of those measures for
comparative purposes.
The non-GAAP financial measures we present, as defined by us, exclude the items
described in the reconciliation below. As the excluded items can have a material
impact on earnings, our management compensates for this limitation by relying
primarily on GAAP results and using non-GAAP financial measures supplementally.
The non-GAAP financial measures are not meant to be considered as indicators of
performance in isolation from or as a substitute for revenue, gross margin,
research and development expenses, sales and marketing expenses, general and
administrative expenses, operating income (loss) or net income (loss) prepared
in accordance with GAAP, and should be read only in conjunction with financial
information presented on a GAAP basis.
Reconciliation of Non-GAAP Financial Measures
The table below presents a reconciliation of each non-GAAP financial measure to
its most directly comparable GAAP financial measure. We encourage you to review
the reconciliations in conjunction with the presentation of the non-GAAP
financial measures for each of the periods presented. In future fiscal periods,
we may exclude such items and may incur income and expenses similar to these
excluded items. Accordingly, the exclusion of these items and other similar
items in our non-GAAP presentation should not be interpreted as implying that
these items are non-recurring, infrequent or unusual.
The following is a summary of the items excluded from the most comparable GAAP
financial measures to calculate our non-GAAP financial measures:
• Amortization of Intangible Assets. Amortization of intangible assets
consists of amortization of customer relationships and acquired
technology. In connection with the acquisition of Dell by Dell
Technologies in fiscal 2014, all of our tangible and intangible assets and
liabilities were accounted for and recognized at fair value on the
transaction date. Accordingly, amortization of intangible assets consists
of amortization associated with intangible assets recognized in connection
with this transaction.
• Stock-based Compensation Expense. Non-cash stock-based compensation
relates to both the Dell Technologies and Secureworks equity plans. We
exclude such expenses when assessing the effectiveness of our operating
performance since stock-based compensation does not necessarily correlate
with the underlying operating performance of the business.
• Aggregate Adjustment for Income Taxes. The aggregate adjustment for income
taxes is the estimated combined income tax effect for the adjustments
mentioned above. The tax effects are determined based on the tax
jurisdictions where the above items were incurred.
22--------------------------------------------------------------------------------
Three Months Ended
May 1, 2020 May 3, 2019
(in thousands)
GAAP and non-GAAP revenue $ 141,181 $ 132,842
GAAP gross margin $ 78,272 $ 70,001
Amortization of intangibles 3,460 3,410
Stock-based compensation expense 355 260
Non-GAAP gross margin $ 82,087 $ 73,671
GAAP research and development expenses $ 24,073 $ 22,642
Stock-based compensation expense (1,291 ) (1,176 )
Non-GAAP research and development expenses $ 22,782 $ 21,466
GAAP sales and marketing expenses $ 37,452 $ 38,193
Stock-based compensation expense (741 ) (781 )
Non-GAAP sales and marketing expenses $ 36,711 $ 37,412
GAAP general and administrative expenses $ 27,516 $ 23,638
Amortization of intangibles (3,524 ) (3,524 )
Stock-based compensation expense (3,500 ) (2,699 )
Non-GAAP general and administrative expenses $ 20,492 $ 17,415
GAAP operating loss $ (10,769 ) $ (14,472 )
Amortization of intangibles 6,984 6,934
Stock-based compensation expense 5,887 4,916
Non-GAAP operating income (loss) $ 2,102 $ (2,622 )
GAAP net loss $ (7,536 ) $ (8,270 )
Amortization of intangibles 6,984 6,934
Stock-based compensation expense 5,887 4,916
Aggregate adjustment for income taxes (2,803 ) (5,467 )
Non-GAAP net income (loss) $ 2,532 $ (1,887 )
GAAP loss per share $ (0.09 ) $ (0.10 )
Amortization of intangibles 0.09 0.09
Stock-based compensation expense 0.07 0.06
Aggregate adjustment for income taxes (0.03 ) (0.07 )
Non-GAAP earnings (loss) per share * $ 0.03 $ (0.02 ) * Sum of reconciling items may differ from total due to rounding of individual components
GAAP net loss $ (7,536 )$ (8,270 ) Interest and other, net (993 ) (268 ) Income tax benefit (2,240 ) (5,934 ) Depreciation and amortization 10,486 10,365 Stock-based compensation expense 5,887 4,916 Adjusted EBITDA $ 5,604 $ 809 23
--------------------------------------------------------------------------------
Our Relationship withDell andDell Technologies OnApril 27, 2016 , we completed our IPO. Upon the closing of our IPO,Dell Technologies owned, indirectly throughDell Inc. andDell Inc.'s subsidiaries, no shares of our outstanding Class A common stock and all shares of our outstanding Class B common stock, which as ofMay 1, 2020 represented approximately 85.2% of our total outstanding shares of common stock and approximately 98.3% of the combined voting power of both classes of our outstanding common stock. As a majority-owned subsidiary ofDell , we receive fromDell various corporate services in the ordinary course of business, including finance, tax, human resources, legal, insurance, IT, procurement and facilities related services. The costs of these services have been charged in accordance with a shared services agreement that went into effect onAugust 1, 2015 , the effective date of our carve-out fromDell . For more information regarding the allocated costs and related party transactions, see "Notes to Condensed Consolidated Financial Statements-Note 11-Related Party Transactions" in our condensed consolidated financial statements included in this report. During the periods presented in the condensed consolidated financial statements included in this report, Secureworks did not file separate federal tax returns, as Secureworks was generally included in the tax grouping of otherDell entities within the respective entity's tax jurisdiction. The income tax benefit has been calculated using the separate return method, modified to apply the benefits for loss approach. Under the benefits for loss approach, net operating losses or other tax attributes are characterized as realized or as realizable by Secureworks when those attributes are utilized or expected to be utilized by other members of theDell consolidated group. For more information, see "Notes to Condensed Consolidated Financial Statements -Note 10-Income and Other Taxes" in our condensed consolidated financial statements included in this report. Additionally, we participate in various commercial arrangements withDell under which, for example, we provide information security solutions to third-party customers with whichDell has contracted to provide our solutions, procure hardware, software and services fromDell , and sell our solutions throughDell inthe United States and some international jurisdictions. In connection with our IPO, effectiveAugust 1, 2015 we entered into agreements withDell that govern these commercial arrangements. These agreements generally were initially effective for up to one to three years and include extension and cancellation options. To the extent that we choose to or are required to transition away from the corporate services currently provided byDell , we may incur additional non-recurring transition costs to establish our own stand-alone corporate functions. For more information regarding the allocated costs and related party transactions, see "Notes to Condensed Consolidated Financial Statements-Note 11-Related Party Transactions" in our condensed consolidated financial statements included in this report. Components of Results of Operations Revenue We sell managed security solutions and threat intelligence solutions on a subscription basis and various professional services, including security and risk consulting and incident response solutions. Our managed security subscription contracts typically range from one to three years and, as ofMay 1, 2020 , averaged two years in duration. The revenue and any related costs for these deliverables are recognized ratably over the contract term, beginning on the date on which service is made available to customers. Professional services customers typically purchase solutions pursuant to customized contracts that are shorter in duration. In general, these contracts have terms of less than one year. Professional services consist primarily of fixed-fee and retainer-based contracts. Revenue from these engagements is recognized under the proportional performance method of accounting. Revenue from time-and materials-based contracts is recognized as costs are incurred at amounts represented by the agreed-upon billing rates. The fees we charge for our solutions vary based on a number of factors, including the solutions selected, the number of customer devices covered by the selected solutions, and the level of management we provide for the solutions. In the first quarter of fiscal 2021, approximately 75% of our revenue was derived from subscription-based arrangements, attributable to managed security solutions, while approximately 25% was derived from professional services engagements. As we respond to the evolving needs of our customers, the relative mix of subscription-based solutions and professional services we provide our customers may fluctuate. International revenue, which we define as revenue contracted through non-U.S. entities, represented approximately 29% of our total net revenue in the first quarter of fiscal 2021 and 25% of our total net revenue in the first quarter of fiscal 2020. Although our international customers are located primarily in theUnited Kingdom ,Japan , andCanada , we provided managed security solutions to customers across 53 countries as ofMay 1, 2020 . Over all of the periods presented in this report, our pricing strategy for our various offerings was relatively consistent, and accordingly did not significantly affect our revenue growth. However, we may adjust our pricing to remain competitive and support our strategic initiatives. 24
--------------------------------------------------------------------------------
Gross Margin We operate in a challenging business environment, where the complexity and number of cyber attacks are constantly increasing. Accordingly, initiatives to drive the efficiency of our Counter Threat Platform and the continued training and development of our employees are critical to our long-term success. Gross margin has been and will continue to be affected by these factors as well as others, including the mix of solutions sold, the mix between large and small customers, timing of revenue recognition and the extent to which we expand our counter threat operations centers. Cost of revenue consists primarily of personnel expenses, including salaries, benefits and performance-based compensation for employeeswho maintain our Counter Threat Platform and provide solutions to our customers, as well as perform other critical functions. Also included in cost of revenue are amortization of equipment and costs associated with hardware utilized as part of providing subscription services, amortization of technology licensing fees, amortization of intangible assets, fees paid to contractorswho supplement or support our solutions, maintenance fees and overhead allocations. As our business grows, the cost of revenue associated with our solutions may fluctuate. We operate in a high-growth industry and have experienced significant revenue growth since our inception. Accordingly, we expect our gross margin to increase in absolute dollars. We continue to invest in initiatives to drive the efficiency of our business to increase gross margin as a percentage of total revenue. However, as we balance revenue growth and efficiency initiatives, gross margin as a percentage of total revenue may fluctuate from period to period. Operating Costs and Expenses Our operating costs and expenses consist of research and development expenses, sales and marketing expenses and general and administrative expenses. ? Research and Development, or R&D, Expenses. Research and development expenses include compensation and related expenses for the continued development of our solutions offerings, including a portion of expenses related to our threat research team, which focuses on the identification of system vulnerabilities, data forensics and malware analysis. R&D expenses also encompass expenses related to the development of prototypes of new solutions offerings and allocated overhead. Our customer solutions have generally been developed internally. We operate in a competitive and highly technical industry. Therefore, to maintain and extend our technology leadership, we intend to continue to invest in our R&D efforts by hiring more personnel to enhance our existing security solutions and to add complementary solutions. • Sales and Marketing, or S&M, Expenses. Sales and marketing expenses include salaries, sales commissions and performance-based compensation, benefits and related expenses for our S&M personnel, travel and entertainment, marketing and advertising programs (including lead generation), customer advocacy events, and other brand-building expenses, as well as allocated overhead. As we continue to grow our business, both domestically and internationally, we will invest in our sales capability, which will increase our sales and marketing expenses in absolute dollars. ? General and Administrative, or G&A, Expenses. General and administrative expenses include primarily the costs of human resources and recruiting, finance and accounting, legal support, information management and information security systems, facilities management, corporate development and other administrative functions, and are partially offset by allocations of information technology and facilities costs to other functions. Interest and Other, Net Interest and other, net consists primarily of the effect of exchange rates on our foreign currency-denominated asset and liability balances and interest income earned on our cash and cash equivalents. All foreign currency transaction adjustments are recorded as foreign currency gains (losses) in the Condensed Consolidated Statements of Operations. To date, we have had minimal interest income. Income Tax Benefit Our effective tax benefit rate was 22.9% and 41.8% for the three months endedMay 1, 2020 andMay 3, 2019 , respectively. The change in the Company's effective income tax rate between the periods was primarily attributable to the impact of the discrete adjustments related to stock-based compensation expense. 25
--------------------------------------------------------------------------------
Results of Operations
The following tables summarize our key performance indicators for the three
months ended
Three Months Ended
May 1, 2020 May 3, 2019
% of % % of
$ Revenue Change $ Revenue
(in thousands, except percentages)
Net revenue $ 141,181 100.0 % 6.3 % $ 132,842 100.0 %
Cost of revenue $ 62,909 44.6 % 0.1 % $ 62,841 47.3 %
Total gross margin $ 78,272 55.4 % 11.8 % $ 70,001 52.7 %
Operating expenses $ 89,041 63.1 % 5.4 % $ 84,473 63.6 %
Operating loss $ (10,769 ) (7.6 )% (25.6 )% $ (14,472 ) (10.9 )%
Net loss $ (7,536 ) (5.3 )% (8.9 )% $ (8,270 ) (6.2 )%
Other Financial Information (1)
Non-GAAP net revenue $ 141,181 100.0 % 6.3 % $ 132,842 100.0 %
Non-GAAP cost of revenue $ 59,094 41.9 % (0.1 )% $ 59,171 44.5 %
Non-GAAP gross margin $ 82,087 58.1 % 11.4 % $ 73,671 55.5 %
Non-GAAP operating expenses
$ 5,604 4.0 % 592.7 %$ 809 0.6 %
_____________________
(1) See "Non-GAAP Financial Measures" and "Reconciliation of Non-GAAP Financial
Measures" for more information about these non-GAAP financial measures,
including our reasons for including the measures, material limitations with
respect to the usefulness of the measures, and a reconciliation of each
non-GAAP financial measure to the most directly comparable GAAP financial
measure. Non-GAAP financial measures as a percentage of revenue are
calculated based on non-GAAP revenue.
Three months ended May 1, 2020 compared to the three months ended May 3, 2019
Revenue
Net revenue, which we refer to as revenue, increased $8.3 million , or 6.3%, for
the three months ended May 1, 2020 . The revenue increase resulted primarily from
revenue generated by our subscription-based solutions, which represented
approximately 75% of total revenue for the three months ended May 1, 2020 . Our
existing customers continued to increase their contracted subscriptions for our
solutions, with average revenue per customer increasing 4% year over year.
Revenue for certain services provided to or on behalf of Dell under our
commercial agreements with Dell totaled approximately $6.0 million and $3.3
million for the three months ended May 1, 2020 and May 3, 2019 , respectively.
For more information regarding the commercial agreements, see "Notes to
Condensed Consolidated Financial Statements-Note 11-Related Party Transactions"
in our condensed consolidated financial statements included in this report.
We primarily generate revenue from sales in the United States . However, for the
three months ended May 1, 2020 , international revenue, which we define as
revenue contracted through non-U.S. entities, increased to $40.5 million , or
24.7%. Currently, our international customers are primarily located in the
United Kingdom , Japan , and Canada . We are focused on continuing to grow our
international customer base in future periods.
Gross Margin
Our total gross margin increased $8.3 million , or 11.8%, for the three months
ended May 1, 2020 . As a percentage of revenue, our gross margin increased 270
basis points to 55.4% for the three months ended May 1, 2020 . Gross margin on a
GAAP basis includes amortization of intangible assets and stock-based
compensation expense. On a non-GAAP basis, excluding these adjustments, gross
margin increased $8.4 million , or 11.4%, for the three months ended May 1, 2020 .
As a percentage of revenue, our non-GAAP gross margin increased 260 basis points
to 58.1% for three months ended May 1, 2020 . The increase in gross margin as a
percentage of revenue on both a GAAP and non-GAAP basis during the three months
ended May 1, 2020 was primarily attributable to improvement in our
subscription-based solutions margins as we continue to focus on delivering
comprehensive higher-value security solutions and driving scale and operational
efficiencies.
26
--------------------------------------------------------------------------------
Operating Expenses
The following table presents information regarding our operating expenses during
the three months ended
Three Months Ended
May 1, 2020 May 3, 2019
% of % % of
Dollars Revenue Change Dollars Revenue
(in thousands, except percentages)
Operating expenses:
Research and development $ 24,073 17.1 % 6.3 % $ 22,642 17.0 %
Sales and marketing 37,452 26.5 % (1.9 )% 38,193 28.8 %
General and administrative 27,516 19.5 % 16.4 % 23,638 17.8 %
Total operating expenses $ 89,041 63.1 % 5.4 % $ 84,473 63.6 %
Other Financial Information
Non-GAAP research and development
(1) See "Non-GAAP Financial Measures" and "Reconciliation of Non-GAAP Financial
Measures" for a reconciliation of each non-GAAP financial measure to the most
directly comparable GAAP financial measure.
Research and Development Expenses. R&D expenses increased$1.4 million , or 6.3%, for the three months endedMay 1, 2020 . As a percentage of revenue, R&D expenses increased 10 basis points to 17.1% for the three months endedMay 1, 2020 . On a non-GAAP basis, R&D expenses as a percentage of revenue decreased 10 basis points to 16.1% for the three months endedMay 1, 2020 . The increase in R&D expenses was primarily attributable to increased compensation and benefits associated with additional development personnel, as well as other technology related costs for the continued development of our solutions, including our new security analytics platform and software applications. Sales and Marketing Expenses. S&M expenses decreased$0.7 million , or 1.9%, for the three months endedMay 1, 2020 . As a percentage of revenue, S&M expenses decreased 230 basis points to 26.5% for the three months endedMay 1, 2020 . On a non-GAAP basis, S&M expenses as a percentage of revenue decreased 220 basis points to 26.0% for the three months endedMay 1, 2020 . The decreases in S&M expenses were primarily attributable to lower travel-related costs associated with increased remote activities as a result of COVID-19. General and Administrative Expenses. G&A expenses increased$3.9 million , or 16.4%, for the three months endedMay 1, 2020 . As a percentage of revenue, G&A expenses increased 170 basis points to 19.5% for the three months endedMay 1, 2020 . On a non-GAAP basis, G&A expenses as a percentage of revenue increased 140 basis points to 14.5% for the three months endedMay 1, 2020 . The increase in G&A expenses was primarily attributable to professional services and consulting related costs. Operating Income (Loss) Our operating loss was$(10.8) million and$(14.5) million for the three months endedMay 1, 2020 andMay 3, 2019 , respectively. As a percentage of revenue, our operating loss was (7.6)% and (10.9)% for the three months endedMay 1, 2020 andMay 3, 2019 , respectively. The decrease in our operating loss was primarily attributable to our increased gross margin, which was partially offset by higher operating expenses as we continue to invest in the business to drive growth. Operating loss on a GAAP basis includes amortization of intangible assets and stock-based compensation expense. On a non-GAAP basis, excluding these adjustments, our non-GAAP operating income was$2.1 million for the three months endedMay 1, 2020 compared to an operating loss of$2.6 million for the three months andMay 3, 2019 . 27
--------------------------------------------------------------------------------
Interest and Other, Net Our interest and other, net was$1.0 million and$0.3 million for the three months endedMay 1, 2020 andMay 3, 2019 , respectively. The changes primarily reflected the effects of foreign currency transactions and related exchange rate fluctuations. Income Tax Benefit Our income tax benefit was$2.2 million , or 22.9%, and$5.9 million , or 41.8%, of our pre-tax loss during the three months endedMay 1, 2020 andMay 3, 2019 , respectively. The changes in the effective tax benefit rate were primarily attributable to the impact of certain discrete adjustments related to the vesting of stock-based compensation expense in the current periods. Net Income (Loss) Our net loss of$(7.5) million decreased$0.7 million , or 8.9%, for the three months endedMay 1, 2020 . Net income on a non-GAAP basis was$2.5 million compared to a non-GAAP net loss of$(1.9) million the three months endedMay 3, 2019 . The changes on both a GAAP and non-GAAP basis were attributable to our improved operating results offset in part by the lower income tax benefit recognized in the current period. Liquidity and Capital Commitments Overview We believe that our cash and cash equivalents together with our accounts receivable will provide us with sufficient liquidity to fund our business and meet our obligations for at least 12 months. Cash from operations could be affected by various risks and uncertainties, including, but not limited to, the effects of COVID-19 and other risks and uncertainties described under "Risk Factors" in Part I, Item 1A of our Annual Report. Our future capital requirements will depend on many factors, including our rate of revenue growth, the rate of expansion of our workforce, the timing and extent of our expansion into new markets, the timing of introductions of new functionality and enhancements to our solutions, the expansion of sales and marketing activities, potential acquisitions of complementary businesses and technologies, continuing market acceptance of our solutions, general economic and market conditions, as well as macroeconomic events such as COVID-19. We may need to raise additional capital or incur indebtedness to continue to fund our operations in the future or to fund our needs for less predictable strategic initiatives, such as acquisitions. In addition to our$30 million revolving credit facility fromDell , described below, sources of financing may include arrangements with unaffiliated third parties, depending on the availability of capital, the cost of funds and lender collateral requirements.
Selected Measures of Liquidity and Capital Resources
As of
May 1, 2020 January 31, 2020 (in thousands)
Cash and cash equivalents
We invoice our customers based on a variety of billing schedules. During the
three months ended
28
--------------------------------------------------------------------------------
Revolving Credit Facility
SecureWorks, Inc., our wholly-owned subsidiary, is party to a revolving credit
agreement with a wholly-owned subsidiary of
Amounts under the facility may be borrowed, repaid and reborrowed from time to time during the term of the facility. The borrower will be required to repay in full all of the loans outstanding, including all accrued interest, and the facility will terminate upon a change of control of us or following a transaction in whichSecureWorks, Inc. ceases to be a direct or indirect wholly-owned subsidiary of our Company. The credit agreement contains customary representations, warranties, covenants and events of default. The unused portion of the facility is subject to a commitment fee of 0.35%, which is due upon expiration of the facility. Cash Flows The following table presents information concerning our cash flows for the three months endedMay 1, 2020 andMay 3, 2019 . Three Months Ended May 1, 2020 May 3, 2019 (in thousands) Net change in cash from: Operating activities$ (20,337 ) $ (3,025 ) Investing activities (1,020 ) (7,016 ) Financing activities (4,491 ) (8,375 )
Change in cash and cash equivalents
Operating Activities - Cash used by operating activities totaled$20.3 million and$3.0 million for the three months endedMay 1, 2020 andMay 3, 2019 , respectively. The increased use of our operating cash was primarily driven by the increase in our net accounts receivable balance due to a decrease in collection rates as a result of COVID-19, along with the payment of annual bonuses. Both items were partially offset by our net transactions withDell . We expect that our future transactions withDell will be a source of cash over time as we anticipate that our charges toDell will continue to exceedDell's charges to us, although the timing of charges and settlements may vary from period to period. Investing Activities - Cash used in investing activities totaled$1.0 million and$7.0 million for the three months endedMay 1, 2020 andMay 3, 2019 , respectively. For the periods presented, investing activities consisted primarily of capital expenditures for property and equipment to support our data center and facility infrastructure as well as certain capitalized cost related to the development of our new security software application. Financing Activities - Cash flows used in financing activities totaled$4.5 million and$8.4 million for the three months endedMay 1, 2020 andMay 3, 2019 , respectively. The use of cash flows for the three months endedMay 1, 2020 reflected employee tax withholding payments of$4.5 million on restricted stock awards paid by us. The use of cash flows for the three months endedMay 3, 2019 reflected employee tax withholding payments of$7.5 million on restricted stock awards paid by us and our repurchase of$0.9 million of our Class A common stock pursuant to our stock repurchase program, which terminated onMay 1, 2020 . Off-Balance Sheet Arrangements As ofMay 1, 2020 , we were not subject to any obligations pursuant to any off-balance sheet arrangements that have or are reasonably likely to have a material effect on our financial condition, results of operations or liquidity. 29
--------------------------------------------------------------------------------
Critical Accounting Policies The unaudited condensed consolidated financial statements included elsewhere in this report have been prepared in accordance with GAAP for interim financial information and the requirements of theSEC . Accordingly, they do not include all of the information and disclosures required by GAAP for a complete financial statement presentation. The year-end condensed balance sheet data was derived from audited financial statements, but does not include all disclosures required by GAAP. In the opinion of management, all adjustments consisting of normal recurring accruals and disclosures considered necessary for a fair interim presentation have been included. All inter-company accounts and transactions have been eliminated in consolidation. As described in "Notes to Condensed Consolidated Financial Statements-Note 1-Description of the Business and Basis of Presentation," we have adopted the new accounting guidance set forth in ASC 350 and ASC 326. Management assessed the critical accounting policies as disclosed in our Annual Report and determined that there were no changes to our critical accounting policies or our estimates associated with those policies during the three months endedMay 1, 2020 . Recently Issued Accounting Pronouncements See "Notes to Condensed Consolidated Financial Statements-Note 1-Description of the Business and Basis of Presentation" in our condensed consolidated financial statements included in this report for a description of recently issued accounting pronouncements and our expectation of their impact, if any, on our financial statements. Item 3. Quantitative and Qualitative Disclosures About Market Risk Our results of operations and cash flows have been and will continue to be subject to fluctuations because of changes in foreign currency exchange rates, particularly changes in exchange rates between theU.S. dollar and the Euro, the British Pound, the Romanian Leu and the Canadian Dollar, the currencies of countries where we currently have our most significant international operations. Our expenses in international locations are generally denominated in the currencies of the countries in which our operations are located. As our international operations grow, we may begin to use foreign exchange forward contracts to partially mitigate the impact of fluctuations in net monetary assets denominated in foreign currencies. Item 4. Controls and Procedures Limitations on Effectiveness of Disclosure Controls and Procedures In designing and evaluating our disclosure controls and procedures, as defined below underSEC rules, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures must reflect the fact that there are resource constraints and that management is required to apply its judgment in evaluating the benefits of possible controls and procedures relative to their cost. Evaluation of Disclosure Controls and Procedures Disclosure controls and procedures (as defined in Rules 13a15(e) and 15d15(e) under the Securities Exchange of 1934, or Exchange Act) are designed to ensure that information required to be disclosed in reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified inSEC rules and forms and that such information is accumulated and communicated to management, including the chief executive officer and the chief financial officer, to allow timely decisions regarding required disclosures. In connection with the preparation of this report, our management, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures as ofMay 1, 2020 . Based on that evaluation, our management has concluded that our disclosure controls and procedures were effective as ofMay 1, 2020 . Changes in Internal Control over Financial Reporting Internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Internal control over financial reporting includes those policies and procedures which (a) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of assets, (b) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, (c) provide reasonable assurance that receipts and expenditures are being made only in accordance with appropriate authorization of management and the board of directors, and (d) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of assets that could have a material effect on the financial statements. 30
--------------------------------------------------------------------------------
There were no changes in our internal control over financial reporting that
occurred during the quarter ended
© Edgar Online, source
