Solarwinds, Inc. (SWI)

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SolarWinds (SWI)

Q1 2013 Earnings Call

April 30, 2013 5:00 pm ET

Executives

David Hafner

Kevin B. Thompson - Chief Executive Officer, President and Director

Michael J. Berry - Chief Financial Officer and Executive Vice President

Analysts

John S. DiFucci - JP Morgan Chase & Co, Research Division

Steven M. Ashley - Robert W. Baird & Co. Incorporated, Research Division

Aaron Schwartz - Jefferies & Company, Inc., Research Division

Gregory Dunham - Goldman Sachs Group Inc., Research Division

Keith Weiss - Morgan Stanley, Research Division

Rob D. Owens - Pacific Crest Securities, Inc., Research Division

Elizabeth Colley - Needham & Company, LLC, Research Division

Gregg Moskowitz - Cowen and Company, LLC, Research Division

Tim Klasell - Northland Capital Markets, Research Division

Presentation

Operator

Good afternoon. Welcome to SolarWinds' First Quarter 2013 Earnings Call. [Operator Instructions] At this time, I would like to turn the call over to Mr. Dave Hafner, Director of IR. Please go ahead, sir.

David Hafner

Thank you, Kevin, good afternoon, everyone, and welcome to SolarWinds' First Quarter 2013 Earnings Call. With me today are Kevin Thompson, our President and CEO; and Mike Berry, our Executive Vice President and CFO. Following prepared remarks from Kevin and Mike, we'll have a brief question-and-answer session. Please note that this call is being simultaneously webcast in our Investor Relations website at ir.solarwinds.com.

The press release with our results for the first quarter was issued earlier today and is also posted on our Investor Relations website. Please remember that certain statements made during this call, including those concerning our business and financial outlook, growth strategy and expectations, areas for focus and investment in our business, sales and marketing efforts, product development and acquisition efforts, estimates regarding our market opportunity, other opportunities for the company and our products and our ability to capitalize on these opportunities are forward-looking statements. These statements are subject to a number of risks, uncertainties and assumptions described in our SEC filings, including our Form 10-Q for the first quarter of 2013, which we anticipate filing with the SEC on or before May 10, 2013, and the risk factors described in our annual report on form 10-K for the fiscal year ended December 31, 2012.

Should any of the risks or uncertainties materialize, or should any of our assumptions prove to be incorrect, actual company results could differ materially and adversely from those anticipated in these forward-looking statements. These statements are also based on currently available information, and we undertake no duty to update this information except as required by law. Cautionary statements regarding these forward-looking statements are further described in today's press release.

In addition, some of the numbers during this call will be presented on a non-GAAP basis. Our use and calculation of these non-GAAP financial measures are explained in today's press release and a full reconciliation between each non-GAAP measure and its corresponding GAAP measure is provided in the tables accompanying the press release. Each non-GAAP item in our forward-looking financial outlook that we will provide today has not been reconciled to the comparable GAAP outlook item because we cannot reasonably or reliably estimate future adjustments such as stock-based compensation expense, which is dependent on our stock price at that time.

I'll now turn the call over to Kevin.

Kevin B. Thompson

Thanks, Dave. Good afternoon, everyone, and thanks for joining us on our first quarter 2013 earnings call. We've had a series of quarters, which span a period over 2.5 years, in which we have been able to report and we've exceeded both our own expectation and the expectations of the investing community for the growth of our business. It has been our goal that this trend would remain unbroken. Unfortunately, despite a solid front half of the first quarter and all of our considerable effort, we were unable to finish the first quarter with the strength that we were forecasting. As a result, did not deliver the license revenue growth result we were expecting. Total revenue for the first quarter of 2013 reached $72.9 million, which represents 22% growth over the first quarter of 2012, missing our outlook by $2.4 million at the midpoint. And while many software companies will be satisfied with revenue growth of 22%, we are not. We believe that we have a large and relatively untapped market opportunity and that we are capable of consistently delivering meaningfully higher growth rates than our first quarter 2013 growth rate of 22%. License revenue for the first quarter increased 12% year-over-year, totaling $30.7 million, missing our outlook by $2.7 million at the midpoint. Maintenance revenue continued it's long series of rapid growth quarters. Once again, exceeding our forecast, reaching a record high of $42.2 million, reflecting 31% growth over the first quarter of 2012.

In the first quarter, we continue to do a good job of retaining our customers. Our historically strong customer retention rates has allowed us to deliver quarterly growth of greater than 30% and maintenance revenue for each quarter in the last 5 years. We have indicated on a number of occasions in the past that customer retention and maintenance revenue are important to our business model as we build the model focus on the long-term value of the customer rather than short-term revenue. The experience our customers have in all of their dealings with us, is one of the key areas of focus for us.

So with that context, I know that the first question in most of your minds is, what happened in the second half of the first quarter? It was not consistent with your expectation as it relates to the new license sales. I would expect that the second question is, how does your new license sales performance in the first quarter impact your view of the remainder of 2013? In our remarks, Mike and I, will do our best to answer both of these questions, we will also discuss why we are confident in our ability to deliver accelerated revenue growth rate over the remainder of 2013.

We experienced several significant contrast in performance in the first quarter of 2013. We had strong growth in demand for our core licensed product of the first quarter, specifically SolarWinds' Network Performance Monitor, SolarWinds' IP Address Manager and SolarWinds' Server & Application Performance Monitor. However, this increase in demand did not translate to a consistent increase in new license sales across all of our products. Second, we had a record percentage increase in commercial core product transaction volume in the first quarter. However, our average transaction size fell by a meaningful percentage, which offset much of the positive impact from the significant increase in core product transaction volume. And third, we had a strong start to the first quarter. At the halfway point of the quarter, we believe we were well-positioned to meet or exceed our outlook and it felt like momentum was building. However, in the last 6 weeks of the first quarter, our transaction velocity and growth slowed significantly.

I will now provide some additional detail in each of these points, as well as how we have responded to them. The interest level in our products as measured by downloads of our core license products for evaluation was at the highest level we have seen in well over 2 years, across both our network management and systems manager product portfolios. The increased interest level in our core products was also consistent across most of our major geographic regions, which included North America, EMEA and Latin America.

In addition, at the product level, we saw some of the highest overall growth in demand in our core network management products: SolarWinds' Network Performance Monitor, SolarWinds' NetFlow Traffic Analyzer and SolarWinds' IP Address Manager. The level of interest in SolarWinds' Server & Application Monitor, our leading systems and application management product, also continued to grow rapidly. However, as evident in our reported license revenue growth for the first quarter, we did not see the increase in demand consistently translate across all products to license revenue growth at the level we anticipated for the first quarter.

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