Vertex, Inc. Q3 FY2022 earnings

Vertex reported third quarter 2022 total revenue of $126.2 million, up 14.0% from the prior-year quarter. Gross profit rose 13.2% to $75.6 million. The company still posted an operating loss of $0.9 million, which narrowed from the prior-year quarter, and a net loss of $1.1 million, which also narrowed. Gross margin slipped to 59.9%, down 0.4 percentage points. Operating margin was negative 0.7%, up 2.6 percentage points. Non-GAAP operating income was $17.8 million, compared with $18.3 million. Adjusted EBITDA was $20.7 million, compared with $21.4 million, and Adjusted EBITDA margin was 16.4%, compared with 19.3%. Non-GAAP net income was $13.0 million, and non-GAAP diluted EPS was $0.08.

Recurring revenue metrics remained the core of the story. ARR was $411.5 million, up 16.6% from a year earlier. Net revenue retention was 109%, up from 106% in the prior-year quarter and down slightly from 110% in the second quarter. Gross revenue retention was 96%, up from 95% and consistent with the second quarter. Direct customers slipped to 4,230 from 4,258, while indirect small business customers increased to 268 from 167. The company said existing customers expanded their use of its solutions and it also added new customers through organic growth.

Cash generation weakened. Operating cash flow was $18.5 million for the quarter, down 29.6% from the prior-year quarter. Capital expenditures were $15.1 million, up 89.1%, as the company invested in cloud and internal infrastructure. Free cash flow, a non-GAAP measure, was negative $1.1 million, compared with positive $15.4 million a year earlier. Deferred revenue was $253.7 million, up 14.0%. Vertex attributed the lower free cash flow to the decrease in operating cash flow and higher investments. Management also noted increases in travel and external marketing event expenses as COVID-19 restrictions eased.

Guidance sets expectations for the fourth quarter and full year. For the fourth quarter of 2022, Vertex expects revenue of $124 million to $127 million, representing growth of 11% to 14% from the fourth quarter of 2021, and Adjusted EBITDA of $15.4 million to $19.4 million, a decrease of $3.9 million from the fourth quarter of 2021 at the low end of the range. For the full-year 2022, the company expects revenue of $484.5 million to $487.5 million, growth of 14% to 15% from full-year 2021, cloud revenue growth of 33%, and Adjusted EBITDA of $73 million to $77 million. At the low end, full-year Adjusted EBITDA would decrease $5 million from full-year 2021. Vertex said the outlook reflects ongoing investments in research and development and selling and marketing, plus internal infrastructure spending.

Risks are familiar but material. The 10-Q cites the COVID-19 pandemic, the ability to attract new customers cost-effectively, customer renewals and upgrades, and the ability to sustain and expand revenue while managing growth. It also flags acquisition integration and the ability to maintain strategic relationships. Revenue is tied to customer revenue bands, so elongated declines in customers' own revenue could slow growth. Significant increases in non-renewals or concessions to renewal customers would materially affect revenue and cash flows. Research and development spending may not produce market-accepted solutions, and tax estimates could differ from actual results. Management says existing cash resources and the bank line of credit should fund operations for at least the next 12 months, but it also notes that additional financing may not be available on acceptable terms.

Vertex's quarter shows durable top-line growth and strong retention, but also heavy investment and weaker cash generation. GAAP losses narrowed in the quarter, while the low end of the full-year Adjusted EBITDA outlook is below 2021. The tension between growth investments and near-term profitability will be the key issue for investors.