Robert A. Eberle - Bottomline Technologies, Inc.

Richard Douglas Booth - Bottomline Technologies, Inc.

Jason Kreyer - Craig-Hallum Capital Group LLC Andrew Schmidt - Citigroup Global Markets, Inc. Gary Frank Prestopino - Barrington Research Associates, Inc.

Mayank Tandon - Needham & Co. LLC Blake Anderson - Stephens, Inc.

Good afternoon. Thank you for your interest in Bottomline Technologies and welcome to the third quarter fiscal 2018 earnings call.

I'm delighted to report on what was an excellent quarter for Bottomline. I'm here with Rick Booth, our Chief Financial Officer.

Rick will provide a detailed review of the quarter's financials and our guidance. And as always, both Rick and I will be available for questions following his remarks.

The third quarter was an excellent quarter. I'm delighted with the financial results we're reporting.

21% subs and trans revenue growth, $23 million EBITDA, strong bookings, and we're tracking the $90 million EBITDA for FY 2018. I'm even more excited about the future prospects for the business.

Our market opportunity, product set and business model are all aligned. We're winning new business and the lifetime customer value of the new customers we're bringing on is significant, ensuring growth for years to come.

For a year ago (02:45), we committed FY 2019 targets of $300 million in subs and trans revenue and $100 million EBITDA. At the time, those targets may have seemed aggressive, but we had a high confidence we'd achieve them.

In the fourth quarter since we have consistently executed exactly as we said we would. The results for Q3 in the first nine months of FY 2018 show on track (03:08) to meet or exceed our $300 million and $100 million FY 2019 targets.

I'm going to focus my remarks today on three important topics: Our market opportunity, which is large; our product set and why we are consistently winning; and our business model, which produces long, (03:30) more profitable and growing revenue streams. Before doing so, let me touch briefly on the financial highlights of the quarter.

Subscription and transaction revenues grew 21% in the third quarter. Subscription and transaction revenue for the products fully converted (03:47) and traditionally sold in subscription grew 24%.

Subscription and transaction revenue was $67.4 million, a run rate of $270 million and importantly that tracks well against our $300 million FY 2019 target. Revenue overall was $101 million; that's 17% growth year over year.

EBITDA was $23.1 million, up 21% from the prior year. Operating income was up 25% in the prior year at $18 million.

EPS was $0.30 ahead of our target and expectations, and we ended the quarter with $105 million in cash, reflecting the $25 million free cash flow we generated. The financial success we saw in the quarter demonstrates our strategic plan, our product set, our execution are all working.

We're the clear product leader, driving profitable predictable growth, and we're fortunate to do so in such an attractive market. The market for business payments is large and growing.

We're really in the very early innings of the opportunity in front of us. The U.S.

B2B payment volume is estimated at over $20 trillion and 63% of businesses still make 50% or more of their payments by paper check. No one is better positioned to capitalize on this opportunity than Bottomline.

There's no question as well that the market is accelerating. At the customer level we're seeing an increase in interest in automating business payments in a simple, seamless and secure manner.

We're seeing banks planning to spend more as technology advances continue and the rate environment improves. And we're seeing new technologies and industry standards create additional demand for new capabilities.

These macro trends create a wonderful operating environment. In Q3 our market position and product leadership was evidenced by our wins in strong bookings.

During the quarter we had $20.5 million of new subscription and transaction bookings. This is the third quarter in a row with that over $20 million in bookings.

In fact, for the three quarters our bookings are up over 70% (06:08) compared to the prior year. There's evidence (06:12) this market opportunity, product leadership, customer value and sales execution.

In the third quarter we signed 24 new Paymode-X customers, 7 new legal spend management customers, and 4 new banking solutions customers. One of the highlights was a North American financial institution with $200 billion in assets that signed on for our full Digital Banking suite.

We won this customer's confidence based on a number of factors. First, our market leadership in cash management as evidenced by our current product capabilities was of course critical.

Our solid customer referrals (06:51) medium to large banks were strong testament to our ability to fulfill the bank's requirements and aspirations; and finally, our well established track record and commitment to sustained innovation was important as customers look to us as a trusted innovation partner; someone to ensure their success today and in the future. Those are consistent themes across all of our product set, product leadership, domain expertise, a track record of delivering customer success, strong references and a commitment to sustained innovation.

We've taken these attributes and aligned them at large growing markets where the value we provide is meaningful and impactful. The result is we're tracking new customers as we've seen in the bookings number.

When we win a new customer, these are long-term relationships. I'd like to comment on both the lifetime customer experience from a customer perspective and the lifetime customer value from Bottomline.

From a lifetime customer experience standpoint, when an organization selects Bottomline, they do so for the positive impact in ROI (08:07) our technology will have not just today, but for years to come. They select us knowing thousands of vendors are enrolled or hundreds of law firms connected or thousands of their customers on our technology and they do not want to change.

Organizations selecting Bottomline also know they can count on our commitment to continue to innovate. This ensures they will be on the latest platform even as technology and industry standards change in unpredictable ways.

Faster payments, PSD2 and Open Banking are all examples of recent industry changes for which we've been at the forefront of the market. From a Bottomline perspective, knowing these are long-term relationships carry significant responsibility, but immense benefit as well.

The lifetime customer value of a new major relationship will be $10 million, $20 million or even $40 million or $50 million. First element to understand the lifetime customer value is we keep our customers for a decade or more.

Part of that is our customer focus I've already alluded to, but equally important is the systemic, mission-critical nature of our platforms and the technology model itself. When our customers become engaged with Bottomline, there's a deep dependency as we become a critical part of their infrastructure and operating success.

Our customers are seeing significant benefits in ROI each day, month, and year. They're on our platform and leveraging connectivity to critical vendors and customers.

Nobody wants to move or leave. So long as we treat these organizations right, which we do, they'll be Bottomline customers for a decade or more, paying for their current platform, buying our new add-on capabilities and driving additional revenue growth as their businesses grow.

It's a mutually beneficial and rewarding relationship and a highly attractive business model. From a financial model perspective, the investment in these attractive relationships is front-end loaded.

That requires us to balance our long-term goals and opportunity against our near-term targets and commitments. We are fully committed to the $300 million subs and trans revenue and the $100 million EBITDA we set for FY 2019.

Nothing will get in the way of our achieving that. But to be clearer, our aspirations are much larger and our actions and investments are simultaneously aligned with those aspirations.

We're playing in a very big market. We have the opportunity to be the way businesses pay and get paid.

We can achieve that goal to any extent, with the extraordinary rewards for our shareholders for many years to come. So in conclusion, the third quarter was an excellent quarter.

We posted 21% subscription and transaction revenue growth and grew total revenues 17%. We recorded $23 million EBITDA and are on track for $90 million in the fiscal year.

And most importantly, customers are responding to and buying our offerings, allowing us to establish new relationships, which will result in significant lifetime customer value. We have a high confidence we'll achieve our goals, including specifically the $300 million of subscription and transaction revenue and $100 million EBITDA.

And we have a high confidence Bottomline shareholders will be rewarded. So with that, I'll turn it over to Rick and then both of us will be available following his remarks.

Thank you, Rob. I'm pleased to report on another very strong quarter.

I'll focus on four topics today. First, I'll review our Q3 results.

Second, I'll comment on how we think about investing for growth. Third, I'll address the expected impact of the new revenue standard.

And finally, I'll provide updated guidance for the fourth quarter and full year fiscal 2019. Overall, in the third quarter, we delivered subs and trans revenue growth of 21%, EBITDA of $23 million, subs and trans bookings of $20.5 million, and we're on track to report $90 million of EBITDA for fiscal 2018.

I'll discuss our financial results in detail with my remarks. And in addition for your convenience, we posted Supplementary Materials to our website.

Beginning with revenue, subs and trans revenue grew 21% overall and 24% from products fully converted to subscription. With this growth, we recorded $67.4 million of subs and trans revenue equivalent to $270 million on an annualized basis.

This brought total revenue to $101.1 million, up 17% overall, well ahead of plan. And with that growth 67% of our revenue came from subs and trans offerings, up 2 percentage points year-over-year, and 85% of our total revenue is now recurring, which gives us excellent visibility to upcoming results.

Equally important, our sales performance was also strong, as customers continue to focus on improving their business payments' capabilities and our product differentiation positioned us to capitalize on the opportunity. We signed $20.5 million of new subs and trans bookings in the quarter.

And while booking figures are estimates and customers take time to implement and ramp to full revenue production, this provides us with clear visibility to future subs and trans growth. Looking at new customer signings, our Paymode-X network added 24 new payers, fully validating the attractiveness of our full payment automation value proposition and the effectiveness of our channel partnerships.

Four more banks signed on to our Digital Banking products, including the large bank Rob mentioned, and seven brand new insurers signed on to our legal spend management network, and another insurer joined PartnerSelect. This brings us to a total of 11 insurers and over 1,300 law firms now part of PartnerSelect.

Turning from sales to profitability. We delivered adjusted EBITDA of $23.1 million, up 21% year-over-year.

This is equivalent to over $92 million on an annualized basis and evidence of the predictable profitability of our business model. We also drove core operating income of $18 million and core earnings per share $0.30, which were up 25% and 28% year-over-year, respectively.

Overall, core operating margin was 18% of revenue, up 1 percentage point year-over-year, and our established products delivered over 21% operating income, while the transition in (15:10) Digital Banking product sets delivered 7% operating income because (15:14) implementation costs required to bring our customers live. Our overall gross margin was $57.2 million or 57% of revenue, up 1 percentage point year-over-year, and our subs and trans gross margin of 56% was also up 1 percentage point year-over-year.

From an operating expense standpoint, sales and marketing expense for the quarter was $18.5 million or 18% of revenue, and development expense was $12.7 million or 13% of revenue. With the market opportunity in front of us, we plan for targeted investments in each of these areas in fiscal 2019.

In terms of cash flow, as we expected, cash flow was strong in Q3 and we expect it to be strong next quarter as well. Operating cash flow was $31.1 million, which after deducting CapEx of $5.7 million resulted in free cash flow of $25.4 million, and we ended the quarter with cash and investments on hand of $105 million.

Our performance is driven by our reputation as a trusted innovation partner to our customers. That means current product capabilities, the support and services to bring them live, and the investment necessary to remain ahead of advancing technology.

I'd like to say a few words about how we think about our investments in these areas. The large bank this quarter is a good example of investing in customer delivery to realize our long-term revenue stream.

A customer of this size and sophistication will be implemented over two years (16:56). There is significant upfront investment in these relationships and they take time to bring live, but we're happy to absorb these investments now knowing the lifetime value of that customer.

With this new signing, we have almost $19 million of annual subscriptions to our banking solutions, which are in implementation and not yet being recognized in our P&L other than as expense. Each customer is an investment in a long-term relationship that will reward us for a decade or more.

Before we get in the guidance, I'd like to say a few words about the expected impact of the new revenue standard. We will adopt the new standard beginning July 1, effective for our fiscal 2019.

And as is the case for other businesses that look like Bottomline, the primary P&L impacts will be (17:49) revenue forward that would otherwise be deferred and recognized over time and to defer certain expenses like commissions and direct implementation costs that we expense upfront today. We're still evaluating these impacts and expect that the new standard will result in better matching of our expenses to our revenues, but that that impact shouldn't be material in the aggregate.

Because we're still evaluating the impact of the new standards, the guidance I present today is based on current standards. Turning to guidance.

Our momentum positions us well for Q4 in the short term and for fiscal 2019 and beyond in the longer term. In the fourth quarter, we expect to deliver $68 million of subs and trans revenue, $22 million in adjusted EBITDA, bringing us to $90 million for fiscal 2018, $101 million of overall revenue, $17.5 million core operating income, and $0.29 core earnings per share.

For fiscal 2019, I'm pleased to raise our $100 million EBITDA target modestly to $100 million to $102 million. We'll continue to present detailed guidance prior to each quarter while evaluating and updating the full year as needed.

We're confident in our ability to deliver $300 million of subs and trans revenue, $100 million to $102 million adjusted EBITDA, $420 million to $425 million overall revenue, $80 million to $82 million core operating income, and $1.41 to $1.45 core earnings per share. In conclusion, the third quarter performance of subs and trans revenue growth of 21%, EBITDA of $23 million, and subs and trans bookings of $20.5 million puts us well on track to deliver $260 million of subs and trans revenue, and $90 million of EBITDA in fiscal 2018.

I'm very confident in our ability to deliver $300 million of subs and trans revenue, and $100 million to $102 million of EBITDA in fiscal 2019. And with that, we can open the call to questions.

Hey, gentlemen, good afternoon. It's Jason on for George and thanks for taking my questions.

(20:45).

First one actually probably for Rick. Just the bookings – the subs and trans bookings that you reported throughout this year have been up substantially from last year, and just can you dive into that a little bit more and give us some sense of where that's coming from?

Yeah, certainly. I think it's a combination of a couple of things.

One the market focus, our customers focus on adopting business payments solutions is really maturing. I think there's a lot of attention on it.

It's causing people to look at adopting, and our products are significantly ahead of the market, so we've been benefiting by that. I think the secondary factor is with rising interest rates and falling taxes.

Our bank channel customers are also investing more, and they're even more focused on gaining commercial customers. So really, a fundamentally strong market meeting differentiated products.

What about like categorically, I mean, any color on which segments of the business those are coming from?

It's actually been pretty broad strength. I think both Banking and Paymode (sic) [Paymode-X] (21:49) stands out as being really strong solutions in the marketplace.

But there's – really it's been a broad trend including internationally.

Okay. On Paymode (sic) [Paymode-X] (22:00) I guess I'll ask the obligatory question about just the existing customers through B of A that are on the traditional payment platform, has there been any traction on moving those customers over to vendor pay?

We continue to see the primary growth coming from new logos, which is exactly where we want it. We believe that ultimately will – the conversion will ultimately happen, but right now we're really being driven by new logos.

Okay. Rob, a lot of good color just on the customer LTV is what you're seeing from the customer base.

Obviously, we understand there's a lot of investment that has to happen in front of the revenue for some of these larger deals. But just when you give those numbers, is there any sense of how that's changed over time?

These LTVs, are they driven by improvements in churn and that's why you're seeing longer customer duration?

Well, I'm not sure we're seeing longer duration. I think some of that is the business model too where we've transitioned to more of a hosted solution across the board.

So that's the first piece I'd comment on. I think as well though our – what we've been able to do is extend our product and market lead.

So when we truly (23:12) looked at us and trusted innovation partner, it means that customers are looking across what's just not here today, but conversations around faster payments, conversations around Open Banking, conversations around cyber currencies (23:26) for the past couple of years and blockchain and other technologies and they're choosing not just who they're going to be with today, but who's going to be making the investments to be with them in the future. So that's probably the biggest change we're seeing, and I believe that we've been able to pull ahead significantly relative to the competition and that's the feedback I get regularly from customers.

Okay. I'll throw one more question in there.

Just the attach rates on the cyber fraud, risk management, is seeing any shifting there when you go back to these customers, are you seeing a little bit more buy-in (24:02)?

Yeah. We're actually seeing particularly strong traction in Europe, so we're delighted to have that capability.

We certainly – it's a good example of everything I was just talking about. So it's a great question to follow on with that.

It's looking at us and saying, wow, we're concerned about security and we've acquired a solution and have an add-on capability for that. So we're seeing solid cross-sells into the – if it will or sells (24:31) with our banking platforms, and we've seen actually upside surprise in Europe with that capability.

Okay, great. Thanks a lot, guys.

Thanks, Jason.

Yeah. Hi, Rob.

Hi, Rick. Thanks for taking my question.

Good quarter. Quick question on the FY 2019 outlook.

Obviously, you have nice margin step-up there and it's nice to see the inflection in the Digital Banking Segment margin sustained expansion there. You look at the incremental margin, it's well above where you are today.

How do you guys think about just the longer term margin structure of the business? Obviously, you have to balance the margin progression with reinvestment in things like that, but it seems like there's a lot of leverage and increasing leverage in the model given the shift towards recurring revenues, subs and trans, et cetera.

So just curious on your thoughts on just longer term margin progression.

I couldn't have said it better myself, Andrew. There is inherent leverage in our networks.

And then what we do, the way in which we think about this is we also consider the investments that we'll need to be making in sales and marketing, innovation, and also in customer delivery. The last thing that we want to do is get into a place where to hit a target (26:03) guys to sell less because of our upfront cost.

So I think we feel confident in our guide that that will drive growth for years to come because this is multi-year play. We think there's a lot of room for expansion.

Understood, that helps. And then (26:23) maybe you could elaborate.

You have a number of assets, very good assets you've acquired over the past few years. I guess, it's been an ongoing effort to consolidate and integrate a few of these products and just consolidate the go-to-market approach, cross-sell, et cetera.

Can you talk about some efforts around that in terms of how (26:47) sort of – so just tying the IP together of the same products, cross-selling? And then with the earlier question alluded to this, too, but just effect in any metrics around effectiveness of cross-selling at this stage?

Well, all of our product set is in one way or another focused on automating business payments. And what we're seeing from customers is the more breadth we can bring to those capabilities, the better position we're in.

So combining invoicing capability for example with payment capability, or the fact that we can bring together Paymode-X with our Digital Banking platform and banking solutions is unique in that other competitors we may see in one product category certainly don't have that capabilities that we have in bringing across these other solutions. So that's been a particular focus for us in the last couple of quarters, and it will be something you'll be hearing about over the course of the next year as we drive more and more competitive advantage (27:47) through that.

Understood, that helps. And then just a question on the quarter, the 24% growth in established subs and trans revenue is pretty strong.

Rick, could you unpack that for us and just talk about maybe the breakdown just from a broad just waiting (28:11) perspective and relative growth rates if possible?

Yeah. I think I can characterize it as broad strength in our payment networks with the dominant theme Paymode-X and financial messaging performing very, very well, but really again strong performance across the business.

All right. Thank you guys very much.

Appreciate it.

Yeah. Thank you, Andrew.

Hi, everyone. Most questions have been answered, but hey, Rick, I noticed at least from my notes that with PartnerSelect you increased the amount of law firms on there, looks like by about 30%.

I mean, this to me seems to be like a very highly leverageable product. Is that the real key to getting more customers signed on, is getting more law firms on the PartnerSelect platform?

I think it's a two-sided network. So I'm equally proud of the 11 insurers that we've signed on and the 1,300 law firms.

It's early days of this, our newest network, but we do think that in the long run it will be very favorable. In the short run, it's actually not contributing materially to our results.

So it's good news to come as opposed to already in the P&L.

Okay. And then the other question, I would have is that you've had both Mastercard and Visa capabilities on Paymode-X, how has that didn't receive in the market?

And then how has that helped with the actual sell-through of the product?

Well, it's been very well received on a couple different fronts. First off, of course, those organizations' endorsement means a lot, means a lot to customers, means a lot to any participant in the market.

Second, the ability to offer an integrated payables capability that our payers don't have to segment their payment files, say, what's going to card, what's going to Paymode-X, they can send us one file and we can handle any type of payment for them and where they have established card vendors and vendors that they're paying through a card (30:23) we can accommodate that; where they have not yet adopted a card program and they're anxious to do so, Paymode-X now accommodates that as well. So it's really rounded out the full breadth of capabilities to make us the best business-to-business payment solution in the market.

Thank you.

Thank you. Good evening.

Congratulations, Rob and Rick, on the quarter and guidance. A few questions.

First, when I look at the third quarter, that's a big step-up in growth relative to what we've seen historically. So I would love to hear if there's any one-timers in there.

And then in the context of the 4Q guide, Rick, there's downtick, so, again, are you just being conservative, or is there something that impacted 3Q that does not flow into the 4Q guidance?

Now, there's always a timing element. There's nothing material, nothing like in Q4 last year where we had that $3 million (31:24) of largely professional services related to one contract.

That makes Q4 a tough compare if you're thinking of it year-over-year, but no one-timers that I'm aware of.

Okay. And then as we look at fiscal 2019, clearly, you're reiterating your outlook for the annual numbers, but how should we think about the quarterly trends, maybe just some perspective on any seasonality we should factor in, so we have our model straight?

I wouldn't see any fundamentally different seasonality drivers than we've seen in recent years. As you know, Q3 tends to be a heavier expense quarter for us.

For example, the timing of benefits payments that we talked about last quarter that would be coming out, that's $2 million to $3 million alone. So you can take that into account on the expense side, but I think it will be largely similar to normal quarterly cadence.

Okay. And a couple of housekeeping items.

Could you comment on your expectations for the tax rate in fiscal 2019 versus the levels you're seeing currently in fiscal 2018? And also, was there any FX benefit in the quarter and how should we model that going forward?

Certainly. Well, if I can have a model where the pound is going going forward, I wouldn't be doing this call.

Right.

But – so tax rate, we nailed our cash tax estimates within $300,000 for the quarter. So we feel really good about the 25% core tax rate that we announced last quarter for fiscal 2019, so I continue to use 25% on the core tax rate.

From a cash tax perspective, we again don't expect to be a significant taxpayer and that's by far the most important measure. In terms of the pound, I have no better estimate of where the pound is going than where it is today.

Any material impact in the third quarter though?

Actually, the pound was pretty consistent with the prior quarter. Year-over-year it has normalized a bit and that was a tailwind, but beat without the pound as well.

Right. Thank you.

Thank you.

Hi. This is Blake on for Brett.

Thanks for taking my questions. Kind of building off a previous question, the subs insurance growth was obviously very strong in the quarter, 21%.

I believe the $300 million guidance for FY 2019 implies about 16%. So, any reason for a little bit downtick there?

Or can you talk about any conservatism you're building in, or again, any one-timers that drove that 21%?

I think it's as simple as we are executing almost exactly the plan. We've set out a plan almost two years ago now, and we've been resolutely executing years (34:30) plan.

We see no reason to change that.

Got it. And then can you remind us how many Digital Banking 3.0 clients you have live now?

And then, any commentary on how many more you should add next year?

So next year will be a big year for Digital Banking clients coming live. We've got a couple live now.

And you see that actually getting masked, so masked in the P&L by the attrition that we talked about earlier this year with the legacy Intuit base. So next year, you'll see more of the customers going live and that's part of what you see in our guidance, continued conservatism around the Intuit base combined with more of those customers going live in 2019.

All right. And then on the margins, we've talked about investments a little bit earlier, if you were to experience closer to the higher end of your revenue guidance or even above that, can you talk about the dynamic of would you invest that back or would you pass that through to operating income?

We're very disciplined. So I think it depends on the opportunities that we see.

But right now looking at the opportunities to continue to advance our capabilities to strengthen our sales and marketing and our delivery, I would expect that we would continue to execute against our plan.

Great. And then last one, you talked about the bookings, can you just elaborate more on the Paymode (sic) [Paymode-X] (36:10) bookings, the wins were good at 24 customers, down a little bit from the 2Q.

How are the Paymode-X sales specifically into the new APIs you released, can you talk about any traction that those got in the quarter?

Yeah, I wouldn't say the new API release is specific to the traction in the quarter, but it was a real strong quarter. On the deal size standpoint, we're actually a little larger than the prior quarter.

Now we had a lower deal count. So really seeing great momentum in Paymode-X and that's continuing throughout the – this fiscal year.

And we have every belief and reason to see it continuing going forward. Things like APIs and other new capabilities we'll be announcing over the next couple of quarters.

Just we'll continue to extend that momentum.

Thanks a lot.

Thank you, everyone, for joining us today.

And thank you all.