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Rackspace Reports Strong Fourth Quarter 2014 Results
Revenue grew 16 percent compared to the fourth quarter of 2013
Adjusted EBITDA grew 25 percent compared to the fourth quarter of 2013
Net income grew 77 percent compared to the fourth quarter of 2013

SAN ANTONIO, TX -- (Marketwired) -- 02/17/15 -- Rackspace®(NYSE: RAX), the #1 managed cloud company, today announced financial results for the quarter that ended December 31, 2014.

On a GAAP basis, net revenue for the fourth quarter of 2014 was $472 million, up 15.8 percent from the fourth quarter of 2013. On a constant currency basis, net revenue grew 16.4 percent from the fourth quarter of 2013.

Adjusted EBITDA for the quarter was $165 million, up 25.3 percent from the fourth quarter of 2013. Net income for the fourth quarter was $36.9 million, for a margin of 7.8 percent, up from 5.1 percent in the fourth quarter of 2013.

For the fourth quarter of 2014, cash flow from operating activities was $151 million, capital expenditures were $105 million, and Adjusted Free Cash Flow was a record $55 million. At the end of the fourth quarter of 2014, cash and cash equivalents were $214 million, and interest-bearing debt including capital lease obligations totaled $49 million. Return on Capital was 15.5 percent in the fourth quarter of 2014 compared to 9.6 percent in the fourth quarter of 2013.

On a worldwide basis, Rackspace employed 5,936 Rackers as of December 31, 2014.

"The strong growth and improving margins that we've posted demonstrate the traction that we're gaining as the leader of the managed cloud segment," said Taylor Rhodes, president and CEO of Rackspace. "We will build on this momentum in 2015 by expanding the specialized expertise that we offer in areas such as ecommerce, big data and security. We're helping more and more businesses leverage the power of the cloud without the pain of managing complex new technologies by themselves."

For the first quarter of 2015, Rackspace expects revenue to grow between 2 percent and 3.5 percent on a constant currency basis. Based on foreign currency movements to date, Rackspace anticipates a 100 basis point headwind to revenue growth in the first quarter, resulting in GAAP revenue in the range of $477 million to $484 million. The company expects adjusted EBITDA margins to be between 32 percent and 34 percent for the first quarter.

For the full year 2015, Rackspace expects revenue to grow between 14 percent and 18 percent on a constant currency basis. Based on foreign currency movements to date, Rackspace anticipates a 200 basis point headwind to revenue growth for the full year of 2015, resulting in GAAP revenue in the range of $2.0 billion to $2.1 billion. The company expects adjusted EBITDA margins to be between 33 percent and 36 percent for the year.

Recent Highlights

  • Rackspace Strengthens Data Tier Leadership With OnMetal™ Cloud Big Data. Rackspace announced the release of its OnMetal Cloud Big Data Platform, which allows customers to deploy bare metal instances of Apache Hadoop® with Spark in just three clicks. The new solution provides an efficient and elastic platform that delivers breakthrough speed for Hadoop and Spark, allowing data scientists to gather insights in minutes rather than hours or days.
  • Rackspace Announced the Newest Release of its Rackspace Hybrid Cloud offering, RackConnect ® v3. RackConnect v3 includes new security capabilities, increased scalability and an improved customer experience.
  • Rackspace Announced Cloud Office Suite for Improved Business Collaboration Backed by Fanatical Support ® . Rackspace announced it has created a new business unit -- Cloud Office at Rackspace -- to unify its portfolio of industry-leading Rackspace and Microsoft® business productivity and collaboration tools. The suite of solutions available includes hosted Microsoft Exchange and Rackspace Email, Microsoft Lync® and SharePoint® collaboration tools, and Jungle Disk® backup services, all backed by Fanatical Support.
  • Rackspace Appointed Todd Cione as Chief Revenue Officer. In this new role, Cione oversees the operations of the Americas sales and global marketing organizations, while uniting the functions to work seamlessly and strengthen the company's go-to-market strategy.
  • Rackspace Appointed Kevin Costello to Board of Directors. Kevin Costello is a veteran in the Software-as-a-Service (SaaS) industry, bringing more than 25 years of consulting and advisory experience.
  • Rackspace Opened First Office for Latin America in Mexico City. The office will bring the managed cloud and Fanatical Support to its existing customer base of more than a thousand local customers and will support growth in its business in this region.

Non-GAAP Financial Information

Adjusted EBITDA, Adjusted Free Cash Flow, and Return on Capital are non-GAAP financial measures. Rackspace believes these measures provide helpful information with respect to evaluating the company's performance. Other companies may calculate non-GAAP measures differently, limiting their usefulness as a comparative measure. The financial statement tables that accompany this press release include reconciliations of non-GAAP financial measures to the most comparable GAAP financial measures.

Conference Call and Webcast

Rackspace's executive management will host a conference call to discuss the results for the fourth quarter of 2014 starting today at 4:30 p.m. ET.

To access the conference call from the United States and Canada, please dial 800-772-0358; from the United Kingdom, please dial 0800-692-2011; and from Hong Kong, please dial 800-900-872.

A live webcast and a replay of the conference call will be available on Rackspace's website, located at ir.rackspace.com.

About Rackspace

Rackspace (NYSE: RAX) is the #1 managed cloud company. Its technical expertise and Fanatical Support® allow companies to tap the power of the cloud without the pain of hiring experts in dozens of complex technologies. Rackspace is also the leader in hybrid cloud, giving each customer the best fit for its unique needs -- whether on single- or multi-tenant servers, or a combination of those platforms. Rackspace is the founder of OpenStack®, the open-source operating system for the cloud. Headquartered in San Antonio, Rackspace serves more than 300,000 business customers from data centers on four continents. It ranks 29th on Fortune's list of 100 Best Companies to Work For. For more information, visit www.rackspace.com.

Forward-Looking Statements

This press release contains forward-looking statements that involve risks, uncertainties and assumptions. If such risks or uncertainties materialize or such assumptions prove incorrect, the results of Rackspace Hosting could differ materially from those expressed or implied by such forward-looking statements and assumptions. All statements other than statements of historical fact are statements that could be deemed forward-looking statements, including any statements concerning expected operational and financial results, long-term investment strategies, growth plans, expected results from the integration of technologies and acquired businesses, or the performance or market share relating to products and services; any statements of expectation or belief; and any statements or assumptions underlying any of the foregoing. Risks, uncertainties and assumptions include infrastructure failures; the deterioration of economic conditions or fluctuations, disruptions, instability or downturns in the economy; the effectiveness of managing company growth; technological and competitive factors; regulatory factors; and other risks that are described in Rackspace Hosting's Form 10-Q for the quarter ended September 30, 2014, filed with the SEC on November 10, 2014. Except as required by law, Rackspace Hosting assumes no obligation to update these forward-looking statements publicly or to update the reasons actual results could differ materially from those anticipated in these forward-looking statements, even if new information becomes available in the future.

Consolidated Statements of Income

           
  Three Months Ended     Year Ended  
  (Unaudited)           (Unaudited) 
(In thousands, except per share data) December 31,
 2013
    September 30,
 2014
    December 31,
 2014
    December 31,
 2013
    December 31,
 2014
 
Net revenue $ 408,103     $ 459,776     $ 472,422     $ 1,534,786     $ 1,794,357  
Costs and expenses:                                      
  Cost of revenue   133,821       142,954       153,912       492,493       582,334  
  Research and development   24,849       30,718       31,385       90,213       117,006  
  Sales and marketing   55,465       60,582       59,127       208,417       237,548  
  General and administrative   79,128       86,702       82,780       297,520       322,056  
  Depreciation and amortization   87,683       98,307       95,213       313,007       371,884  
    Total costs and expenses   380,946       419,263       422,417       1,401,650       1,630,828  
      Income from operations   27,157       40,513       50,005       133,136       163,529  
Other income (expense):                                      
  Interest expense   (656 )     (445 )     (444 )     (3,118 )     (1,913 )
  Interest and other income (expense)   405       (2,191 )     (257 )     741       (2,012 )
    Total other income (expense)   (251 )     (2,636 )     (701 )     (2,377 )     (3,925 )
      Income before income taxes   26,906       37,877       49,304       130,759       159,604  
Income taxes   6,108       12,137       12,388       44,022       49,051  
      Net income $ 20,798     $ 25,740     $ 36,916     $ 86,737     $ 110,553  
                                       
Net income per share                                      
  Basic $ 0.15     $ 0.18     $ 0.26     $ 0.63     $ 0.78  
  Diluted $ 0.14     $ 0.18     $ 0.26     $ 0.61     $ 0.77  
                                       
Weighted average number of shares outstanding                                      
  Basic   139,875       142,978       141,776       138,577       141,971  
  Diluted   144,024       144,895       144,526       143,011       144,498  
                                       
                                       

Consolidated Balance Sheets

             
(In thousands)   December 31, 2013     December 31, 2014  
          (Unaudited)  
ASSETS                
Current assets:                
  Cash and cash equivalents   $ 259,733     $ 213,505  
  Accounts receivable, net of allowance for doubtful accounts and customer credits of $3,891 as of December 31, 2013 and $5,334 as of December 31, 2014     123,898       156,455  
  Deferred income taxes     12,637       9,260  
  Prepaid expenses     30,782       33,628  
  Other current assets     11,918       8,895  
    Total current assets     438,968       421,743  
                 
Property and equipment, net     890,776       1,057,684  
Goodwill     81,084       81,084  
Intangible assets, net     23,880       16,592  
Other non-current assets     57,089       47,181  
      Total assets   $ 1,491,797     $ 1,624,284  
                 
LIABILITIES AND STOCKHOLDERS' EQUITY                
Current liabilities:                
  Accounts payable and accrued expenses   $ 122,047     $ 137,295  
  Accrued compensation and benefits     62,459       66,696  
  Income and other taxes payable     11,388       11,783  
  Deferred revenue     22,868       20,851  
  Capital lease obligations     37,885       14,969  
  Debt     1,861       25,124  
    Total current liabilities     258,508       276,718  
                 
Non-current liabilities:                
  Deferred revenue     3,662       1,425  
  Capital lease obligations     25,048       8,946  
  Finance lease obligations for assets under construction     -       109,991  
  Debt     124       -  
  Deferred income taxes     69,729       71,228  
  Deferred rent     43,046       49,899  
  Other liabilities     36,268       32,283  
    Total liabilities     436,385       550,490  
                 
Commitments and Contingencies
               
                 
Stockholders' equity:                
  Common stock     141       141  
  Additional paid-in capital     636,660       696,029  
  Accumulated other comprehensive loss     (4,536 )     (20,685 )
  Retained earnings     423,147       398,309  
    Total stockholders' equity     1,055,412       1,073,794  
      Total liabilities and stockholders' equity   $ 1,491,797     $ 1,624,284  
                 
                 

Consolidated Statements of Cash Flows

             
    Three Months Ended     Year Ended  
    (Unaudited)           (Unaudited) 
(in thousands)   December 31,
 2013
    September 30,
 2014
    December 31,
 2014
    December 31,
 2013
    December 31,
 2014
 
Cash Flows From Operating Activities                                        
  Net income   $ 20,798     $ 25,740     $ 36,916     $ 86,737     $ 110,553  
  Adjustments to reconcile net income to net cash provided by operating activities:                                        
    Depreciation and amortization     87,683       98,307       95,213       313,007       371,884  
    Deferred income taxes     (12,407 )     (11,046 )     30,553       (2,102 )     413  
    Share-based compensation expense     17,188       19,842       20,166       59,645       70,005  
    Excess tax benefits from share-based compensation arrangements     (16,156 )     (16,990 )     10,838       (33,539 )     (34,473 )
    Other operating activities     755       2,381       2,435       5,490       8,242  
    Changes in operating assets and liabilities:                                        
      Accounts receivable     (10,344 )     (6,609 )     (25,952 )     (34,473 )     (41,681 )
      Prepaid expenses and other current assets     6,290       (24,454 )     16,083       (12,270 )     (1,116 )
      Accounts payable, accrued expenses, and other current liabilities     8,355       41,886       (38,458 )     35,303       55,424  
      Deferred revenue     4,176       (1,431 )     1,210       5,367       (3,742 )
      Deferred rent     2,279       1,928       1,120       11,564       7,417  
      Other non-current assets and liabilities     901       (4,126 )     762       9,331       (416 )
  Net cash provided by operating activities     109,518       125,428       150,886       444,060       542,510  
                                         
Cash Flows From Investing Activities                                        
  Purchases of property and equipment     (126,723 )     (124,129 )     (107,209 )     (452,596 )     (430,335 )
  Acquisitions, net of cash acquired     (3,727 )     -       -       (9,930 )     -  
  All other investing activities     110       317       285       (1,698 )     2,230  
    Net cash used in investing activities     (130,340 )     (123,812 )     (106,924 )     (464,224 )     (428,105 )
                                         
Cash Flows From Financing Activities                                        
  Principal payments of capital leases     (14,652 )     (8,957 )     (7,133 )     (65,860 )     (39,635 )
  Proceeds from debt     -       -       25,000       -       25,000  
  Repayments of debt     (52 )     (967 )     (35 )     (1,915 )     (1,901 )
  Payments for deferred acquisition obligations     (57 )     (55 )     (55 )     (1,353 )     (223 )
  Receipt of Texas Enterprise Fund grant     -       -       -       -       5,500  
  Repurchase of common stock     -       -       (200,000 )     -       (200,000 )
  Shares of common stock withheld for employee taxes     -       -       -       -       (13,620 )
  Proceeds from employee stock plans     8,971       3,268       15,099       23,817       33,120  
  Excess tax benefits from share-based compensation arrangements     16,156       16,990       (10,838 )     33,539       34,473  
    Net cash provided by (used in) financing activities     10,366       10,279       (177,962 )     (11,772 )     (157,286 )
                                         
    Effect of exchange rate changes on cash and cash equivalents     194       (2,759 )     (1,975 )     (392 )     (3,347 )
                                         
    Increase (decrease) in cash and cash equivalents     (10,262 )     9,136       (135,975 )     (32,328 )     (46,228 )
    Cash and cash equivalents, beginning of period     269,995       340,344       349,480       292,061       259,733  
      Cash and cash equivalents, end of period   $ 259,733     $ 349,480     $ 213,505     $ 259,733     $ 213,505  
                                         
Supplemental Cash Flow Information                                        
  Non-cash purchases of property and equipment (1)   $ (4,116 )   $ (6,706 )   $ (2,580 )   $ 19,493     $ 4,804  
                                         
(1) Non-cash purchases of property and equipment represents changes in amounts accrued for purchases under vendor financing and other deferred payment arrangements.
   
   

Key Metrics - Quarter to Date
(Unaudited)
 

   
    Three Months Ended  
(Dollar amounts in thousands, except average monthly revenue per server)   December 31,
 2013
    March 31,
 2014
    June 30,
 2014
    September 30,
 2014
    December 31,
 2014
 
Growth                                        
  Dedicated cloud, net revenue   $ 291,265     $ 299,689     $ 310,647     $ 319,601     $ 324,729  
  Public cloud, net revenue   $ 116,838     $ 121,358     $ 130,465     $ 140,175     $ 147,693  
    Net revenue   $ 408,103     $ 421,047     $ 441,112     $ 459,776     $ 472,422  
    Revenue growth (year over year)     15.6 %     16.2 %     17.4 %     18.3 %     15.8 %
                                         
    Net upgrades (monthly average)     1.1 %     0.9 %     1.5 %     1.4 %     1.2 %
    Churn (monthly average)     -0.7 %     -0.6 %     -0.7 %     -0.6 %     -0.5 %
      Growth in installed base (monthly average) (1)     0.4 %     0.3 %     0.8 %     0.8 %     0.7 %
                                         
  Number of employees (Rackers) at period end     5,651       5,743       5,798       5,939       5,936  
  Number of servers deployed at period end     103,886       106,229       107,657       110,453       112,628  
  Average monthly revenue per server   $ 1,322     $ 1,336     $ 1,375     $ 1,405     $ 1,412  
                                         
Profitability                                        
  Income from operations   $ 27,157     $ 39,124     $ 33,887     $ 40,513     $ 50,005  
  Depreciation and amortization   $ 87,683     $ 87,805     $ 90,559     $ 98,307     $ 95,213  
  Share-based compensation expense:                                        
    Cost of revenue   $ 3,877     $ 3,791     $ 4,127     $ 4,175     $ 4,353  
    Research and development   $ 2,521     $ 2,780     $ 3,293     $ 3,399     $ 3,109  
    Sales and marketing   $ 1,766     $ 2,091     $ 2,062     $ 2,637     $ 2,783  
    General and administrative   $ 9,024     $ 4,070     $ 7,783     $ 9,631     $ 9,921  
      Total share-based compensation expense   $ 17,188     $ 12,732     $ 17,265     $ 19,842     $ 20,166  
        Adjusted EBITDA (2)   $ 132,028     $ 139,661     $ 141,711     $ 158,662     $ 165,384  
                                         
        Adjusted EBITDA margin     32.4 %     33.2 %     32.1 %     34.5 %     35.0 %
        Operating income margin     6.7 %     9.3 %     7.7 %     8.8 %     10.6 %
                                         
    Income from operations   $ 27,157     $ 39,124     $ 33,887     $ 40,513     $ 50,005  
    Effective tax rate     22.7 %     34.6 %     33.0 %     32.0 %     25.1 %
        Net operating profit after tax (NOPAT) (2)   $ 20,992     $ 25,587     $ 22,704     $ 27,549     $ 37,454  
        NOPAT margin     5.1 %     6.1 %     5.1 %     6.0 %     7.9 %
                                         
Capital efficiency and returns                                        
  Interest bearing debt   $ 64,918     $ 53,326     $ 41,747     $ 31,472     $ 49,039  
  Stockholders' equity   $ 1,055,412     $ 1,100,012     $ 1,171,197     $ 1,223,772     $ 1,073,794  
  Less: Excess cash   $ (210,761 )   $ (263,309 )   $ (287,411 )   $ (294,307 )   $ (156,814 )
    Capital base   $ 909,569     $ 890,029     $ 925,533     $ 960,937     $ 966,019  
    Average capital base   $ 873,749     $ 899,799     $ 907,781     $ 943,235     $ 963,478  
      Capital turnover (annualized)     1.87       1.87       1.94       1.95       1.96  
                                         
      Return on capital (annualized) (2)     9.6 %     11.4 %     10.0 %     11.7 %     15.5 %
                                         
Capital expenditures                            
  Cash purchases of property and equipment   $ 126,723     $ 84,953   $ 114,044     $ 124,129     $ 107,209  
  Non-cash purchases of property and equipment (3)   $ (4,116 )   $ 15,741   $ (1,651 )   $ (6,706 )   $ (2,580 )
    Total capital expenditures   $ 122,607     $ 100,694   $ 112,393     $ 117,423     $ 104,629  
                                       
  Customer gear   $ 65,291     $ 60,688   $ 64,767     $ 78,677     $ 72,488  
  Data center build outs   $ 22,524     $ 10,963   $ 13,767     $ 14,825     $ 11,079  
  Office build outs   $ 14,860     $ 9,212   $ 6,857     $ 3,464     $ 1,633  
  Capitalized software and other projects   $ 19,932     $ 19,831   $ 27,002     $ 20,457     $ 19,429  
    Total capital expenditures   $ 122,607     $ 100,694   $ 112,393     $ 117,423     $ 104,629  
                                       
Infrastructure capacity and utilization                                      
  Megawatts under contract at period end     60.0       58.1     58.1       58.1       58.1  
  Megawatts available for use at period end     46.9       45.3     45.4       45.4       49.7  
  Megawatts utilized at period end     27.4       28.1     29.0       29.9       30.5  
  Annualized net revenue per average Megawatt of power utilized   $ 60,015     $ 60,691   $ 61,802     $ 62,448     $ 62,572  
                                       
(1) Due to rounding, totals may not equal the sum of the line items in the table above.
(2) See discussion and reconciliation of our Non-GAAP financial measures to the most comparable GAAP measures.
(3) Non-cash purchases of property and equipment represents changes in amounts accrued for purchases under vendor financing and other deferred payment arrangements.
   
   
Key Metrics - Year to Date
(Unaudited)
 
   
    Year Ended December 31,  
(Dollar amounts in thousands, except average monthly revenue per server)   2013     2014  
Growth                
  Dedicated cloud, net revenue   $ 1,119,636     $ 1,254,666  
  Public cloud, net revenue   $ 415,150     $ 539,691  
    Net revenue   $ 1,534,786     $ 1,794,357  
    Revenue growth (year over year)     17.2 %     16.9 %
                 
  Net upgrades (monthly average)     1.3 %     1.3 %
  Churn (monthly average)     -0.8 %     -0.6 %
    Growth in installed base (monthly average) (1)     0.5 %     0.7 %
                 
  Number of employees (Rackers) at period end     5,651       5,936  
  Number of servers deployed at period end     103,886       112,628  
  Average monthly revenue per server   $ 1,307     $ 1,382  
                 
Profitability                
  Income from operations   $ 133,136     $ 163,529  
  Depreciation and amortization   $ 313,007     $ 371,884  
  Share-based compensation expense:                
    Cost of revenue   $ 12,584     $ 16,446  
    Research and development   $ 8,168     $ 12,581  
    Sales and marketing   $ 7,317     $ 9,573  
    General and administrative   $ 31,576     $ 31,405  
      Total share-based compensation expense   $ 59,645     $ 70,005  
        Adjusted EBITDA (2)   $ 505,788     $ 605,418  
                 
        Adjusted EBITDA margin     33.0 %     33.7 %
        Operating income margin     8.7 %     9.1 %
                 
   Income from operations   $ 133,136     $ 163,529  
   Effective tax rate     33.7 %     30.7 %
        Net operating profit after tax (NOPAT) (2)   $ 88,269     $ 113,326  
        NOPAT margin     5.8 %     6.3 %
                 
Capital efficiency and returns                
  Interest bearing debt   $ 64,918     $ 49,039  
  Stockholders' equity   $ 1,055,412     $ 1,073,794  
  Less: Excess cash   $ (210,761 )   $ (156,814 )
    Capital base   $ 909,569     $ 966,019  
    Average capital base   $ 804,173     $ 930,417  
      Capital turnover     1.91       1.93  
                 
      Return on capital (2)     11.0 %     12.2 %
                 
Capital expenditures                
  Cash purchases of property and equipment   $ 452,596     $ 430,335  
  Non-cash purchases of property and equipment (3)   $ 19,493     $ 4,804  
    Total capital expenditures   $ 472,089     $ 435,139  
                 
  Customer gear   $ 297,787     $ 276,620  
  Data center build outs   $ 58,278     $ 50,634  
  Office build outs   $ 31,103     $ 21,166  
  Capitalized software and other projects   $ 84,921     $ 86,719  
    Total capital expenditures   $ 472,089     $ 435,139  
                 
Infrastructure capacity and utilization                
  Megawatts under contract at period end     60.0       58.1  
  Megawatts available for use at period end     46.9       49.7  
  Megawatts utilized at period end     27.4       30.5  
  Net revenue per average Megawatt of power utilized   $ 59,442     $ 61,917  
   
(1) Due to rounding, totals may not equal the sum of the line items in the table above.
(2) See discussion and reconciliation of our Non-GAAP financial measures to the most comparable GAAP measures.
(3) Non-cash purchases of property and equipment represents changes in amounts accrued for purchases under vendor financing and other deferred payment arrangements.
   
   

Consolidated Quarterly Statements of Income
(Unaudited)

       
       
    Three Months Ended  
(In thousands)   December 31,
 2013
    March 31,
 2014
    June 30,
 2014
    September 30,
 2014
    December 31,
 2014
 
Net revenue   $ 408,103     $ 421,047     $ 441,112     $ 459,776     $ 472,422  
Costs and expenses:                                        
  Cost of revenue     133,821       140,417       145,051       142,954       153,912  
  Research and development     24,849       25,192       29,711       30,718       31,385  
  Sales and marketing     55,465       57,359       60,480       60,582       59,127  
  General and administrative     79,128       71,150       81,424       86,702       82,780  
  Depreciation and amortization     87,683       87,805       90,559       98,307       95,213  
    Total costs and expenses     380,946       381,923       407,225       419,263       422,417  
      Income from operations     27,157       39,124       33,887       40,513       50,005  
Other income (expense):                                        
  Interest expense     (656 )     (495 )     (529 )     (445 )     (444 )
  Interest and other income (expense)     405       265       171       (2,191 )     (257 )
    Total other income (expense)     (251 )     (230 )     (358 )     (2,636 )     (701 )
      Income before income taxes     26,906       38,894       33,529       37,877       49,304  
Income taxes     6,108       13,448       11,078       12,137       12,388  
      Net income   $ 20,798     $ 25,446     $ 22,451     $ 25,740     $ 36,916  
                                         
    Three Months Ended  
(Percent of net revenue)   December 31,
 2013
    March 31,
 2014
    June 30,
 2014
    September 30,
 2014
    December 31,
 2014
 
Net revenue     100.0 %     100.0 %     100.0 %     100.0 %     100.0 %
Costs and expenses:                                        
  Cost of revenue     32.8 %     33.3 %     32.9 %     31.1 %     32.6 %
  Research and development     6.1 %     6.0 %     6.7 %     6.7 %     6.6 %
  Sales and marketing     13.6 %     13.6 %     13.7 %     13.2 %     12.5 %
  General and administrative     19.4 %     16.9 %     18.5 %     18.9 %     17.5 %
  Depreciation and amortization     21.5 %     20.9 %     20.5 %     21.4 %     20.2 %
    Total costs and expenses     93.3 %     90.7 %     92.3 %     91.2 %     89.4 %
      Income from operations     6.7 %     9.3 %     7.7 %     8.8 %     10.6 %
Other income (expense):                                        
  Interest expense     (0.2 )%     (0.1 )%     (0.1 )%     (0.1 )%     (0.1 )%
  Interest and other income (expense)     0.1 %     0.1 %     0.0 %     (0.5 )%     (0.1 )%
    Total other income (expense)     (0.1 )%     (0.1 )%     (0.1 )%     (0.6 )%     (0.1 )%
      Income before income taxes     6.6 %     9.2 %     7.6 %     8.2 %     10.4 %
Income taxes     1.5 %     3.2 %     2.5 %     2.6 %     2.6 %
      Net income     5.1 %     6.0 %     5.1 %     5.6 %     7.8 %
                                         
Due to rounding, totals may not equal the sum of the line items in the table above.  
   

Non-GAAP Financial Measures

Adjusted EBITDA (Non-GAAP financial measure)

We use Adjusted EBITDA as a supplemental measure to review and assess our performance. We define Adjusted EBITDA as net income, plus income taxes, total other (income) expense, depreciation and amortization, and non-cash charges for share-based compensation. 

Adjusted EBITDA is a metric that is used in our industry by the investment community for comparative and valuation purposes. We disclose this metric in order to support and facilitate the dialogue with research analysts and investors.

Note that Adjusted EBITDA is not a measure of financial performance under accounting principles generally accepted in the United States (GAAP) and should not be considered a substitute for operating income, which we consider to be the most directly comparable GAAP measure. Adjusted EBITDA has limitations as an analytical tool, and when assessing our operating performance, you should not consider Adjusted EBITDA in isolation or as a substitute for net income or other consolidated income statement data prepared in accordance with GAAP. Other companies may calculate Adjusted EBITDA differently than we do, limiting its usefulness as a comparative measure.

See our reconciliation of Adjusted EBITDA to net income in the tables below:

       
    Three Months Ended  
(Dollars in thousands)   December 31,
 2013
    March 31,
 2014
    June 30,
 2014
    September 30,
 2014
    December 31,
 2014
 
Net revenue   $ 408,103     $ 421,047     $ 441,112     $ 459,776     $ 472,422  
                                         
Income from operations   $ 27,157     $ 39,124     $ 33,887     $ 40,513     $ 50,005  
                                         
Net income   $ 20,798     $ 25,446     $ 22,451     $ 25,740     $ 36,916  
  Plus: Income taxes     6,108       13,448       11,078       12,137       12,388  
  Plus: Total other (income) expense     251       230       358       2,636       701  
  Plus: Depreciation and amortization     87,683       87,805       90,559       98,307       95,213  
  Plus: Share-based compensation expense     17,188       12,732       17,265       19,842       20,166  
Adjusted EBITDA   $ 132,028     $ 139,661     $ 141,711     $ 158,662     $ 165,384  
                                         
Operating income margin     6.7 %     9.3 %     7.7 %     8.8 %     10.6 %
                                         
Adjusted EBITDA margin     32.4 %     33.2 %     32.1 %     34.5 %     35.0 %
                                         
                                         
       
    Year Ended December 31,  
(Dollars in thousands)   2013     2014  
Net revenue   $ 1,534,786     $ 1,794,357  
                 
Income from operations   $ 133,136     $ 163,529  
                 
Net income   $ 86,737     $ 110,553  
  Plus: Income taxes     44,022       49,051  
  Plus: Total other (income) expense     2,377       3,925  
  Plus: Depreciation and amortization     313,007       371,884  
  Plus: Share-based compensation expense     59,645       70,005  
Adjusted EBITDA   $ 505,788     $ 605,418  
                 
Operating income margin     8.7 %     9.1 %
                 
Adjusted EBITDA margin     33.0 %     33.7 %
                 

Return on Capital (ROC) (Non-GAAP financial measure)

We define Return on Capital (ROC) as follows:

ROC =   Net operating profit after tax (NOPAT)  
    Average capital base  

NOPAT = Income from operations x (1 - effective tax rate)

Average capital base = Average of (interest bearing debt + stockholders' equity - excess cash) = Average of (total assets - excess cash - accounts payable and accrued expenses, accrued compensation and benefits, and income and other taxes payable - deferred revenue - other non-current liabilities, deferred income taxes, deferred rent, and finance lease obligations for assets under construction).

Year-to-date average balances are based on an average calculated using the quarter-end balances at the beginning of the period and all other quarter ending balances included in the period.

We define excess cash as the amount of cash and cash equivalents that exceeds our operating cash requirements, which is calculated as three percent of our annualized net revenue for the three months prior to the period end. We will periodically review the calculation and adjust it to reflect our projected cash requirements for the upcoming year.

We believe that ROC is an important metric for investors in evaluating our company's performance. ROC relates after-tax operating profits with the capital that is placed into service. It is therefore a performance metric that incorporates both the Statement of Income and the Balance Sheet. ROC measures how successfully capital is deployed within a company.

Note that ROC is not a measure of financial performance under GAAP and should not be considered a substitute for return on assets, which we calculate directly from amounts on the Statement of Income and the Balance Sheet. ROC has limitations as an analytical tool, and when assessing our operating performance, you should not consider ROC in isolation or as a substitute for other financial data prepared in accordance with GAAP. Other companies may calculate ROC differently than we do, limiting its usefulness as a comparative measure.

See our reconciliation of the calculation of ROC to the calculation of return on assets in the tables below:

       
    Three Months Ended  
(Dollars in thousands)   December 31, 
2013
    March 31, 
2014
    June 30, 
2014
    September 30, 
2014
    December 31, 
2014
 
Income from operations   $ 27,157     $ 39,124     $ 33,887     $ 40,513     $ 50,005  
Effective tax rate     22.7 %     34.6 %     33.0 %     32.0 %     25.1 %
  Net operating profit after tax (NOPAT)   $ 20,992     $ 25,587     $ 22,704     $ 27,549     $ 37,454  
                                         
  Net income   $ 20,798     $ 25,446     $ 22,451     $ 25,740     $ 36,916  
                                         
Total assets at period end   $ 1,491,797     $ 1,566,949     $ 1,647,975     $ 1,724,542     $ 1,624,284  
  Less: Excess cash     (210,761 )     (263,309 )     (287,411 )     (294,307 )     (156,814 )
  Less: Accounts payable and accrued expenses, accrued compensation and benefits, and income and other taxes payable     (195,894 )     (224,423 )     (231,563 )     (244,397 )     (215,774 )
  Less: Deferred revenue (current and non-current)     (26,530 )     (24,485 )     (23,248 )     (21,437 )     (22,276 )
  Less: Other non-current liabilities, deferred income taxes, deferred rent, and finance lease obligations for assets under construction     (149,043 )     (164,703 )     (180,220 )     (203,464 )     (263,401 )
    Capital base   $ 909,569     $ 890,029     $ 925,533     $ 960,937     $ 966,019  
                                         
    Average total assets   $ 1,471,783     $ 1,529,373     $ 1,607,462     $ 1,686,259     $ 1,674,413  
    Average capital base   $ 873,749     $ 899,799     $ 907,781     $ 943,235     $ 963,478  
                                         
    Return on assets (annualized)     5.7 %     6.7 %     5.6 %     6.1 %     8.8 %
    Return on capital (annualized)     9.6 %     11.4 %     10.0 %     11.7 %     15.5 %
                                         
                                         
       
    Year Ended December 31,  
(Dollars in thousands)   2013     2014  
Income from operations   $ 133,136     $ 163,529  
Effective tax rate     33.7 %     30.7 %
  Net operating profit after tax (NOPAT)   $ 88,269     $ 113,326  
                 
  Net income   $ 86,737     $ 110,553  
                 
Total assets at period end   $ 1,491,797     $ 1,624,284  
  Less: Excess cash     (210,761 )     (156,814 )
  Less: Accounts payable and accrued expenses, accrued compensation and benefits, and income and other taxes payable     (195,894 )     (215,774 )
  Less: Deferred revenue (current and non-current)     (26,530 )     (22,276 )
  Less: Other non-current liabilities, deferred income taxes, deferred rent, and finance lease obligations for assets under construction     (149,043 )     (263,401 )
    Capital base   $ 909,569     $ 966,019  
                 
    Average total assets   $ 1,393,079     $ 1,611,109  
    Average capital base   $ 804,173     $ 930,417  
                 
    Return on assets (Net income/Average total assets)     6.2 %     6.9 %
    Return on capital (NOPAT/Average capital base)     11.0 %     12.2 %
                 

Adjusted Free Cash Flow (Non-GAAP financial measure)

We define Adjusted Free Cash Flow as Adjusted EBITDA plus non-cash deferred rent, less total capital expenditures (including non-cash purchases of property and equipment), cash payments for interest, net, and cash payments for income taxes, net.

We believe that Adjusted Free Cash Flow is a performance metric used by investors to evaluate the strength and performance of a company's ongoing business. Note that Adjusted Free Cash Flow is not a measure of financial performance under GAAP and may not be comparable to similarly titled measures reported by other companies.

See our reconciliation of Adjusted Free Cash Flow to Adjusted EBITDA below, as well as our reconciliation of Adjusted EBITDA to net income provided above.

             
    Three Months Ended     Year Ended  
(In thousands)   December 31, 2013     December 31, 2014     December 31, 2013     December 31, 2014  
Adjusted EBITDA   $ 132,028     $ 165,384     $ 505,788     $ 605,418  
  Non-cash deferred rent     2,279       1,120       11,564       7,417  
  Total capital expenditures     (122,607 )     (104,629 )     (472,089 )     (435,139 )
  Cash payments for interest, net of interest received     (609 )     (331 )     (3,096 )     (1,643 )
  Cash payments for income taxes, net of refunds     (2,575 )     (6,700 )     (14,930 )     (13,518 )
    Adjusted free cash flow   $ 8,516     $ 54,844     $ 27,237     $ 162,535  
                                     

Contacts:

Investor Relations:
Jessica Drought
210-312-4191
ir@rackspace.com

Media Relations:
Brandon Brunson
210-312-1357
brandon.brunson@rackspace.com

Source: Rackspace Hosting