Item 2.02. Results of Operations and Financial Condition
On March 25, 2019, Red Hat, Inc. announced its financial results for the
fiscal fourth quarter and fiscal year ended February 28, 2019. The full
text of the press release issued in connection with the announcement is
furnished as Exhibit 99.1 to this Current Report on Form 8-K.
In the press release, we disclosed non-GAAP financial information for
the three months and fiscal year ended February 28, 2019 and
February 28, 2018. These non-GAAP disclosures include non-GAAP revenue
growth rates measured on a constant currency basis, non-GAAP cash flow
provided by operations and a reconciliation of GAAP net income to
non-GAAP adjusted net income based on:
-
the impact of non-cash share-based compensation expense under FASB ASC
Section 718 Compensation-Stock Compensation ("ASC 718") and the
related discrete tax benefit or expense;
-
the impact of expense associated with the amortization of intangible
assets primarily related to business combinations;
-
the impact of non-cash interest expense related to the debt discount
described below; and
-
the impact of transaction costs related to business combinations.
These non-GAAP disclosures should not be used as a substitute for our
GAAP results, but rather read in conjunction with our GAAP results. The
non-GAAP financial measures we disclosed and the methods we used to
calculate non-GAAP results are not in accordance with GAAP and may be
materially different from the non-GAAP measures and methods used by
other companies.
We disclosed non-GAAP revenue growth rates for subscription revenue,
training and services revenue and total revenue measured on a constant
currency basis for the three months and fiscal year ended February 28,
2019 in an effort to provide a comparable framework for assessing how
our business performed when compared to the three months and fiscal year
ended February 28, 2018 in light of the effect of exchange rate
differences. Approximately 46.5% and 45.3% of our revenue for the three
months and fiscal year ended February 28, 2019, respectively, was
produced by sales outside the United States. The income statements of
our non-U.S. operations are translated into U.S. dollars using the
average exchange rates for each month in an applicable period. To the
extent the U.S. dollar weakens against foreign currencies, the
translation of transactions denominated in foreign currencies results in
increased revenue, as stated in U.S. dollars, for our non-U.S.
operations. Similarly, revenue, as stated in U.S. dollars, for our
non-U.S. operations decreases if the U.S. dollar strengthens against
foreign currencies. Using the average foreign currency exchange rates
for the three months and fiscal year ended February 28, 2018, our
subscription revenue for the three months and fiscal year ended
February 28, 2019 would have been higher than we reported by $19.4
million and $12.6 million, respectively, our training and services
revenue for the three months and fiscal year ended February 28, 2019
would have been higher than we reported by $4.3 million and $7.0
million, respectively, and our total revenue for the three months and
fiscal year ended February 28, 2019 would have been higher than we
reported by $23.7 million and $19.6 million, respectively.
We also disclosed non-GAAP deferred revenue growth rates measured on a
constant currency basis for the fiscal year ended February 28, 2019 and
revenue growth rates by geographic segment measured on a constant
currency basis for the three months and fiscal year ended February 28,
2019 in an effort to provide a comparable framework for assessing how
our business performed when compared to the fiscal year ended
February 28, 2018 and the three months and fiscal year ended
February 28, 2018, respectively, in light of the effect of exchange rate
differences.
We excluded GAAP share-based compensation expense and the related
discrete tax benefit or expense for the purpose of calculating non-GAAP
adjusted net income and non-GAAP adjusted net income per share because
share-based compensation expense is a non-cash expense, which may vary
significantly from period to period as a result of changes not directly
or immediately related to the particular period’s operational
performance. For example, the amount recognized for share-based awards
is directly related to the underlying share price of our common stock as
of the date of grant, which, in the short-term, may not be directly
related to our operational performance. Consequently, management
believes that by excluding share-based compensation expense we provide
an alternative and useful measure of operating performance. Management
also believes that non-GAAP measures of profitability that exclude
share-based compensation expense are used by a number of financial
analysts in the software industry to compare current performance to
prior periods and to forecast future performance. Our reconciliation of
GAAP net income to non-GAAP adjusted net income includes GAAP non-cash,
share-based compensation expense of $54.1 million and $209.1 million for
the three months and fiscal year ended February 28, 2019, respectively,
and $49.3 million and $192.2 million for the three months and fiscal
year ended February 28, 2018, respectively, versus the non-GAAP
exclusion of such expense.
Amortization expense related to intangible assets results primarily from
business combinations. These costs are fixed in connection with an
acquisition, are then amortized over a number of years after the
acquisition and generally cannot be changed or influenced by management
after the acquisition. Accordingly, management generally does not
consider such costs for the purpose of evaluating the performance of the
business or its managers or when making decisions to allocate resources.
Management also believes that non-GAAP measures of profitability that
exclude amortization expense related to intangible assets are used by a
number of financial analysts in the software industry to compare current
performance to prior periods and to forecast future performance. Our
reconciliation of GAAP net income to non-GAAP adjusted net income
includes GAAP non-cash amortization expense of $10.5 million and $39.8
million for the three months and fiscal year ended February 28, 2019,
respectively, and $8.1 million and $31.4 million for the three months
and fiscal year ended February 28, 2018, respectively, versus the
non-GAAP exclusion of such expense.
We also excluded GAAP non-cash interest expense relating to our 0.25%
convertible senior notes issued in October 2014 for the purpose of
calculating non-GAAP adjusted net income and non-GAAP adjusted net
income per share. Under GAAP, certain convertible debt instruments that
may be settled in cash on conversion are required to be accounted for as
separate liability (debt) and equity (conversion option) components in a
manner that reflects the issuer’s non-convertible debt borrowing rate.
This results in the debt component being treated as though it was issued
at a discount, with the debt discount being accreted as additional
non-cash interest expense over the term of the notes using the effective
interest method. As a result, management believes that excluding this
non-cash interest expense from the accretion of the debt discount in
calculating our non-GAAP measures is useful because this incremental
interest expense does not represent a cash outflow and is not indicative
of our ongoing operational performance. Our reconciliation of GAAP net
income to non-GAAP adjusted net income includes GAAP non-cash interest
expense related to the debt discount of $2.4 million and $14.7 million
for the three months and fiscal year ended February 28, 2019,
respectively, and $5.0 million and $19.7 million for the three months
and fiscal year ended February 28, 2018, respectively, versus the
non-GAAP exclusion of such expense. Additionally, for the purpose of
calculating non-GAAP adjusted net income per share, non-GAAP diluted
weighted average shares outstanding excludes 2.4 million shares and 2.2
million shares for the three months and fiscal year ended February 28,
2019, respectively, and 4.7 million shares and 3.4 million shares for
the three months and fiscal year ended February 28, 2018, respectively,
from our calculation of GAAP diluted weighted average shares
outstanding. We exclude these shares that are issuable upon conversions
of our convertible notes because we expect that the dilution from such
shares will be offset by the convertible note hedge transactions entered
into in October 2014 in connection with the issuance of the convertible
notes. For the three months ended February 28, 2018, non-GAAP diluted
weighted average shares outstanding includes 10.7 million shares to
adjust for the dilutive effect of outstanding equity awards, convertible
notes and warrants due to the GAAP net loss for the three months ended
February 28, 2018.
We also excluded GAAP expense relating to costs we incurred in
connection with business combinations. These costs include
acquisition-related charges such as transaction expenses. Significant
expense can be incurred in connection with an acquisition, such as our
pending merger with International Business Machines Corporation (“IBM”),
that we would not have otherwise incurred in the periods presented as
part of our continuing operations. Additionally, we do not acquire or
dispose of businesses on a predictable cycle and the terms of each
acquisition are unique and can vary significantly from other
acquisitions. As a result, management believes that by excluding such
expense we provide an alternative and useful measure of operating
performance. Management also believes that non-GAAP measures of
profitability that exclude acquisition-related charges are used by a
number of financial analysts in the software industry to compare current
performance to prior periods and to forecast future performance. Our
reconciliation of GAAP net income to non-GAAP adjusted net income
includes GAAP acquisition-related expense of $6.0 million and $34.1
million for the three months and fiscal year ended February 28, 2019,
respectively, and less than $1.0 million and $2.0 million for the three
months and fiscal year ended February 28, 2018, respectively, versus the
non-GAAP exclusion of such expense.
We adopted
ASU 2016-15: Statement of Cash Flows (Topic 230):
Classification of Certain Cash Receipts and Cash Payments
, which now
requires us to classify the portion of repayments of the convertible
notes that is attributable to the debt discount as a cash outflow from
operating activities rather than a cash outflow from financing
activities. As a result, we have disclosed non-GAAP net cash provided by
operating activities for the three months and fiscal year ended
February 28, 2019, which removes the impact of this classification as a
cash outflow from operating activities, in an effort to provide a
comparable framework for assessing how our business performed when
compared to the three months and fiscal year ended February 28, 2018.
Our reconciliation of GAAP net cash provided by operating activities to
non-GAAP net cash provided by operating activities includes the portion
of repayments of convertible notes attributable to debt discount of
$26.9 million and $60.0 million for the three months and fiscal year
ended February 28, 2019, respectively, versus the non-GAAP exclusion of
such repayments.
On August 21, 2018, the Internal Revenue Service issued Notice 2018-68
providing guidance regarding amendments to Section 162(m) of the
Internal Revenue Code contained in the Tax Cuts and Jobs Act that limit
tax deductions for compensation granted to certain executives. As a
result of this guidance, our GAAP provision for income taxes for the
three months and fiscal year ended February 28, 2019 includes the impact
of this tax deduction limitation. In an effort to provide a comparable
framework for our non-GAAP provision for income taxes for the three
months and fiscal year ended February 28, 2018, the calculation of our
non-GAAP provision for income taxes for the three months and fiscal year
ended February 28, 2019 excludes $3.2 million and $11.7 million,
respectively, of tax expense for share-based compensation that is no
longer deductible.
Additionally, the GAAP provision for income taxes for the three months
and fiscal year ended February 28, 2019 includes the impact of the
non-deductible merger related costs incurred in connection with our
pending merger with IBM. In an effort to reflect the impact of the
non-deductible merger related costs on the non-GAAP provision for income
taxes, the calculation of our non-GAAP provision for income taxes for
both the three months and fiscal year ended February 28, 2019 excludes
$4.3 million and $12.9 million of tax expense for non-deductible merger
related costs, respectively.
Moreover, for the three months and fiscal year ended February 28, 2018,
we recorded a one-time tax charge of $122.7 million related to the Tax
Cuts and Jobs Act enacted into law in December 2017, and our non-GAAP
provision for income taxes excludes this one-time tax charge. We
excluded this charge from our non-GAAP provision for income taxes as it
is a non-recurring expense that was the result of a change in U.S. tax
law.
Management believes that these adjusted non-GAAP results, when read in
conjunction with the GAAP results, offer a useful view of our business
performance in that they provide a more consistent means of comparing
performance to prior periods in light of the effect of exchange rate
differences, potential variations in the amount of expense for
share-based awards recognized from period to period due to changes in
the price of our common stock and the related tax benefit or expense,
the irregularity with which management acquires intangible assets, the
non-cash interest expense related to the debt discount, the exclusion of
any share dilution that is expected to be offset by the convertible note
hedge transactions, transaction costs we incurred in connection with
business combinations, our reclassification of a portion of repayments
of the convertible notes that is attributable to the debt discount as a
cash outflow from operating activities rather than a cash outflow from
financing activities, changes in the deductibility of share-based
compensation granted to certain executives and the impact of the
non-deductible merger related costs in connection with our pending
merger with IBM. Management also uses non-GAAP measures as a component
of its regular internal reporting to evaluate performance of the
business and compare it to prior performance, to make operating
decisions, including internal budgeting and the calculation of incentive
compensation, and to forecast future performance. Our disclosure of
non-GAAP financial measures allows investors to evaluate the Company's
performance using information used by management.
The information furnished pursuant to Item 2.02 of this Form 8-K,
including Exhibit 99.1 referenced herein, shall not be deemed "filed"
for purposes of Section 18 of the Securities Exchange Act of 1934, as
amended (the "Exchange Act") or otherwise subject to the liabilities of
that section, nor shall it be deemed incorporated by reference in any
filing under the Securities Act of 1933, as amended, or the Exchange
Act, except as expressly set forth by specific reference in such a
filing.
