Item 2.02. Results of Operations and Financial Condition
On June 21, 2018, Red Hat, Inc. announced its financial results for the
fiscal first quarter ended May 31, 2018. 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 ended May 31, 2018 and May 31, 2017. These non-GAAP
disclosures include non-GAAP revenue growth rates measured on a constant
currency basis and a reconciliation of GAAP net income to non-GAAP
adjusted net income based on:
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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;
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the impact of expense associated with the amortization of intangible
assets primarily related to business combinations;
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the impact of non-cash interest expense related to the debt discount
described below; and
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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 ended May 31, 2018 in an effort to
provide a comparable framework for assessing how our business performed
when compared to the three months ended May 31, 2017 in light of the
effect of exchange rate differences. Approximately 45.6% of our revenue
for the three months ended May 31, 2018 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 ended May 31, 2017, our
subscription revenue for the three months ended May 31, 2018 would have
been lower than we reported by $20.1 million, our training and services
revenue for the three months ended May 31, 2018 would have been lower
than we reported by $2.5 million, and our total revenue for the three
months ended May 31, 2018 would have been lower than we reported by
$22.5 million.
We also disclose non-GAAP deferred revenue growth rates measured on a
constant currency basis for the twelve months ended May 31, 2018 and
revenue growth rates by geographic segment measured on a constant
currency basis for the three months ended May 31, 2018 in an effort to
provide a comparable framework for assessing how our business performed
when compared to the twelve months ended May 31, 2017 and the three
months ended May 31, 2017, 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 $46.0 million for the three months
ended May 31, 2018 and $43.7 million for the three months ended May 31,
2017 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 $9.9 million for the
three months ended May 31, 2018 and $7.2 million for the three months
ended May 31, 2017 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 $5.0 million for the three
months ended May 31, 2018 and $4.9 million for the three months ended
May 31, 2017 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 5.7 million shares for the three months ended May 31, 2018 and
1.6 million shares for the three months ended May 31, 2017 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.
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. As we do not
acquire or dispose of businesses on a predictable cycle, the terms of
each acquisition are unique and can vary significantly from other
acquisitions and significant expense can be incurred in connection with
an acquisition that we would not have otherwise incurred in the periods
presented as part of our continuing operations, 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 less than $1.0
million for the three months ended May 31, 2018 and GAAP
acquisition-related expenses of less than $1.0 million for the three
months ended May 31, 2017 versus the non-GAAP exclusion of such expense.
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 and transaction costs we incurred in connection with
business combinations. 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.