OPEN TEXT CORP - Quarter Report: 2023 September (Form 10-Q)
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
______________________
FORM 10-Q
______________________
| ☒ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | ||||
For the quarterly period ended September 30, 2023
OR
| ☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | ||||
For the transition period from to
Commission file number: 0-27544
______________________________________
OPEN TEXT CORPORATION
(Exact name of Registrant as specified in its charter)
______________________
| Canada | 98-0154400 | ||||
| (State or other jurisdiction of incorporation or organization) | (IRS Employer Identification No.) | ||||
| 275 Frank Tompa Drive, | N2L 0A1 | ||||||||||||||||||||||
| Waterloo, | Ontario | Canada | |||||||||||||||||||||
| (Address of principal executive offices) | (Zip code) | ||||||||||||||||||||||
Registrant's telephone number, including area code: (519) 888-7111
Securities registered pursuant to Section 12(b) of the Act:
Title of each class | Trading Symbol(s) | Name of each exchange on which registered | ||||||
| Common stock without par value | OTEX | NASDAQ Global Select Market | ||||||
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
At October 27, 2023, there were 271,514,728 outstanding Common Shares of the registrant.
1
OPEN TEXT CORPORATION
TABLE OF CONTENTS
| Page No | ||||||||
| Item 1. | ||||||||
Condensed Consolidated Statements of Shareholders' Equity | ||||||||
| Item 2. | ||||||||
| Item 3. | ||||||||
| Item 4. | ||||||||
| Item 1A. | ||||||||
Item 5. | ||||||||
| Item 6. | ||||||||
2
Part I - Financial Information
Item 1. Financial Statements
OPEN TEXT CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands of U.S. dollars, except share data)
| September 30, 2023 | June 30, 2023 | ||||||||||
| ASSETS | (unaudited) | ||||||||||
| Cash and cash equivalents | $ | 919,850 | $ | 1,231,625 | |||||||
Accounts receivable trade, net of allowance for credit losses of $11,501 as of September 30, 2023 and $13,828 as of June 30, 2023 (Note 4) | 676,594 | 682,517 | |||||||||
Contract assets (Note 3) | 78,562 | 71,196 | |||||||||
Income taxes recoverable (Note 15) | 70,179 | 68,161 | |||||||||
Prepaid expenses and other current assets (Note 9) | 199,917 | 221,732 | |||||||||
| Total current assets | 1,945,102 | 2,275,231 | |||||||||
Property and equipment (Note 5) | 361,612 | 356,904 | |||||||||
Operating lease right of use assets (Note 6) | 266,053 | 285,723 | |||||||||
Long-term contract assets (Note 3) | 54,448 | 64,553 | |||||||||
Goodwill (Note 7) | 8,618,765 | 8,662,603 | |||||||||
Acquired intangible assets (Note 8) | 3,888,217 | 4,080,879 | |||||||||
Deferred tax assets (Note 15) | 996,514 | 926,719 | |||||||||
Other assets (Note 9) | 328,972 | 342,318 | |||||||||
Long-term income taxes recoverable (Note 15) | 94,193 | 94,270 | |||||||||
| Total assets | $ | 16,553,876 | $ | 17,089,200 | |||||||
| LIABILITIES AND SHAREHOLDERS’ EQUITY | |||||||||||
| Current liabilities: | |||||||||||
Accounts payable and accrued liabilities (Note 10) | $ | 836,042 | $ | 996,261 | |||||||
Current portion of long-term debt (Note 11) | 145,850 | 320,850 | |||||||||
Operating lease liabilities (Note 6) | 90,418 | 91,425 | |||||||||
Deferred revenues (Note 3) | 1,596,321 | 1,721,781 | |||||||||
Income taxes payable (Note 15) | 153,396 | 89,297 | |||||||||
| Total current liabilities | 2,822,027 | 3,219,614 | |||||||||
| Long-term liabilities: | |||||||||||
Accrued liabilities (Note 10) | 49,333 | 51,961 | |||||||||
Pension liability (Note 12) | 125,616 | 126,312 | |||||||||
Long-term debt (Note 11) | 8,554,569 | 8,562,096 | |||||||||
Long-term operating lease liabilities (Note 6) | 252,629 | 271,579 | |||||||||
Long-term deferred revenues (Note 3) | 197,112 | 217,771 | |||||||||
Long-term income taxes payable (Note 15) | 148,822 | 193,808 | |||||||||
Deferred tax liabilities (Note 15) | 389,510 | 423,955 | |||||||||
| Total long-term liabilities | 9,717,591 | 9,847,482 | |||||||||
| Shareholders’ equity: | |||||||||||
Share capital and additional paid-in capital (Note 13) | |||||||||||
271,227,929 and 270,902,571 Common Shares issued and outstanding at September 30, 2023 and June 30, 2023, respectively; authorized Common Shares: unlimited | 2,216,921 | 2,176,947 | |||||||||
Accumulated other comprehensive income (loss) (Note 20) | (70,025) | (53,559) | |||||||||
| Retained earnings | 2,062,107 | 2,048,984 | |||||||||
Treasury stock, at cost (4,753,281 and 3,536,375 shares at September 30, 2023 and June 30, 2023, respectively) | (196,119) | (151,597) | |||||||||
| Total OpenText shareholders' equity | 4,012,884 | 4,020,775 | |||||||||
| Non-controlling interests | 1,374 | 1,329 | |||||||||
| Total shareholders’ equity | 4,014,258 | 4,022,104 | |||||||||
| Total liabilities and shareholders’ equity | $ | 16,553,876 | $ | 17,089,200 | |||||||
Guarantees and contingencies (Note 14)
Related party transactions (Note 24)
Subsequent events (Note 25)
See accompanying Notes to Condensed Consolidated Financial Statements
3
OPEN TEXT CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands of U.S. dollars, except share and per share data)
(unaudited)
| Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
Revenues (Note 3): | |||||||||||
| Cloud services and subscriptions | $ | 451,014 | $ | 404,651 | |||||||
| Customer support | 697,713 | 317,351 | |||||||||
| License | 173,026 | 62,548 | |||||||||
| Professional service and other | 103,676 | 67,486 | |||||||||
| Total revenues | 1,425,429 | 852,036 | |||||||||
| Cost of revenues: | |||||||||||
| Cloud services and subscriptions | 171,412 | 131,799 | |||||||||
| Customer support | 75,014 | 27,354 | |||||||||
| License | 3,839 | 2,758 | |||||||||
| Professional service and other | 79,922 | 53,800 | |||||||||
Amortization of acquired technology-based intangible assets (Note 8) | 76,824 | 42,637 | |||||||||
| Total cost of revenues | 407,011 | 258,348 | |||||||||
| Gross profit | 1,018,418 | 593,688 | |||||||||
| Operating expenses: | |||||||||||
| Research and development | 234,437 | 110,198 | |||||||||
| Sales and marketing | 271,801 | 167,170 | |||||||||
| General and administrative | 131,211 | 78,074 | |||||||||
| Depreciation | 34,091 | 23,174 | |||||||||
Amortization of acquired customer-based intangible assets (Note 8) | 120,192 | 54,438 | |||||||||
Special charges (recoveries) (Note 18) | 13,794 | 14,281 | |||||||||
| Total operating expenses | 805,526 | 447,335 | |||||||||
Income from operations | 212,892 | 146,353 | |||||||||
Other income (expense), net (Note 22) | 20,170 | (189,231) | |||||||||
| Interest and other related expense, net | (141,764) | (40,382) | |||||||||
Income (loss) before income taxes | 91,298 | (83,260) | |||||||||
Provision for income taxes (Note 15) | 10,352 | 33,625 | |||||||||
Net income (loss) for the period | $ | 80,946 | $ | (116,885) | |||||||
Net (income) attributable to non-controlling interests | (45) | (44) | |||||||||
Net income (loss) attributable to OpenText | $ | 80,901 | $ | (116,929) | |||||||
Earnings (loss) per share—basic attributable to OpenText (Note 23) | $ | 0.30 | $ | (0.43) | |||||||
Earnings (loss) per share—diluted attributable to OpenText (Note 23) | $ | 0.30 | $ | (0.43) | |||||||
| Weighted average number of Common Shares outstanding—basic (in '000's) | 271,178 | 269,804 | |||||||||
| Weighted average number of Common Shares outstanding—diluted (in '000's) | 271,902 | 269,804 | |||||||||
See accompanying Notes to Condensed Consolidated Financial Statements
4
OPEN TEXT CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands of U.S. dollars)
(unaudited)
| Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
Net income (loss) for the period | $ | 80,946 | $ | (116,885) | |||||||
| Other comprehensive income (loss)—net of tax: | |||||||||||
| Net foreign currency translation adjustments | (14,583) | (36,366) | |||||||||
| Unrealized gain (loss) on cash flow hedges: | |||||||||||
Unrealized gain (loss) - net of tax (1) | (1,841) | (3,340) | |||||||||
(Gain) loss reclassified into net income - net of tax (2) | 9 | 588 | |||||||||
| Unrealized gain (loss) on available-for-sale financial assets: | |||||||||||
Unrealized gain (loss) - net of tax (3) | (221) | — | |||||||||
| Actuarial gain (loss) relating to defined benefit pension plans: | |||||||||||
Actuarial gain (loss) - net of tax (4) | (19) | 4,164 | |||||||||
Amortization of actuarial (gain) loss into net income - net of tax (5) | 189 | 37 | |||||||||
Total other comprehensive loss net, for the period | (16,466) | (34,917) | |||||||||
Total comprehensive income (loss) | 64,480 | (151,802) | |||||||||
Comprehensive income attributable to non-controlling interests | (45) | (44) | |||||||||
Total comprehensive income (loss) attributable to OpenText | $ | 64,435 | $ | (151,846) | |||||||
______________________________
(1)Net of tax expense (recovery) of ($664) and $(1,206) for the three months ended September 30, 2023 and 2022, respectively.
(2)Net of tax expense (recovery) of $3 and $212 for the three months ended September 30, 2023 and 2022, respectively.
(3)Net of tax expense (recovery) of $59 and $— for the three months ended September 30, 2023 and 2022, respectively.
(4)Net of tax expense (recovery) of $19 and $1,104 for the three months ended September 30, 2023 and 2022, respectively.
(5)Net of tax expense (recovery) of $75 and $26 for the three months ended September 30, 2023 and 2022, respectively.
See accompanying Notes to Condensed Consolidated Financial Statements
5
OPEN TEXT CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(In thousands of U.S. dollars and shares)
(unaudited)
| Three Months Ended September 30, 2023 | |||||||||||||||||||||||||||||||||||||||||||||||
| Common Shares and Additional Paid in Capital | Treasury Stock | Retained Earnings | Accumulated Other Comprehensive Income | Non-Controlling Interests | Total | ||||||||||||||||||||||||||||||||||||||||||
| Shares | Amount | Shares | Amount | ||||||||||||||||||||||||||||||||||||||||||||
Balance as of June 30, 2023 | 270,903 | $ | 2,176,947 | (3,536) | $ | (151,597) | $ | 2,048,984 | $ | (53,559) | $ | 1,329 | $ | 4,022,104 | |||||||||||||||||||||||||||||||||
| Issuance of Common Shares | |||||||||||||||||||||||||||||||||||||||||||||||
| Under employee stock option plans | 85 | 2,892 | — | — | — | — | — | 2,892 | |||||||||||||||||||||||||||||||||||||||
| Under employee stock purchase plans | 240 | 8,641 | — | — | — | — | — | 8,641 | |||||||||||||||||||||||||||||||||||||||
| Share-based compensation | — | 37,004 | — | — | — | — | — | 37,004 | |||||||||||||||||||||||||||||||||||||||
| Purchase of treasury stock | — | — | (1,400) | (53,085) | — | — | — | (53,085) | |||||||||||||||||||||||||||||||||||||||
| Issuance of treasury stock | — | (8,563) | 183 | 8,563 | — | — | — | — | |||||||||||||||||||||||||||||||||||||||
Dividends declared ($0.25 per Common Share) | — | — | — | — | (67,778) | — | — | (67,778) | |||||||||||||||||||||||||||||||||||||||
| Other comprehensive income (loss) - net | — | — | — | — | — | (16,466) | — | (16,466) | |||||||||||||||||||||||||||||||||||||||
| Net income (loss) for the period | — | — | — | — | 80,901 | — | 45 | 80,946 | |||||||||||||||||||||||||||||||||||||||
Balance as of September 30, 2023 | 271,228 | $ | 2,216,921 | (4,753) | $ | (196,119) | $ | 2,062,107 | $ | (70,025) | $ | 1,374 | $ | 4,014,258 | |||||||||||||||||||||||||||||||||
| Three Months Ended September 30, 2022 | |||||||||||||||||||||||||||||||||||||||||||||||
| Common Shares and Additional Paid in Capital | Treasury Stock | Retained Earnings | Accumulated Other Comprehensive Income | Non-Controlling Interests | Total | ||||||||||||||||||||||||||||||||||||||||||
| Shares | Amount | Shares | Amount | ||||||||||||||||||||||||||||||||||||||||||||
Balance as of June 30, 2022 | 269,523 | $ | 2,038,674 | (3,706) | $ | (159,966) | $ | 2,160,069 | $ | (7,659) | $ | 1,142 | $ | 4,032,260 | |||||||||||||||||||||||||||||||||
| Issuance of Common Shares | |||||||||||||||||||||||||||||||||||||||||||||||
| Under employee stock option plans | 72 | 1,994 | — | — | — | — | — | 1,994 | |||||||||||||||||||||||||||||||||||||||
| Under employee stock purchase plans | 286 | 9,179 | — | — | — | — | — | 9,179 | |||||||||||||||||||||||||||||||||||||||
| Share-based compensation | — | 23,208 | — | — | — | — | — | 23,208 | |||||||||||||||||||||||||||||||||||||||
| Issuance of treasury stock | — | (5,174) | 120 | 5,174 | — | — | — | — | |||||||||||||||||||||||||||||||||||||||
Dividends declared ($0.24299 per Common Share) | — | — | — | — | (64,698) | — | — | (64,698) | |||||||||||||||||||||||||||||||||||||||
| Other comprehensive income (loss) - net | — | — | — | — | — | (34,917) | — | (34,917) | |||||||||||||||||||||||||||||||||||||||
| Net income (loss) for the period | — | — | — | — | (116,929) | — | 44 | (116,885) | |||||||||||||||||||||||||||||||||||||||
Balance as of September 30, 2022 | 269,881 | $ | 2,067,881 | (3,586) | $ | (154,792) | $ | 1,978,442 | $ | (42,576) | $ | 1,186 | $ | 3,850,141 | |||||||||||||||||||||||||||||||||
See accompanying Notes to Condensed Consolidated Financial Statements
6
OPEN TEXT CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands of U.S. dollars)
(unaudited)
Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
| Cash flows from operating activities: | |||||||||||
Net income (loss) for the period | $ | 80,946 | $ | (116,885) | |||||||
| Adjustments to reconcile net income to net cash provided by operating activities: | |||||||||||
| Depreciation and amortization of intangible assets | 231,107 | 120,249 | |||||||||
| Share-based compensation expense | 37,095 | 23,208 | |||||||||
| Pension expense | 3,171 | 1,387 | |||||||||
Amortization of debt discount and issuance costs | 5,496 | 1,480 | |||||||||
| Write-off of right of use assets | 4,715 | 2,827 | |||||||||
| Loss on sale and write down of property and equipment | 458 | — | |||||||||
| Deferred taxes | (88,630) | (20,667) | |||||||||
Share in net loss of equity investees | 9,696 | 6,534 | |||||||||
| Changes in financial instruments | (17,895) | 181,461 | |||||||||
| Changes in operating assets and liabilities: | |||||||||||
| Accounts receivable | 31,304 | 59,494 | |||||||||
| Contract assets | (22,566) | (9,054) | |||||||||
| Prepaid expenses and other current assets | 19,326 | (2,934) | |||||||||
| Income taxes | 29,597 | 15,834 | |||||||||
| Accounts payable and accrued liabilities | (124,214) | (27,179) | |||||||||
| Deferred revenue | (150,476) | (53,779) | |||||||||
| Other assets | 4,104 | (47,749) | |||||||||
| Operating lease assets and liabilities, net | (6,113) | (2,268) | |||||||||
Net cash provided by operating activities | 47,121 | 131,959 | |||||||||
| Cash flows from investing activities: | |||||||||||
| Additions of property and equipment | (37,539) | (36,324) | |||||||||
Micro Focus acquisition | (9,272) | — | |||||||||
Proceeds from net investment hedge derivative contracts | 1,966 | — | |||||||||
| Other investing activities | (5,554) | — | |||||||||
Net cash used in investing activities | (50,399) | (36,324) | |||||||||
| Cash flows from financing activities: | |||||||||||
Proceeds from issuance of Common Shares from exercise of stock options and ESPP | 11,453 | 10,037 | |||||||||
| Repayment of long-term debt and Revolver | (186,463) | (2,500) | |||||||||
| Debt issuance costs | (1,961) | — | |||||||||
| Purchase of treasury stock | (53,085) | — | |||||||||
| Payments of dividends to shareholders | (66,965) | (64,698) | |||||||||
Net cash used in financing activities | (297,021) | (57,161) | |||||||||
Foreign exchange loss on cash held in foreign currencies | (11,503) | (28,102) | |||||||||
Increase (decrease) in cash, cash equivalents and restricted cash during the period | (311,802) | 10,372 | |||||||||
| Cash, cash equivalents and restricted cash at beginning of the period | 1,233,952 | 1,695,911 | |||||||||
| Cash, cash equivalents and restricted cash at end of the period | $ | 922,150 | $ | 1,706,283 | |||||||
7
OPEN TEXT CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands of U.S. dollars)
(unaudited)
| Reconciliation of cash, cash equivalents and restricted cash: | September 30, 2023 | September 30, 2022 | |||||||||
| Cash and cash equivalents | $ | 919,850 | $ | 1,704,385 | |||||||
Restricted cash (1) | 2,300 | 1,898 | |||||||||
| Total cash, cash equivalents and restricted cash | $ | 922,150 | $ | 1,706,283 | |||||||
_________________________________
(1)Restricted cash is classified under the Prepaid expenses and other current assets and Other assets line items on the Condensed Consolidated Balance Sheets (Note 9).
Supplemental cash flow disclosures (Note 6 and Note 21)
See accompanying Notes to Condensed Consolidated Financial Statements
8
OPEN TEXT CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the Three Months Ended September 30, 2023
(Tabular amounts in thousands of U.S. dollars, except share and per share data)
(unaudited)
NOTE 1—BASIS OF PRESENTATION
The accompanying Condensed Consolidated Financial Statements include the accounts of Open Text Corporation and our subsidiaries, collectively referred to as “OpenText” or the “Company.” We wholly own all of our subsidiaries with the exception of Open Text South Africa Proprietary Ltd. (OT South Africa), which as of September 30, 2023, was 70% owned by OpenText. All intercompany balances and transactions have been eliminated.
The following Fiscal Year terms are used throughout this Quarterly Report on Form 10-Q:
| Fiscal Year | Beginning Date | Ending Date | ||||||||||||
Fiscal 2025 | July 1, 2024 | June 30, 2025 | ||||||||||||
Fiscal 2024 | July 1, 2023 | June 30, 2024 | ||||||||||||
Fiscal 2023 | July 1, 2022 | June 30, 2023 | ||||||||||||
Fiscal 2022 | July 1, 2021 | June 30, 2022 | ||||||||||||
Fiscal 2021 | July 1, 2020 | June 30, 2021 | ||||||||||||
Fiscal 2020 | July 1, 2019 | June 30, 2020 | ||||||||||||
Fiscal 2019 | July 1, 2018 | June 30, 2019 | ||||||||||||
Fiscal 2018 | July 1, 2017 | June 30, 2018 | ||||||||||||
Fiscal 2017 | July 1, 2016 | June 30, 2017 | ||||||||||||
Fiscal 2016 | July 1, 2015 | June 30, 2016 | ||||||||||||
Fiscal 2015 | July 1, 2014 | June 30, 2015 | ||||||||||||
Fiscal 2014 | July 1, 2013 | June 30, 2014 | ||||||||||||
Fiscal 2013 | July 1, 2012 | June 30, 2013 | ||||||||||||
Fiscal 2012 | July 1, 2011 | June 30, 2012 | ||||||||||||
These Condensed Consolidated Financial Statements are expressed in U.S. dollars and are prepared in accordance with United States generally accepted accounting principles (U.S. GAAP). The information furnished reflects all adjustments necessary for a fair presentation of the results for the periods presented and includes the consolidated financial results of Micro Focus International Limited, formerly Micro Focus International plc, and its subsidiaries (Micro Focus), with effect from February 1, 2023 (see below and Note 19 “Acquisitions”).
Use of estimates
The preparation of financial statements in conformity with U.S. GAAP requires us to make certain estimates, judgments and assumptions that affect the amounts reported in the Condensed Consolidated Financial Statements. These estimates, judgments and assumptions are evaluated on an ongoing basis. We base our estimates on historical experience and on various other assumptions that we believe are reasonable at that time, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from those estimates. In particular, key estimates, judgments and assumptions include those related to: (i) revenue recognition, (ii) accounting for income taxes, (iii) testing of goodwill for impairment, (iv) the valuation of acquired intangible assets, (v) the valuation of long-lived assets, (vi) the recognition of contingencies, (vii) restructuring accruals, (viii) acquisition accruals and pre-acquisition contingencies, (ix) the valuation of stock options granted and obligations related to share-based payments, including the valuation of our long-term incentive plans, (x) the valuation of pension obligations and pension assets, (xi) the valuation of available-for-sale investments and (xii) the valuation of derivative instruments.
9
Acquisition of Micro Focus
On January 31, 2023, we acquired all of the issued and to be issued share capital of Micro Focus (the Micro Focus Acquisition) for a total purchase price of $6.2 billion, inclusive of Micro Focus’ cash and repayment of Micro Focus’ outstanding indebtedness, subject to final adjustments. The results of operations of Micro Focus have been consolidated with those of OpenText with effect from February 1, 2023. See Note 19 “Acquisitions” to our Condensed Consolidated Financial Statements for more details.
NOTE 2—RECENT ACCOUNTING PRONOUNCEMENTS
Accounting Pronouncements Adopted in Fiscal 2024
During the three months ended September 30, 2023, we have adopted the following Accounting Standards Updates (ASU):
Supplier Financing Program Obligations
In September 2022, the Financial Accounting Standards Board (FASB) issued ASU 2022-04 “Liabilities-Supplier Finance Programs (Subtopic 405-50): Disclosure of Supplier Finance Program Obligations.” This standard requires companies that participate in supplier finance programs in connection with the procurement of goods or services to disclose quantitative and qualitative information about the programs. We adopted this ASU as of July 1, 2023 which did not have a material impact on our Condensed Consolidated Financial Statements and related disclosures, as we had no material supplier finance program obligations as of September 30, 2023.
10
NOTE 3—REVENUES
Disaggregation of Revenue
We have four revenue streams: cloud services and subscriptions, customer support, license, and professional service and other. The following tables disaggregate our revenue by significant geographic area, based on the location of our direct end customer, by type of performance obligation and timing of revenue recognition for the periods indicated:
| Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
| Total Revenues by Geography: | |||||||||||
Americas (1) | $ | 845,227 | $ | 557,788 | |||||||
EMEA (2) | 445,440 | 228,353 | |||||||||
Asia Pacific (3) | 134,762 | 65,895 | |||||||||
| Total revenues | $ | 1,425,429 | $ | 852,036 | |||||||
| Total Revenues by Type of Performance Obligation: | |||||||||||
Recurring revenues (4) | |||||||||||
Cloud services and subscriptions revenue | $ | 451,014 | $ | 404,651 | |||||||
Customer support revenue | 697,713 | 317,351 | |||||||||
Total recurring revenues | $ | 1,148,727 | $ | 722,002 | |||||||
| License revenue (perpetual, term and subscriptions) | 173,026 | 62,548 | |||||||||
| Professional service and other revenue | 103,676 | 67,486 | |||||||||
| Total revenues | $ | 1,425,429 | $ | 852,036 | |||||||
| Total Revenues by Timing of Revenue Recognition: | |||||||||||
| Point in time | $ | 173,026 | $ | 62,548 | |||||||
| Over time (including professional service and other revenue) | 1,252,403 | 789,488 | |||||||||
| Total revenues | $ | 1,425,429 | $ | 852,036 | |||||||
___________________________
(1)Americas consists of countries in North, Central and South America.
(2)EMEA consists of countries in Europe, the Middle East and Africa.
(3)Asia Pacific primarily consists of Japan, Australia, China, Korea, Philippines, Singapore, India and New Zealand.
(4)Recurring revenue is defined as the sum of Cloud services and subscriptions revenue and Customer support revenue.
Contract Balances
A contract asset, net of allowance for credit losses, will be recorded if we have recognized revenue but do not have an unconditional right to the related consideration from the customer. For example, this will be the case if implementation services offered in a cloud arrangement are identified as a separate performance obligation and are provided to a customer prior to us being able to bill the customer. In addition, a contract asset may arise in relation to subscription licenses if the license revenue that is recognized upfront exceeds the amount that we are able to invoice the customer at that time. Contract assets are reclassified to accounts receivable when the rights become unconditional.
The balance for our contract assets and contract liabilities (i.e. deferred revenues) for the periods indicated below were as follows:
As of September 30, 2023 | As of June 30, 2023 | ||||||||||
| Short-term contract assets | $ | 78,562 | $ | 71,196 | |||||||
Long-term contract assets | $ | 54,448 | $ | 64,553 | |||||||
| Short-term deferred revenues | $ | 1,596,321 | $ | 1,721,781 | |||||||
| Long-term deferred revenues | $ | 197,112 | $ | 217,771 | |||||||
The difference in the opening and closing balances of our contract assets and deferred revenues primarily results from the timing difference between our performance and the customer’s payments. We fulfill our obligations under a contract with a
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customer by transferring products and services in exchange for consideration from the customer. During the three months ended September 30, 2023, we reclassified $25.1 million (three months ended September 30, 2022—$8.9 million) of contract assets to receivables as a result of the right to the transaction consideration becoming unconditional. During the three months ended September 30, 2023 and 2022, respectively, there was no significant impairment loss recognized related to contract assets.
We recognize deferred revenue when we have received consideration or an amount of consideration is due from the customer for future obligations to transfer products or services. Our deferred revenues primarily relate to cloud services and customer support agreements which have been paid for by customers prior to the performance of those services. The amount of revenue that was recognized during the three months ended September 30, 2023 that was included in the deferred revenue balances at June 30, 2023 was $739 million (three months ended September 30, 2022—$373 million).
Incremental Costs of Obtaining a Contract with a Customer
Incremental costs of obtaining a contract include only those costs that we incur to obtain a contract that we would not have incurred if the contract had not been obtained, such as sales commissions. The following table summarizes the changes in total capitalized costs to obtain a contract, since June 30, 2023:
Capitalized costs to obtain a contract as of June 30, 2023 | $ | 97,207 | |||
| New capitalized costs incurred | 11,719 | ||||
| Amortization of capitalized costs | (9,955) | ||||
| Impact of foreign exchange rate changes | (742) | ||||
Capitalized costs to obtain a contract as of September 30, 2023 | $ | 98,229 | |||
During the three months ended September 30, 2023 and 2022, respectively, there was no significant impairment loss recognized related to capitalized costs to obtain a contract. Refer to Note 9 “Prepaid Expenses and Other Assets” for additional information on incremental costs of obtaining a contract.
Transaction Price Allocated to the Remaining Performance Obligations
As of September 30, 2023, approximately $2.5 billion of revenue is expected to be recognized from remaining performance obligations on existing contracts. We expect to recognize approximately 47% of this amount over the next 12 months and the remaining balance substantially over the next three years thereafter. We apply the practical expedient and do not disclose performance obligations that have original expected durations of one year or less.
NOTE 4—ALLOWANCE FOR CREDIT LOSSES
The following illustrates the activity in our allowance for credit losses on accounts receivable, since June 30, 2023:
Balance as of June 30, 2023 | $ | 13,828 | |||
| Credit loss expense (recovery) | 1,782 | ||||
| Write-off / adjustments | (4,109) | ||||
Balance as of September 30, 2023 | $ | 11,501 | |||
Included in accounts receivable are unbilled receivables in the amount of $63.9 million as of September 30, 2023 (June 30, 2023—$66.5 million).
As of September 30, 2023, we have an allowance for credit losses of $0.2 million for contract assets (June 30, 2023—$0.3 million). For additional information on contract assets please see Note 3 “Revenues.”
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NOTE 5—PROPERTY AND EQUIPMENT
| As of September 30, 2023 | |||||||||||||||||
| Cost | Accumulated Depreciation | Net | |||||||||||||||
| Computer hardware | $ | 398,358 | $ | (260,277) | $ | 138,081 | |||||||||||
| Computer software | 188,038 | (142,234) | 45,804 | ||||||||||||||
| Capitalized software development costs | 224,334 | (129,896) | 94,438 | ||||||||||||||
| Leasehold improvements | 118,370 | (92,065) | 26,305 | ||||||||||||||
| Land and buildings | 61,877 | (18,403) | 43,474 | ||||||||||||||
| Furniture, equipment and other | 54,738 | (41,228) | 13,510 | ||||||||||||||
| Total | $ | 1,045,715 | $ | (684,103) | $ | 361,612 | |||||||||||
| As of June 30, 2023 | |||||||||||||||||
| Cost | Accumulated Depreciation | Net | |||||||||||||||
| Computer hardware | $ | 386,400 | $ | (254,131) | $ | 132,269 | |||||||||||
| Computer software | 178,899 | (135,123) | 43,776 | ||||||||||||||
| Capitalized software development costs | 216,762 | (122,730) | 94,032 | ||||||||||||||
| Leasehold improvements | 123,607 | (94,721) | 28,886 | ||||||||||||||
| Land and buildings | 62,041 | (18,020) | 44,021 | ||||||||||||||
| Furniture, equipment and other | 55,741 | $ | (41,821) | 13,920 | |||||||||||||
| Total | $ | 1,023,450 | $ | (666,546) | $ | 356,904 | |||||||||||
NOTE 6—LEASES
We enter into operating leases, both domestically and internationally, for certain facilities, automobiles, data centers and equipment for use in the ordinary course of business. The duration of the majority of these leases generally ranges from 1 to 10 years, some of which include options to extend for an additional 3 to 5 years after the initial term. Additionally, the land upon which our headquarters in Waterloo, Ontario, Canada is located is leased from the University of Waterloo for a period of 49 years beginning in December 2005, with an option to renew for an additional term of 49 years. We also have finance lease liabilities comprised of equipment lease arrangements with an average duration of 4 to 5 years all of which are currently being sublet. Leases with an initial term of 12 months or less are not recorded on our Condensed Consolidated Balance Sheets.
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The following illustrates the Condensed Consolidated Balance Sheets information related to leases:
| As of September 30, 2023 | As of June 30, 2023 | |||||||||||||
| Operating Leases | Balance Sheet Location | |||||||||||||
| Operating lease right of use assets | Operating lease right of use assets | $ | 266,053 | $ | 285,723 | |||||||||
| Operating lease liabilities (current) | Operating lease liabilities | $ | 90,418 | $ | 91,425 | |||||||||
| Operating lease liabilities (noncurrent) | Long-term operating lease liabilities | 252,629 | 271,579 | |||||||||||
| Total operating lease liabilities | $ | 343,047 | $ | 363,004 | ||||||||||
| Finance Leases | ||||||||||||||
| Finance lease receivables (current) | Prepaid expenses and other current assets | $ | 5,492 | $ | 6,362 | |||||||||
| Finance lease receivables (noncurrent) | Other assets | 4,443 | 5,515 | |||||||||||
| Total finance lease receivables | $ | 9,935 | $ | 11,877 | ||||||||||
| Finance lease liabilities (current) | Accounts payable and accrued liabilities | $ | 4,992 | $ | 5,281 | |||||||||
| Finance lease liabilities (noncurrent) | Accrued liabilities | 4,437 | 5,500 | |||||||||||
| Total finance lease liabilities | $ | 9,429 | $ | 10,781 | ||||||||||
The weighted average remaining lease term and discount rate for the periods indicated below were as follows:
| As of September 30, 2023 | As of June 30, 2023 | ||||||||||
| Weighted-average remaining lease term | |||||||||||
| Operating leases | 5.49 years | 5.62 years | |||||||||
| Finance leases | 2.22 years | 2.40 years | |||||||||
| Weighted-average discount rate | |||||||||||
| Operating leases | 4.7 | % | 4.66 | % | |||||||
| Finance leases | 5.58 | % | 5.60 | % | |||||||
Lease Costs and Other Information
The following illustrates the various components of lease costs for the period indicated:
| Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
| Operating lease cost | $ | 23,740 | $ | 14,311 | |||||||
| Short-term lease cost | 1,155 | 387 | |||||||||
| Variable lease cost | 1,135 | 579 | |||||||||
| Sublease income | (3,338) | (2,912) | |||||||||
| Total lease cost | $ | 22,692 | $ | 12,365 | |||||||
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Supplemental Cash Flow Information
The following table presents supplemental information relating to cash flows arising from lease transactions. Cash payments made for variable lease costs and short-term leases are not included in the measurement of lease liabilities, and, as such, are excluded from the amounts below:
| Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
| Cash paid for amounts included in the measurement of lease liabilities: | |||||||||||
| Operating leases | $ | 27,699 | $ | 17,740 | |||||||
| Finance leases | $ | 1,486 | $ | — | |||||||
| Right of use assets obtained in exchange for new lease liabilities: | |||||||||||
Operating leases | $ | 7,045 | $ | 22,467 | |||||||
Maturity of Lease Liabilities
The following table presents the future minimum lease payments under our leases liabilities as of September 30, 2023:
| Fiscal years ending June 30, | Operating Leases | Finance Leases | |||||||||
2024 (nine months ended) | $ | 79,726 | $ | 4,232 | |||||||
2025 | 84,518 | 3,363 | |||||||||
2026 | 62,278 | 1,937 | |||||||||
2027 | 50,684 | 459 | |||||||||
2028 | 39,505 | — | |||||||||
| Thereafter | 70,926 | — | |||||||||
| Total lease payments | $ | 387,637 | $ | 9,991 | |||||||
| Less: Imputed interest | (44,590) | (562) | |||||||||
| Total | $ | 343,047 | $ | 9,429 | |||||||
Operating lease maturity amounts included in the table above do not include sublease income expected to be received under our various sublease agreements with third parties. Under the agreements initiated with third parties, we expect to receive sublease income of $9.4 million over the remainder of Fiscal 2024 and $34.0 million thereafter.
NOTE 7—GOODWILL
Goodwill is recorded when the consideration paid for an acquisition of a business exceeds the fair value of identifiable net tangible and intangible assets. The following table summarizes the changes in goodwill since June 30, 2023:
Balance as of June 30, 2023 | $ | 8,662,603 | |||
Other acquisition (Note 19) | 1,250 | ||||
Acquisition of Micro Focus (Note 19) (1) | (33,889) | ||||
| Impact of foreign exchange rate changes | (11,199) | ||||
Balance as of September 30, 2023 | $ | 8,618,765 | |||
______________________
(1)Adjustments relating to open measurement period.
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NOTE 8—ACQUIRED INTANGIBLE ASSETS
| As of September 30, 2023 | |||||||||||||||||
| Cost | Accumulated Amortization | Net | |||||||||||||||
| Technology assets | $ | 1,815,285 | $ | (461,716) | $ | 1,353,569 | |||||||||||
| Customer assets | 3,694,061 | (1,159,413) | 2,534,648 | ||||||||||||||
| Total | $ | 5,509,346 | $ | (1,621,129) | $ | 3,888,217 | |||||||||||
| As of June 30, 2023 | |||||||||||||||||
| Cost | Accumulated Amortization | Net | |||||||||||||||
| Technology assets | $ | 1,815,260 | $ | (385,868) | $ | 1,429,392 | |||||||||||
| Customer assets | 3,691,252 | (1,039,765) | 2,651,487 | ||||||||||||||
| Total | $ | 5,506,512 | $ | (1,425,633) | $ | 4,080,879 | |||||||||||
The weighted average amortization periods for acquired technology and customer intangible assets are approximately six years and eight years, respectively.
The following table shows the estimated future amortization expense for the fiscal years indicated. This calculation assumes no future adjustments to acquired intangible assets:
| Fiscal years ending June 30, | |||||
2024 (nine months ended) | $ | 557,173 | |||
| 2025 | 643,188 | ||||
| 2026 | 599,851 | ||||
| 2027 | 529,474 | ||||
| 2028 | 505,749 | ||||
2029 and Thereafter | 1,052,782 | ||||
| Total | $ | 3,888,217 | |||
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NOTE 9—PREPAID EXPENSES AND OTHER ASSETS
Prepaid expenses and other current assets:
| As of September 30, 2023 | As of June 30, 2023 | ||||||||||
| Deposits and restricted cash | $ | 4,400 | $ | 2,621 | |||||||
| Capitalized costs to obtain a contract | 36,020 | 39,685 | |||||||||
| Short-term prepaid expenses and other current assets | 158,566 | 175,879 | |||||||||
Derivative asset (1) | 931 | 3,547 | |||||||||
| Total | $ | 199,917 | $ | 221,732 | |||||||
______________________________
(1)Represents the asset related to our derivative instrument activity (see Note 17 “Derivative Instruments and Hedging Activities”).
Other assets:
| As of September 30, 2023 | As of June 30, 2023 | ||||||||||
| Deposits and restricted cash | $ | 18,364 | $ | 20,418 | |||||||
| Capitalized costs to obtain a contract | 62,209 | 57,522 | |||||||||
| Investments | 137,229 | 147,974 | |||||||||
| Available-for-sale financial assets | 39,048 | 39,858 | |||||||||
| Long-term prepaid expenses and other long-term assets | 72,122 | 76,546 | |||||||||
| Total | $ | 328,972 | $ | 342,318 | |||||||
Deposits and restricted cash primarily relate to security deposits provided to landlords in accordance with facility lease agreements and cash restricted per the terms of certain contractual-based agreements.
Capitalized costs to obtain a contract relate to incremental costs of obtaining a contract, such as sales commissions, which are eligible for capitalization on contracts to the extent that such costs are expected to be recovered (see Note 3 “Revenues”).
Investments relate to certain investment funds in which we are a limited partner. Our interests in each of these investees range from 4% to below 20%. These investments are accounted for using the equity method. Our share of net income or losses based on our interest in these investments, which approximates fair value and is subject to volatility based on market trends and business conditions, is recorded as a component of Other income (expense), net in our Condensed Consolidated Statements of Income (see Note 22 “Other Income (Expense), Net”). During the three months ended September 30, 2023, our share of income (loss) from these investments was $(9.7) million (three months ended September 30, 2022—$(6.5) million).
Available-for-sale financial assets relate to contractual arrangements under insurance policies held by the Company with guaranteed interest rates that are utilized to meet certain pension and post-retirement obligations but do not meet the definition of a plan asset. The remaining portion of available-for-sale financial assets are primarily comprised of various debt and equity funds, which are valued utilizing market quotes provided by our third-party custodian. These arrangements are treated as available-for-sale financial assets measured at fair value quarterly (see Note 16 “Fair Value Measurement”) with unrealized gains and losses recorded within “Other Comprehensive Income (Loss) Net” (see Note 20 “Accumulated Other Comprehensive Income (Loss)”).
Prepaid expenses and other assets, both short-term and long-term, include advance payments on licenses that are being amortized over the applicable terms of the licenses and other miscellaneous assets.
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NOTE 10—ACCOUNTS PAYABLE AND ACCRUED LIABILITIES
Accounts payable and accrued liabilities:
| As of September 30, 2023 | As of June 30, 2023 | ||||||||||
| Accounts payable—trade | $ | 138,460 | $ | 162,720 | |||||||
| Accrued salaries, incentives and commissions | 252,975 | 333,543 | |||||||||
| Accrued liabilities | 222,748 | 239,817 | |||||||||
| Accrued sales and other tax liabilities | 14,194 | 25,439 | |||||||||
Derivative liability (1) | 127,152 | 161,191 | |||||||||
| Accrued interest on long-term debt | 52,766 | 37,563 | |||||||||
| Amounts payable in respect of restructuring and other special charges | 21,818 | 30,073 | |||||||||
| Asset retirement obligations | 5,929 | 5,915 | |||||||||
| Total | $ | 836,042 | $ | 996,261 | |||||||
______________________
(1)Represents the liability related to our derivative instrument activity (see Note 17 “Derivative Instruments and Hedging Activities”).
Long-term accrued liabilities:
| As of September 30, 2023 | As of June 30, 2023 | ||||||||||
| Amounts payable in respect of restructuring and other special charges | $ | 8,534 | $ | 8,875 | |||||||
| Other accrued liabilities | 16,829 | 17,749 | |||||||||
| Asset retirement obligations | 23,970 | 25,337 | |||||||||
| Total | $ | 49,333 | $ | 51,961 | |||||||
Asset retirement obligations
We are required to return certain of our leased facilities to their original state at the conclusion of our lease. As of September 30, 2023, the present value of this obligation was $29.9 million (June 30, 2023—$31.3 million), with an undiscounted value of $33.5 million (June 30, 2023—$35.0 million).
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NOTE 11—LONG-TERM DEBT
| As of September 30, 2023 | As of June 30, 2023 | ||||||||||
| Total debt | |||||||||||
| Senior Notes 2031 | $ | 650,000 | $ | 650,000 | |||||||
| Senior Notes 2030 | 900,000 | 900,000 | |||||||||
| Senior Notes 2029 | 850,000 | 850,000 | |||||||||
| Senior Notes 2028 | 900,000 | 900,000 | |||||||||
| Senior Secured Notes 2027 | 1,000,000 | 1,000,000 | |||||||||
| Term Loan B | 945,000 | 947,500 | |||||||||
| Acquisition Term Loan | 3,558,113 | 3,567,075 | |||||||||
| Revolver | 100,000 | 275,000 | |||||||||
| Total principal payments due | 8,903,113 | 9,089,575 | |||||||||
Unamortized debt discount and issuance costs (1) | (202,694) | (206,629) | |||||||||
| Total amount outstanding | 8,700,419 | 8,882,946 | |||||||||
| Less: | |||||||||||
| Current portion of long-term debt | |||||||||||
| Term Loan B | 10,000 | 10,000 | |||||||||
| Acquisition Term Loan | 35,850 | 35,850 | |||||||||
| Revolver | 100,000 | 275,000 | |||||||||
| Total current portion of long-term debt | 145,850 | 320,850 | |||||||||
| Non-current portion of long-term debt | $ | 8,554,569 | $ | 8,562,096 | |||||||
______________________
(1)During the three months ended September 30, 2023, we recorded $1.6 million of debt issuance costs related to the modification of the Acquisition Term Loan (as defined below).
Senior Unsecured Fixed Rate Notes
Senior Notes 2031
On November 24, 2021, OpenText Holdings, Inc. a wholly-owned indirect subsidiary of the Company, issued $650 million in aggregate principal amount of 4.125% Senior Notes due 2031 guaranteed by the Company (Senior Notes 2031) in an unregistered offering to qualified institutional buyers pursuant to Rule 144A under the Securities Act of 1933, as amended (Securities Act), and to certain non-U.S. persons in offshore transactions pursuant to Regulation S under the Securities Act. Senior Notes 2031 bear interest at a rate of 4.125% per annum, payable semi-annually in arrears on June 1 and December 1, commencing on June 1, 2022. Senior Notes 2031 will mature on December 1, 2031, unless earlier redeemed, in accordance with their terms, or repurchased.
For the three months ended September 30, 2023, we recorded interest expense of $6.7 million relating to Senior Notes 2031 (three months ended September 30, 2022— $6.7 million).
Senior Notes 2030
On February 18, 2020, OpenText Holdings, Inc. a wholly-owned indirect subsidiary of the Company, issued $900 million in aggregate principal amount of 4.125% Senior Notes due 2030 guaranteed by the Company (Senior Notes 2030) in an unregistered offering to qualified institutional buyers pursuant to Rule 144A under the Securities Act and to certain non-U.S. persons in offshore transactions pursuant to Regulation S under the Securities Act. Senior Notes 2030 bear interest at a rate of 4.125% per annum, payable semi-annually in arrears on February 15 and August 15, commencing on August 15, 2020. Senior Notes 2030 will mature on February 15, 2030, unless earlier redeemed, in accordance with their terms, or repurchased.
For the three months ended September 30, 2023, we recorded interest expense of $9.3 million relating to Senior Notes 2030 (three months ended September 30, 2022—$9.3 million).
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Senior Notes 2029
On November 24, 2021, we issued $850 million in aggregate principal amount of 3.875% Senior Notes due 2029 (Senior Notes 2029) in an unregistered offering to qualified institutional buyers pursuant to Rule 144A under the Securities Act and to certain non-U.S. persons in offshore transactions pursuant to Regulation S under the Securities Act. Senior Notes 2029 bear interest at a rate of 3.875% per annum, payable semi-annually in arrears on June 1 and December 1, commencing on June 1, 2022. Senior Notes 2029 will mature on December 1, 2029, unless earlier redeemed, in accordance with their terms, or repurchased.
For the three months ended September 30, 2023, we recorded interest expense of $8.2 million relating to Senior Notes 2029 (three months ended September 30, 2022—$8.2 million).
Senior Notes 2028
On February 18, 2020, we issued $900 million in aggregate principal amount of 3.875% Senior Notes due 2028 (Senior Notes 2028, and together with the Senior Notes 2031, Senior Notes 2030, Senior Notes 2029 and Senior Notes 2027, the Senior Notes) in an unregistered offering to qualified institutional buyers pursuant to Rule 144A under the Securities Act and to certain non-U.S. persons in offshore transactions pursuant to Regulation S under the Securities Act. Senior Notes 2028 bear interest at a rate of 3.875% per annum, payable semi-annually in arrears on February 15 and August 15, commencing on August 15, 2020. Senior Notes 2028 will mature on February 15, 2028, unless earlier redeemed, in accordance with their terms, or repurchased.
For the three months ended September 30, 2023, we recorded interest expense of $8.7 million relating to Senior Notes 2028 (three months ended September 30, 2022—$8.7 million).
Senior Secured Fixed Rate Notes
Senior Secured Notes 2027
On December 1, 2022, we issued $1 billion in aggregate principal amount of Senior Secured Notes 2027 in connection with the financing of the Micro Focus Acquisition in an unregistered offering to qualified institutional buyers pursuant to Rule 144A under the Securities Act and to certain non-U.S. persons in offshore transactions pursuant to Regulation S under the Securities Act. Senior Secured Notes 2027 bear interest at a rate of 6.90% per annum, payable semi-annually in arrears on June 1 and December 1, commencing on June 1, 2023. Senior Secured Notes 2027 will mature on December 1, 2027, unless earlier redeemed, in accordance with their terms, or repurchased.
The Senior Secured Notes 2027 are guaranteed on a senior secured basis by certain of the Company’s subsidiaries, and are secured with the same priority as the Company’s senior credit facilities. The Senior Secured Notes 2027 and the related guarantees are effectively senior to all of the Company’s and the guarantors’ senior unsecured debt to the extent of the value of the collateral (as defined in the indenture to the Senior Secured Notes 2027) and are structurally subordinated to all existing and future liabilities of each of the Company’s existing and future subsidiaries that do not guarantee the Senior Secured Notes 2027. As of September 30, 2023, the Senior Secured Notes 2027 bear an effective interest rate of 7.39%. The effective interest rate includes interest expense of $17.3 million and amortization of debt discount and issuance costs of $0.6 million.
For the three months ended September 30, 2023, we recorded interest expense of $17.3 million relating to Senior Secured Notes 2027 (three months ended September 30, 2022—nil).
Term Loan B
On May 30, 2018, we refinanced our existing term loan facility, by entering into a new $1 billion term loan facility (Term Loan B), whereby we borrowed $1 billion on that day and repaid in full the loans under our prior $800 million term loan facility originally entered into on January 16, 2014. Borrowings under Term Loan B are secured by a first charge over substantially all of our assets on a pari passu basis with the Revolver (as defined below), Acquisition Term Loan and Senior Secured Notes 2027. On June 6, 2023, we amended the Term Loan B to replace the LIBOR benchmark rate applicable to borrowings under Term Loan B with a Secured Overnight Financing Rate (SOFR) benchmark rate.
Term Loan B has a seven-year term, maturing in May 2025, and repayments made under Term Loan B are equal to 0.25% of the principal amount in equal quarterly installments for the life of Term Loan B, with the remainder due at maturity. Borrowings under Term Loan B currently bear a floating rate of interest equal to Adjusted Term SOFR (as defined in the Term Loan B) and applicable margin of 1.75%. As of September 30, 2023, the outstanding balance on the Term Loan B bears an interest rate of 7.18%. As of September 30, 2023, the Term Loan B bears an effective interest rate of 7.48%. The effective interest rate includes interest expense of $17.2 million and amortization of debt discount and issuance costs of $0.4 million.
Under Term Loan B, we must maintain a “consolidated net leverage” ratio of no more than 4.00:1.00 at the end of each financial quarter. Consolidated net leverage ratio is defined for this purpose as the proportion of our total debt reduced by unrestricted cash, including guarantees and letters of credit, over our trailing twelve months net income before interest, taxes,
20
depreciation, amortization, restructuring, share-based compensation and other miscellaneous charges. As of September 30, 2023, our consolidated net leverage ratio, as calculated in accordance with the applicable agreement, was 3.64:1.00.
For the three months ended September 30, 2023, we recorded interest expense of $17.2 million relating to Term Loan B (three months ended September 30, 2022—$9.7 million).
Revolver
On October 31, 2019, we amended our committed revolving credit facility (the Revolver) to increase the total commitments under the Revolver from $450 million to $750 million as well as to extend the maturity from May 5, 2022 to October 31, 2024. Borrowings under the Revolver are secured by a first charge over substantially all of our assets, on a pari passu basis with Term Loan B, the Acquisition Term Loan and Senior Secured Notes 2027. On June 6, 2023, we entered into an amendment to replace the LIBOR benchmark rate applicable to borrowings under the Revolver with a SOFR benchmark rate.
The Revolver has no fixed repayment date prior to the end of the term. Borrowings under the Revolver bear interest per annum at a floating rate of interest equal to Adjusted Term SOFR (as defined in the Revolver) and a fixed margin dependent on our consolidated net leverage ratio ranging from 1.25% to 1.75%. As of September 30, 2023, the outstanding balance on the Revolver bears an interest rate of 7.18%.
As of September 30, 2023, we had a $100 million outstanding balance under the Revolver (June 30, 2023—$275 million). For the three months ended September 30, 2023, we recorded interest expense of $2.0 million relating to the Revolver (three months ended September 30, 2022—nil). In October 2023, the Company repaid the $100 million outstanding balance drawn under the Revolver.
Acquisition Term Loan
On December 1, 2022, we amended our first lien term loan facility (the Acquisition Term Loan), dated as of August 25, 2022, to increase the aggregate commitments under the senior secured delayed-draw term loan facility from an aggregate principal amount of $2.585 billion to an aggregate principal amount of $3.585 billion. During the third quarter of Fiscal 2023, the Company drew down $3.585 billion from the Acquisition Term Loan, net of original issuance discount of 3% and other fees (see Note 19 “Acquisitions” for more details). On August 14, 2023, we amended the Acquisition Term Loan, to reduce the applicable interest rate margin by 0.75% over the remaining term of the Acquisition Term Loan. The reduction in interest rate margin on the Acquisition Term Loan resulting from the amendment was accounted for by the Company as a debt modification.
The Acquisition Term Loan has a seven-year term from the date of funding, and repayments under the Acquisition Term Loan are equal to 0.25% of the principal amount in equal quarterly installments for the life of the Acquisition Term Loan, with the remainder due at maturity. Borrowings under the Acquisition Term Loan currently bear a floating rate of interest equal to 2.75% plus Adjusted Term SOFR (as defined in the Acquisition Term Loan). As of September 30, 2023, the outstanding balance on the Acquisition Term Loan bears an interest rate of 8.18%. As of September 30, 2023, the Acquisition Term Loan bears an effective interest rate of 9.27%. The effective interest rate includes interest expense of $77.2 million and amortization of debt discount and issuance costs of $3.3 million.
The Acquisition Term Loan has incremental facility capacity of (i) $250 million plus (ii) additional amounts, subject to meeting a “consolidated senior secured net leverage” ratio not exceeding 2.75:1.00, in each case subject to certain conditions. Consolidated senior secured net leverage ratio is defined for this purpose as the proportion of the Company’s total debt reduced by unrestricted cash, including guarantees and letters of credit, that is secured by the Company’s or any of the Company’s subsidiaries’ assets, over the Company’s trailing four financial quarter net income before interest, taxes, depreciation, amortization, restructuring, share-based compensation and other miscellaneous charges. Under the Acquisition Term Loan, we must maintain a “consolidated net leverage” ratio of no more than 4.50:1.00 at the end of each financial quarter. Consolidated net leverage ratio is defined for this purpose as the proportion of the Company’s total debt reduced by unrestricted cash, including guarantees and letters of credit, over the Company’s trailing four financial quarter net income before interest, taxes, depreciation, amortization, restructuring, share-based compensation and other miscellaneous charges as defined in the Acquisition Term Loan. As of September 30, 2023, our consolidated net leverage ratio, as calculated in accordance with the applicable agreement, was 3.64:1:00.
The Acquisition Term Loan is unconditionally guaranteed by certain subsidiary guarantors, as defined in the Acquisition Term Loan, and is secured by a first charge on substantially all of the assets of the Company and the subsidiary guarantors on a pari passu basis with the Revolver, Term Loan B and the Senior Secured Notes 2027.
For the three months ended September 30, 2023, we recorded interest expense of $77.2 million relating to the Acquisition Term Loan (three months ended September 30, 2022—nil). In October 2023, the Company repaid $75 million drawn under the Acquisition Term Loan.
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Bridge Loan
On August 25, 2022, we entered into a bridge loan agreement (Bridge Loan) which provided for commitments of up to $2.0 billion to finance a portion of the repayment of Micro Focus’ existing debt. On December 1, 2022, we entered into an amendment to the Bridge Loan that reallocated commitments under the Bridge Loan to the Acquisition Term Loan. In connection with the amendment to the Bridge Loan and the receipt of proceeds from the issuance of the Senior Secured Notes 2027, all remaining commitments under the Bridge Loan were reduced to zero and the Bridge Loan was terminated, which resulted in a loss on debt extinguishment of $8.2 million relating to unamortized debt issuance costs in the second quarter of Fiscal 2023.
For the three months ended September 30, 2023, we did not have any borrowings or record any interest expense relating to the Bridge Loan (three months ended September 30, 2022—nil).
Debt Issuance Costs
Debt issuance costs relate primarily to costs incurred for the purpose of obtaining or amending our credit facilities and issuing our Senior Notes and are being amortized through interest expense over the respective terms of the Senior Notes, Senior Secured Notes, Term Loan B, and Acquisition Term Loan using the effective interest method and straight-line method for the Revolver.
NOTE 12—PENSION PLANS AND OTHER POST-RETIREMENT BENEFITS
Defined Benefit and Other Post-Retirement Benefit Plans
The Company has 52 pension and other post-retirement plans in multiple countries. All of our pension and other post-retirement plans are located outside of Canada and the United States. The plans are primarily located in Germany, which as of September 30, 2023, make up approximately 63% of the total net benefit pension obligations.
Our defined benefit pension plans include a mix of final salary type plans which provide for retirement, old age, disability and survivor’s benefits. Final salary pension plans provide benefits to members either in the form of a lump sum payment or a guaranteed level of pension payable for life in the case of retirement, disability and death. Benefits under our final salary type plans are generally based on the participant’s age, compensation and years of service as well as the social security ceiling and other factors. Many of these plans are closed to new members. The net periodic costs of these plans are determined using the projected unit credit method and several actuarial assumptions, the most significant of which are the discount rate and estimated service costs.
Other post-retirement plans include statutory plans that offer termination, indemnity or other end of service benefits. Many of these plans were assumed through our acquisitions or are required by local regulatory and statutory requirements. All of our defined benefit and other post-retirement plans are included in the aggregate projected benefit obligation within “Pension liability” on our Condensed Consolidated Balance Sheets.
The following are details of net pension expense relating to the defined benefit pension plans:
| Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
| Pension expense: | |||||||||||
| Service cost | $ | 2,725 | $ | 1,059 | |||||||
| Interest cost | 3,089 | 970 | |||||||||
| Expected return of plan assets | (2,808) | (403) | |||||||||
| Amortization of actuarial (gains) losses | 165 | 63 | |||||||||
| Net pension expense | $ | 3,171 | $ | 1,689 | |||||||
Service-related net periodic pension costs are recorded within operating expense and all other non-service related net periodic pension costs are classified under “Interest and other related expense, net” on our Condensed Consolidated Statements of Income.
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NOTE 13—SHARE CAPITAL, OPTION PLANS AND SHARE-BASED PAYMENTS
Cash Dividends
For the three months ended September 30, 2023, pursuant to the Company’s dividend policy, we declared total non-cumulative dividends of $0.25 per Common Share in the aggregate amount of $67.0 million which we paid during the same period (three months ended September 30, 2022—$0.24299 per Common Share in the aggregate amount of $64.7 million).
Share Capital
Our authorized share capital includes an unlimited number of Common Shares and an unlimited number of Preference Shares. No Preference Shares have been issued.
Treasury Stock
From time to time we may provide funds to an independent agent to facilitate repurchases of our Common Shares in connection with the settlement of awards under the Long-Term Incentive Plans (LTIP) or other plans.
During the three months ended September 30, 2023, 1,400,000 Common Shares were purchased on the open market at a cost of $53.1 million and held under trust for potential settlement of awards under our LTIP or other plans as described below (three months ended September 30, 2022—no Common Shares were purchased).
During the three months ended September 30, 2023, we delivered to eligible participants 183,313 Common Shares that were purchased in the open market in connection with the settlement of awards and other plans (three months ended September 30, 2022—120,406 Common Shares).
Share Repurchase Plan
On November 4, 2021, the Board authorized a share repurchase plan (Fiscal 2022 Repurchase Plan), pursuant to which we may purchase in open market transactions, from time to time over the 12-month period commencing November 12, 2021, up to an aggregate of $350 million of our Common Shares. During the three months ended September 30, 2023 and 2022, we did not repurchase and cancel any Common Shares.
Share-Based Payments
Share-based compensation expense for the periods indicated below is detailed as follows:
| Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
| Stock Options (issued under Stock Option Plans) | $ | 4,544 | $ | 3,585 | |||||||
| Performance Share Units (issued under LTIP) | 5,889 | 4,235 | |||||||||
| Restricted Share Units (issued under LTIP) | 2,881 | 2,175 | |||||||||
| Restricted Share Units (other) | 21,372 | 10,637 | |||||||||
| Deferred Share Units (directors) | 914 | 961 | |||||||||
| Employee Stock Purchase Plan | 1,495 | 1,615 | |||||||||
| Total share-based compensation expense | $ | 37,095 | $ | 23,208 | |||||||
A summary of unrecognized compensation cost for unvested shared-based payment awards is as follows:
| As of September 30, 2023 | |||||||||||
| Unrecognized Compensation Cost | Weighted Average Recognition Period (years) | ||||||||||
| Stock Options (issued under Stock Option Plans) | $ | 48,754 | 2.6 | ||||||||
| Performance Share Units (issued under LTIP) | 56,484 | 2.5 | |||||||||
| Restricted Share Units (issued under LTIP) | 27,139 | 2.4 | |||||||||
| Restricted Share Units (other) | 83,793 | 1.3 | |||||||||
| Total unrecognized share-based compensation cost | $ | 216,170 | |||||||||
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Stock Option Plans
Stock Options
A summary of activity under our stock option plans for the three months ended September 30, 2023 is as follows:
| Options | Weighted- Average Exercise Price | Weighted- Average Remaining Contractual Term (years) | Aggregate Intrinsic Value | ||||||||||||||||||||
Outstanding at June 30, 2023 | 12,219,439 | $ | 38.44 | 4.68 | $ | 62,473 | |||||||||||||||||
| Granted | 840,610 | 36.79 | |||||||||||||||||||||
| Exercised | (84,885) | 34.08 | |||||||||||||||||||||
| Forfeited or expired | (221,571) | 42.39 | |||||||||||||||||||||
Outstanding at September 30, 2023 | 12,753,593 | $ | 38.29 | 4.60 | $ | 23,473 | |||||||||||||||||
Exercisable at September 30, 2023 | 4,940,080 | $ | 40.16 | 3.10 | $ | 2,691 | |||||||||||||||||
As of September 30, 2023, 5,331,793 options to purchase Common Shares were available for issuance under our stock option plans.
We estimate the fair value of stock options using the Black-Scholes option-pricing model or, where appropriate, the Monte Carlo pricing model, consistent with the provisions of ASC Topic 718, “Compensation—Stock Compensation” (Topic 718) and SEC Staff Accounting Bulletin No. 107. The option-pricing models require input of subjective assumptions, including the estimated life of the option and the expected volatility of the underlying stock over the estimated life of the option. We use historical volatility as a basis for projecting the expected volatility of the underlying stock and estimate the expected life of our stock options based upon historical data.
We believe that the valuation techniques and the approach utilized to develop the underlying assumptions are appropriate in calculating the fair value of our stock option grants. Estimates of fair value are not intended, however, to predict actual future events or the value ultimately realized by employees who receive equity awards.
For the periods indicated, the weighted-average fair value of options and weighted-average assumptions estimated under the Black-Scholes option-pricing model were as follows:
| Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
| Weighted–average fair value of options granted | $ | 9.16 | $ | 8.16 | |||||||
| Weighted-average assumptions used: | |||||||||||
| Expected volatility | 30.93 | % | 27.46 | % | |||||||
| Risk–free interest rate | 4.44 | % | 2.86 | % | |||||||
| Expected dividend yield | 2.66 | % | 2.32 | % | |||||||
| Expected life (in years) | 4.24 | 4.18 | |||||||||
| Forfeiture rate (based on historical rates) | 7 | % | 7 | % | |||||||
| Average exercise share price | $ | 36.79 | $ | 39.09 | |||||||
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Performance Options
During the three months ended September 30, 2023, we did not grant performance options (during the three months ended September 30, 2022—1,000,000).
For the period in which performance options were granted, the weighted-average fair value of performance options and weighted-average assumptions estimated under the Monte Carlo pricing model were as follows:
| Three Months Ended September 30, | |||||
| 2022 | |||||
| Weighted–average fair value of options granted | $ | 8.09 | |||
| Derived service period (in years) | 1.70 | ||||
| Weighted-average assumptions used: | |||||
| Expected volatility | 26.00 | % | |||
| Risk–free interest rate | 3.21 | % | |||
| Expected dividend yield | 2.00 | % | |||
| Average exercise share price | $ | 31.89 | |||
Long-Term Incentive Plans
We incentivize certain eligible employees, in part, with long-term compensation pursuant to our LTIP. The LTIP is a rolling three-year program that grants eligible employees a certain number of target Performance Share Units (PSUs) and/or Restricted Share Units (RSUs). Target PSUs become vested upon the achievement of certain financial and/or operational performance criteria (the Performance Conditions) that are determined at the time of the grant. The Performance Conditions for vesting of the PSUs are based solely upon market conditions. The RSUs are employee service-based awards and vest subject to an eligible employee’s continued employment throughout the applicable vesting period.
PSUs and RSUs granted under the LTIP have been measured at fair value as of the effective date, consistent with ASC Topic 718, and will be charged to share-based compensation expense over the remaining life of the plan. We estimate the fair value of PSUs using the Monte Carlo pricing model and RSUs have been valued based upon their grant date fair value. Beginning in Fiscal 2023, certain PSU and RSU grants were eligible to receive dividend equivalent units that vest under the same conditions as the underlying grants.
Performance Share Units (Issued Under LTIP)
A summary of activity under our performance share units issued under the LTIP for the three months ended September 30, 2023 is as follows:
| Units | Weighted-Average Grant Date Fair Value | Weighted- Average Remaining Contractual Term (years) | Aggregate Intrinsic Value ($’000's) | ||||||||||||||||||||
Outstanding at June 30, 2023 | 1,013,385 | $ | 61.64 | 1.75 | $ | 42,106 | |||||||||||||||||
Granted (1) | 612,432 | 59.22 | |||||||||||||||||||||
| Vested | — | — | |||||||||||||||||||||
| Forfeited or expired | (24,049) | 61.69 | |||||||||||||||||||||
Outstanding at September 30, 2023 | 1,601,768 | $ | 60.76 | 2.16 | $ | 56,222 | |||||||||||||||||
__________________________
(1)PSUs are earned based on market conditions and the actual number of PSUs earned, if any, is dependent upon performance and may range from 0 to 200 percent.
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For the periods indicated, the weighted-average fair value of PSUs issued under LTIP, and weighted-average assumptions estimated under the Monte Carlo pricing model were as follows:
| Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
| Weighted–average fair value of performance share units granted | $ | 59.48 | $ | 55.06 | |||||||
| Weighted-average assumptions used: | |||||||||||
| Expected volatility | 28.05 | % | 29.00 | % | |||||||
| Risk–free interest rate | 4.38 | % | 3.13 | % | |||||||
| Expected dividend yield | — | % | — | % | |||||||
| Expected life (in years) | 3.11 | 3.11 | |||||||||
Restricted Share Units (Issued Under LTIP)
A summary of activity under our RSUs issued under the LTIP for the three months ended September 30, 2023 is as follows:
| Units | Weighted-Average Grant Date Fair Value | Weighted- Average Remaining Contractual Term (years) | Aggregate Intrinsic Value ($’000's) | ||||||||||||||||||||
Outstanding at June 30, 2023 | 774,360 | $ | 42.83 | 1.68 | $ | 32,175 | |||||||||||||||||
| Granted | 466,454 | 36.80 | |||||||||||||||||||||
| Vested | — | — | |||||||||||||||||||||
| Forfeited or expired | (24,049) | 41.83 | |||||||||||||||||||||
Outstanding at September 30, 2023 | 1,216,765 | $ | 40.55 | 2.11 | $ | 42,708 | |||||||||||||||||
Restricted Share Units (Other)
In addition to the grants made in connection with the LTIP discussed above, from time to time, we may grant RSUs to certain employees in accordance with employment and other non-LTIP related agreements. RSUs (other) vest over a specified contract date, typically or three years from the respective date of grants.
A summary of activity under our RSUs (other) issued for the three months ended September 30, 2023 is as follows:
| Units | Weighted-Average Grant Date Fair Value | Weighted- Average Remaining Contractual Term (years) | Aggregate Intrinsic Value ($’000's) | ||||||||||||||||||||
Outstanding at June 30, 2023 | 5,310,595 | $ | 36.43 | 1.97 | $ | 220,655 | |||||||||||||||||
| Granted | 10,192 | 37.51 | |||||||||||||||||||||
| Vested | (183,094) | 39.83 | |||||||||||||||||||||
| Forfeited or expired | (106,055) | 36.87 | |||||||||||||||||||||
Outstanding at September 30, 2023 | 5,031,638 | $ | 36.12 | 1.75 | $ | 176,610 | |||||||||||||||||
Deferred Share Units (DSUs)
The DSUs are granted to certain non-employee directors. DSUs are issued under our Deferred Share Unit Plan. DSUs granted as compensation for director fees vest immediately, whereas all other DSUs granted vest at our next annual general meeting following the granting of the DSUs. No DSUs are payable by us until the director ceases to be a member of the Board.
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A summary of activity under our DSUs issued for the three months ended September 30, 2023 is as follows:
| Units | Weighted-Average Price | Weighted- Average Remaining Contractual Term (years) | Aggregate Intrinsic Value ($’000's) | ||||||||||||||||||||
Outstanding at June 30, 2023 (1) | 994,568 | $ | 29.98 | 0.36 | $ | 41,324 | |||||||||||||||||
| Granted | 7,050 | 37.70 | |||||||||||||||||||||
Outstanding at September 30, 2023 (1) | 1,001,618 | $ | 30.04 | 0.10 | $ | 35,157 | |||||||||||||||||
______________________
(1) Includes 90,906 unvested DSUs.
Employee Stock Purchase Plan (ESPP)
Our ESPP offers employees the opportunity to purchase our Common Shares at a purchase price discount of 15%. During the three months ended September 30, 2023, 286,772 Common Shares were eligible for issuance to employees enrolled in the ESPP (three months ended September 30, 2022—354,465 Common Shares). During the three months ended September 30, 2023, cash in the amount of $8.6 million was received from employees relating to the ESPP (three months ended September 30, 2022—$8.0 million).
NOTE 14—GUARANTEES AND CONTINGENCIES
We have entered into the following contractual obligations with minimum payments for the indicated fiscal periods as follows:
| Payments due between | |||||||||||||||||||||||||||||
| Total | October 1, 2023 - June 30, 2024 | July 1, 2024 - June 30, 2026 | July 1, 2026 - June 30, 2028 | July 1, 2028 and beyond | |||||||||||||||||||||||||
Long-term debt obligations (1) | $ | 11,967,329 | $ | 478,079 | $ | 2,155,858 | $ | 2,908,194 | $ | 6,425,198 | |||||||||||||||||||
Purchase obligations for contracts not accounted for as lease obligations (2) | 400,328 | 118,628 | 270,777 | 10,923 | — | ||||||||||||||||||||||||
| $ | 12,367,657 | $ | 596,707 | $ | 2,426,635 | $ | 2,919,117 | $ | 6,425,198 | ||||||||||||||||||||
______________________
(1)Includes interest up to maturity and principal payments. Please see Note 11 “Long-Term Debt” for more details.
(2)For contractual obligations relating to leases and purchase obligations accounted for under ASC Topic 842, please see Note 6 “Leases.”
Guarantees and Indemnifications
We have entered into customer agreements which may include provisions to indemnify our customers against third-party claims that our software products or services infringe certain third-party intellectual property rights and for liabilities related to a breach of our confidentiality obligations. We have not made any material payments in relation to such indemnification provisions and have not accrued any liabilities related to these indemnification provisions in our Condensed Consolidated Financial Statements.
Occasionally, we enter into financial guarantees with third parties in the ordinary course of our business, including, among others, guarantees relating to taxes and letters of credit on behalf of parties with whom we conduct business. Such agreements have not had a material effect on our results of operations, financial position or cash flows.
Litigation
We are currently involved in various claims and legal proceedings.
Quarterly, we review the status of each significant legal matter and evaluate such matters to determine how they should be treated for accounting and disclosure purposes in accordance with the requirements of ASC Topic 450-20 “Loss Contingencies” (Topic 450-20). Specifically, this evaluation process includes the centralized tracking and itemization of the status of all our disputes and litigation items, discussing the nature of any litigation and claim, including any dispute or claim that is reasonably likely to result in litigation, with relevant internal and external counsel, and assessing the progress of each matter in light of its merits and our experience with similar proceedings under similar circumstances.
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If the potential loss from any claim or legal proceeding is considered probable and the amount can be reasonably estimated, we accrue a liability for the estimated loss in accordance with Topic 450-20. As of the date of this Quarterly Report on Form 10-Q, the aggregate of such accrued liabilities was not material to our consolidated financial position or results of operations and we do not believe as of the date of this filing that it is reasonably possible that a loss exceeding the amounts already recognized will be incurred that would be material to our consolidated financial position or results of operations. As described more fully below, we are unable at this time to estimate a possible loss or range of losses in respect of certain disclosed matters.
Contingencies
CRA Matter
As part of its ongoing audit of our Canadian tax returns, the Canada Revenue Agency (CRA) has disputed our transfer pricing methodology used for certain intercompany transactions with our international subsidiaries and has issued notices of reassessment for Fiscal 2012, Fiscal 2013, Fiscal 2014, Fiscal 2015 and Fiscal 2016. Assuming the utilization of available tax attributes (further described below), we estimate our potential aggregate liability, as of September 30, 2023, in connection with the CRA's reassessments for Fiscal 2012, Fiscal 2013, Fiscal 2014, Fiscal 2015 and Fiscal 2016, to be limited to penalties, interest and provincial taxes that may be due of approximately $76 million. As of September 30, 2023, we have provisionally paid approximately $33 million in order to fully preserve our rights to object to the CRA's audit positions, being the minimum payment required under Canadian legislation while the matter is in dispute. This amount is recorded within “Long-term income taxes recoverable” on the Condensed Consolidated Balance Sheets as of September 30, 2023.
The notices of reassessment for Fiscal 2012, Fiscal 2013, Fiscal 2014, Fiscal 2015 and Fiscal 2016 would, as drafted, increase our taxable income by approximately $90 million to $100 million for each of those years, as well as impose a 10% penalty on the proposed adjustment to income. Audits by the CRA of our tax returns for fiscal years prior to Fiscal 2012 have been completed with no reassessment of our income tax liability.
We strongly disagree with the CRA's positions and believe the reassessments of Fiscal 2012, Fiscal 2013, Fiscal 2014, Fiscal 2015 and Fiscal 2016 (including any penalties) are without merit, and we are continuing to contest these reassessments. On June 30, 2022, we filed a notice of appeal with the Tax Court of Canada seeking to reverse all such reassessments (including penalties) in full and the customary court process is ongoing.
Even if we are unsuccessful in challenging the CRA's reassessments to increase our taxable income for Fiscal 2012, Fiscal 2013, Fiscal 2014, Fiscal 2015 and Fiscal 2016, we have elective deductions available for those years (including carry-backs from later years) that would offset such increased amounts so that no additional cash tax would be payable, exclusive of any assessed penalties and interest, as described above.
The CRA has audited Fiscal 2017, Fiscal 2018 and Fiscal 2019 on a basis that we strongly disagree with and are contesting. The focus of the CRA audit has been the valuation of certain intellectual property and goodwill when one of our subsidiaries continued into Canada from Luxembourg in July 2016. In accordance with applicable rules, these assets were recognized for tax purposes at fair market value as of that time, which value was supported by an expert valuation prepared by an independent leading accounting and advisory firm. CRA’s position for Fiscal 2017 through Fiscal 2019 relies in significant part on the application of its positions regarding our transfer pricing methodology that are the basis for its reassessment of our fiscal years 2012 to 2016 described above, and that we believe are without merit. Other aspects of CRA’s position for Fiscal 2017 through Fiscal 2019 conflict with the expert valuation prepared by the independent leading accounting and advisory firm that was used to support our original filing position. The CRA issued notices of reassessment in respect of Fiscal 2017, Fiscal 2018 and Fiscal 2019 on a basis consistent with its proposal to reduce the available depreciable basis of assets in Canada. On April 19, 2022, we filed our notice of objection regarding the reassessment in respect of Fiscal 2017 and on March 15, 2023, we filed our notice of objection regarding the reassessment in respect of Fiscal 2018. We intend to file a notice of objection regarding Fiscal 2019. If we are ultimately unsuccessful in defending our position, the estimated impact of the proposed adjustment could result in us recording an income tax expense, with no immediate cash payment, to reduce the stated value of our deferred tax assets of up to approximately $470 million. Any such income tax expense could also have a corresponding cash tax impact that would primarily occur over a period of several future years based upon annual income realization in Canada. We strongly disagree with the CRA’s position for Fiscal 2017 through Fiscal 2019 and intend to vigorously defend our original filing position. We are not required to provisionally pay any cash amounts to the CRA as a result of the reassessment in respect of Fiscal 2017 through Fiscal 2019 due to the utilization of available tax attributes; however, to the extent the CRA reassesses subsequent fiscal years on a similar basis, we expect to make certain minimum payments required under Canadian legislation, which may need to be provisionally made starting in Fiscal 2024 while the matter is in dispute.
We will continue to vigorously contest the adjustments to our taxable income and any penalty and interest assessments, as well as any reduction to the basis of our depreciable property. We are confident that our original tax filing positions were appropriate. Accordingly, as of the date of this Quarterly Report on Form 10-Q, we have not recorded any accruals in respect of
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these reassessments or proposed reassessment in our Condensed Consolidated Financial Statements. The CRA is also in preliminary stages of auditing Fiscal 2020.
Carbonite Class Action Complaint
On August 1, 2019, prior to our acquisition of Carbonite Inc. (Carbonite), a purported stockholder of Carbonite filed a putative class action complaint against Carbonite, its former Chief Executive Officer, Mohamad S. Ali, and its former Chief Financial Officer, Anthony Folger, in the United States District Court for the District of Massachusetts captioned Ruben A. Luna, Individually and on Behalf of All Others Similarly Situated v. Carbonite, Inc., Mohamad S. Ali, and Anthony Folger (No. 1:19-cv-11662-LTS) (the Luna Complaint). The complaint alleges violations of the federal securities laws under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended, and Rule 10b-5 promulgated thereunder. The complaint generally alleges that the defendants made materially false and misleading statements in connection with Carbonite’s Server Backup VM Edition, and seeks, among other things, the designation of the action as a class action, an award of unspecified compensatory damages, costs and expenses, including counsel fees and expert fees, and other relief as the court deems appropriate. On August 23, 2019, a nearly identical complaint was filed in the same court captioned William Feng, Individually and on Behalf of All Others Similarly Situated v. Carbonite, Inc., Mohamad S. Ali, and Anthony Folger (No. 1:19- cv-11808-LTS) (together with the Luna Complaint, the Securities Actions). On November 21, 2019, the district court consolidated the Securities Actions, appointed a lead plaintiff, and designated a lead counsel. On January 15, 2020, the lead plaintiff filed a consolidated amended complaint generally making the same allegations and seeking the same relief as the complaint filed on August 1, 2019. The defendants moved to dismiss the Securities Actions on March 10, 2020. On October 22, 2020, the district court granted with prejudice the defendants’ motion to dismiss the Securities Actions. On November 20, 2020, the lead plaintiff filed a notice of appeal to the United States Court of Appeals for the First Circuit. On December 21, 2021, the United States Court of Appeals for the First Circuit issued a decision reversing and remanding the Securities Actions to the district court for further proceedings. The parties have completed discovery. On July 14, 2023, the district court certified the lead plaintiff’s proposed class. The defendants have filed a motion for class decertification and a motion for summary judgment, both of which are pending. The defendants remain confident in their position, believe the Securities Actions are without merit, and will continue to vigorously defend the matter.
Carbonite vs Realtime Data
On February 27, 2017, before our acquisition of Carbonite, a non-practicing entity named Realtime Data LLC (Realtime Data) filed a lawsuit against Carbonite in the U.S. District Court for the Eastern District of Texas captioned Realtime Data LLC v. Carbonite, Inc. et al (No 6:17-cv-00121-RWS-JDL). Therein, it alleged that certain of Carbonite’s cloud storage services infringe upon certain patents held by Realtime Data. Realtime Data’s complaint against Carbonite sought damages in an unspecified amount and injunctive relief. On December 19, 2017, the U.S. District Court for the Eastern District of Texas transferred the case to the U.S. District Court for the District of Massachusetts (No. 1:17-cv-12499). Realtime Data has also filed numerous other patent suits on the same asserted patents against other companies. After a stay pending appeal in one of those suits, on January 21, 2021, the district court held a hearing to construe the claims of the asserted patents. As to the fourth patent asserted against Carbonite, on September 24, 2019, the U.S. Patent & Trademark Office Patent Trial and Appeal Board invalidated certain claims of that patent, including certain claims that had been asserted against Carbonite. The parties then jointly stipulated to dismiss that patent from this action. On August 23, 2021, in one of the suits against other companies, the District of Delaware (No. 1:17-cv-800), held all of the patents asserted against Carbonite to be invalid. Realtime Data has appealed that decision to the U.S. Court of Appeals for the Federal Circuit. Based upon the order in the Delaware case, the U.S. District Court for the District of Massachusetts granted summary judgment in Carbonite’s favor. Realtime Data appealed the order, but stipulated to stay the appeal pending the outcome of their appeal in the District of Delaware case and agreed that if the U.S. Court of Appeals for the Federal Circuit affirmed the District of Delaware’s judgment of invalidity, Realtime Data would subsequently dismiss their appeal against Carbonite. On August 2, 2023, the U.S. Court of Appeals for the Federal Circuit affirmed the invalidity of the patents asserted against Carbonite. Pursuant to the parties’ stipulation, Realtime Data dismissed its appeal against Carbonite to fully resolve this matter.
NOTE 15—INCOME TAXES
The Company’s effective tax rate for the three months ended September 30, 2023, was 11.3%, compared to a provision of (40.4)% for the three months ended September 30, 2022.
The Company’s effective tax rate for the three months ended September 30, 2023, differs from the Canadian statutory rate of 26.5% primarily due to tax benefits related to foreign tax rate differences, foreign tax credits and research and development credits, partially offset by US Base Erosion and Anti-Abuse Tax (BEAT). The Company’s effective tax rate for the three months ended September 30, 2022 differs from the Canadian statutory rate primarily due to pre-tax losses created by the mark-to-market valuation on the derivatives not designated as hedges that the Company entered into in connection with the Micro
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Focus Acquisition, and the inability to recognize the tax benefit of mark-to-market losses. The tax benefit of mark-to-market losses are considered capital losses for tax purposes and require capital income to be recognized. Therefore we recorded a valuation allowance on the portion of the losses that are not supportable by capital gains.
As of September 30, 2023, the gross amount of unrecognized tax benefits accrued is $183.1 million (June 30, 2023 — $178.7 million), which is inclusive of interest and penalties accrued of $17.6 million (June 30, 2023 — $13.5 million). We believe that it is reasonably possible that the gross unrecognized tax benefit could decrease by $14.5 million in the next 12 months, relating primarily to the expiration of competent authority relief and tax years becoming statute barred for purposes of future tax examinations by local taxing jurisdictions.
We are subject to income tax audits in all major taxing jurisdictions in which we operate. Our four most significant jurisdictions are Canada, the United States, United Kingdom and Germany. Our tax filings remain subject to income tax audits by applicable tax authorities for a certain length of time following the tax year to which those tax filings relate. We currently have income tax audits open in Canada, the United States, United Kingdom, Germany and other immaterial jurisdictions. The earliest fiscal years open for examination for our major jurisdictions are 2012 for Canada, 2019 for the United States, 2015 for the United Kingdom and 2016 for Germany. On a quarterly basis we assess the status of these examinations and the potential for adverse outcomes to determine the adequacy of the provision for income and other taxes. Statements regarding the Canada audits are included in Note 14 “Guarantees and Contingencies.”
The timing of the resolution of income tax audits is highly uncertain, and the amounts ultimately paid, if any, upon resolution of the issues raised by the taxing authorities may differ from the amounts accrued. It is reasonably possible that within the next 12 months we will receive additional assessments by various tax authorities or possibly reach resolution of income tax audits in one or more jurisdictions. These assessments or settlements may or may not result in changes to our contingencies related to positions on tax filings. The actual amount of any change could vary significantly depending on the ultimate timing and nature of any settlements. We cannot currently provide an estimate of the range of possible outcomes. For more information relating to certain income tax audits, please refer to Note 14 “Guarantees and Contingencies.”
As of September 30, 2023, we have recognized a deferred income tax liability of $29.2 million (June 30, 2023—$28.3 million) on taxable temporary differences related to the undistributed earnings of certain non-United States subsidiaries and planned periodic repatriations from certain German subsidiaries, that will be subject to withholding taxes upon distribution. We have not provided for additional foreign withholding taxes or deferred income tax liabilities related to undistributed earnings of all other non-Canadian subsidiaries, since such earnings are considered permanently invested in those subsidiaries or are not subject to withholding taxes. It is not practicable to reasonably estimate the amount of additional deferred income tax liabilities or foreign withholding taxes that may be payable should these earnings be distributed in the future.
State Aid Matter
In April 2019, the European Commission published its final decision on its State Aid investigation into the UK’s “Financing Company Partial Exemption” legislation and concluded that part of the legislation was in breach of EU State Aid rules. The UK government and certain UK-based international companies, supported by Micro Focus, appealed to the General Court of the Court of Justice of the European Union (General Court of the CJEU) against the decision.
In February 2021, Micro Focus received and settled GBP denominated State Aid charging notices issued by HM Revenue and Customs, following the requirement for the UK government to start collection proceedings. As a result, Micro Focus recorded a long-term income tax receivable of $42.9 million. This reflects the payment that was made following the final decision published by the European Commission on its State Aid investigation into the UK’s “Financing Company Partial Exemption” legislation. Based on management’s assessment of the value of the underlying tax benefit under dispute, and as supported by external professional advice, Micro Focus believed they had no liability in respect of these matters and therefore no tax charge was recorded.
On June 8, 2022, the General Court of the CJEU found in favor of the European Commission’s decision that the UK’s “Financing Company Partial Exemption” legislation is in breach of EU State Aid rules. The UK government and UK-based international companies, supported by Micro Focus, lodged an appeal against the judgement with the CJEU. Micro Focus previously received and settled State Aid charging notices from HM Revenue and Customs (including historic interest) and given that an appeal would be expected to take more than a year, a long-term income tax recoverable continues to be recognized as part of non-current tangible assets as of September 30, 2023, in the preliminary purchase price allocation relating to the Micro Focus Acquisition, as described in Note 19 “Acquisitions.”
NOTE 16—FAIR VALUE MEASUREMENT
ASC Topic 820 “Fair Value Measurement” (Topic 820) defines fair value, establishes a framework for measuring fair value, and addresses disclosure requirements for fair value measurements. Fair value is the price that would be received upon sale of an asset or paid upon transfer of a liability in an orderly transaction between market participants at the measurement date
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and in the principal or most advantageous market for that asset or liability. The fair value, in this context, should be calculated based on assumptions that market participants would use in pricing the asset or liability, not on assumptions specific to the entity. In addition, the fair value of liabilities should include consideration of non-performance risk, including our own credit risk.
In addition to defining fair value and addressing disclosure requirements, Topic 820 establishes a fair value hierarchy for valuation inputs. The hierarchy prioritizes the inputs into three levels based on the extent to which inputs used in measuring fair value are observable in the market. Each fair value measurement is reported in one of the three levels which are determined by the lowest level input that is significant to the fair value measurement in its entirety. These levels are:
•Level 1—inputs are based upon unadjusted quoted prices for identical instruments traded in active markets.
•Level 2—inputs are based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
•Level 3—inputs are generally unobservable and typically reflect management’s estimates of assumptions that market participants would use in pricing the asset or liability. The fair values are therefore determined using model-based techniques that include option pricing models, discounted cash flow models and similar techniques.
Financial Assets and Liabilities Measured at Fair Value:
Our cash and cash equivalents, along with our accounts receivable and accounts payable and accrued liabilities balances, are measured and recognized in our Condensed Consolidated Financial Statements at an amount that approximates the fair value (a Level 2 measurement) due to their short maturities. The carrying value of our other long-term debt facilities approximates the fair value since the interest rate is at market. See Note 11 “Long-Term Debt” for further details.
The following table summarizes the fair value of our financial instruments as of September 30, 2023 and June 30, 2023:
| Fair Value | |||||||||||||||||
| Fair Value Hierarchy | September 30, 2023 | June 30, 2023 | |||||||||||||||
| Assets: | |||||||||||||||||
Available-for-sale financial assets (Note 9) | Level 2 | $ | 14,958 | $ | 15,231 | ||||||||||||
Available-for-sale financial assets (Note 9) | Level 3 | $ | 24,090 | $ | 24,627 | ||||||||||||
Derivative asset (Note 17) | Level 2 | $ | 931 | $ | 3,547 | ||||||||||||
Derivative liability (Note 17) | Level 2 | $ | (127,152) | $ | (161,191) | ||||||||||||
Senior Notes (Note 11) (1) | Level 2 | $ | (3,763,513) | $ | (3,827,888) | ||||||||||||
______________________
(1) Senior Notes are presented within the Condensed Consolidated Balance Sheets at amortized cost. See Note 11 “Long-Term Debt” for further details.
Changes in Level 3 Fair Value Measurements
The following table provides a reconciliation of changes in the fair value of our Level 3 available-for-sale financial assets between June 30, 2023 and September 30, 2023.
| Available-for-sale financial assets | |||||
Balance as of June 30, 2023 | $ | 24,627 | |||
| Gain (loss) recognized in income | (537) | ||||
Balance as of September 30, 2023 | $ | 24,090 | |||
Our derivative liabilities and our derivative assets are classified as Level 2 and are comprised of foreign currency forward and swap contracts. Our valuation techniques used to measure the fair value of the derivative instruments, the counterparties to which have high credit ratings, were derived from pricing models including discounted cash flow techniques, with all significant inputs derived from or corroborated by observable market data, as no quoted market prices exist for these
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instruments. Our discounted cash flow techniques use observable market inputs, such as, where applicable, foreign currency spot and forward rates.
Our available-for-sale financial assets are classified as either Level 2 or Level 3. Our Level 2 available-for-sale financial assets are comprised primarily of various debt and equity funds, which are valued utilizing market quotes provided by our third-party custodian. Our Level 3 available-for-sale financial assets are comprised of insurance contracts which are valued by an external insurance expert by applying a discount rate to the future cash flows and taking into account the fixed interest rate, mortality rates and term of the insurance contracts. See Note 9 “Prepaid Expenses and Other Assets” for further details.
If applicable, we will recognize transfers between levels within the fair value hierarchy at the end of the reporting period in which the actual event or change in circumstance occurs. During the three months ended September 30, 2023 and 2022, respectively, we did not have any transfers between Level 1, Level 2 or Level 3.
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
We measure certain assets and liabilities at fair value on a nonrecurring basis. These assets and liabilities are recognized at fair value when they are deemed to be other-than-temporarily impaired. During the three months ended September 30, 2023 and 2022, respectively, no indications of impairments were identified and therefore no fair value measurements were required.
NOTE 17—DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
Non-designated Hedges
In connection with the Micro Focus Acquisition, in August 2022, we entered into certain derivative transactions to meet certain foreign currency obligations under UK cash confirmation requirements related to the purchase price of the Micro Focus Acquisition, mitigate the risk of foreign currency appreciation in the GBP denominated purchase price and mitigate the risk of foreign currency appreciation in the EUR denominated existing debt held by Micro Focus. We entered into the following derivatives: (i) three deal-contingent forward contracts, (ii) a non-contingent forward contract, and (iii) EUR/USD cross currency swaps.
The deal-contingent forward contracts had an aggregate notional amount of £1.475 billion. The non-contingent forward contract had a notional amount of £350 million. The cross currency swaps are comprised of 5-year EUR/USD cross currency swaps with a notional amount of €690 million and 7-year EUR/USD cross currency swaps with a notional amount of €690 million.
These instruments were entered into as economic hedges to mitigate foreign currency risks associated with the Micro Focus Acquisition. The instruments did not initially qualify for hedge accounting at the time they were entered into. In connection with the closing of the Micro Focus Acquisition, the deal-contingent forward and non-deal contingent forward contracts were settled and we designated the 7-year EUR/USD cross currency swaps as net investment hedges (see further details below). The 5-year EUR/USD cross currency swaps are non-designated and are measured at fair value with changes to fair value being recognized in the Condensed Consolidated Statements of Income within “Other income (expense), net.”
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Net Investment Hedge
During the third quarter of Fiscal 2023, the Company designated the €690 million of 7-year EUR/USD cross currency swaps as net investment hedges in accordance with “Derivatives and Hedging” (Topic 815). The Company utilizes the designated cross currency swaps to protect our EUR-denominated operations against exchange rate fluctuations.
The Company assesses the hedge effectiveness of its net investment hedges on a quarterly basis utilizing a method based on the changes in spot price. As such, for derivative instruments designated as net investment hedges, changes in fair value of the designated hedging instruments attributable to fluctuations in the foreign currency spot exchange rates are initially recorded as a component of currency translation adjustments included within Condensed Consolidated Statements of Comprehensive Income until the hedged foreign operations are either sold or substantially liquidated.
In accordance with Topic 815 certain components of the designated cross currency swaps relating to counterparty credit risk and forward exchange rates were excluded from the above effectiveness assessment. The fair value of these excluded components will be amortized over the life of the hedging instruments within “Interest and other related expense, net” within the Condensed Consolidated Statements of Income. Additionally, we will record the cash flows related to the periodic interest settlements on the 5-year EUR/USD cross currency swaps within the investing activities section of the Condensed Consolidated Statements of Cash Flows. Any gains or losses recognized upon settlement of the cross currency swaps will be recorded within the investing activities section of the Condensed Consolidated Statements of Cash Flows.
Cash Flow Hedge
We are engaged in hedging programs with various banks to limit the potential foreign exchange fluctuations incurred on future cash flows relating to a portion of our Canadian dollar payroll expenses. We operate internationally and are therefore exposed to foreign currency exchange rate fluctuations in the normal course of our business, in particular to changes in the Canadian dollar on account of large costs that are incurred from our centralized Canadian operations, which are denominated in Canadian dollars. As part of our risk management strategy, we use foreign currency forward contracts to hedge portions of our payroll exposure with typical maturities of between and twelve months. We do not use foreign currency forward contracts for speculative purposes.
We have designated these transactions as cash flow hedges of forecasted transactions under Topic 815. As the critical terms of the hedging instrument and of the entire hedged forecasted transaction are the same, in accordance with Topic 815, we have been able to conclude that changes in fair value or cash flows attributable to the risk being hedged are expected to completely offset at inception and on an ongoing basis. Accordingly, quarterly unrealized gains or losses on the effective portion of these forward contracts have been included within “Other Comprehensive Income (Loss) - net.” The fair value of the contracts as of September 30, 2023, is recorded within “Accounts payable and accrued liabilities” and represents the net loss before tax effect that is expected to be reclassified from accumulated other comprehensive income (loss) into earnings with the next twelve months.
As of September 30, 2023, the notional amount of forward contracts we held to sell U.S. dollars in exchange for Canadian dollars was $96.5 million (June 30, 2023—$96.3 million).
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Fair Value of Derivative Instruments and Effect of Derivative Instruments on Financial Performance
The fair values of outstanding derivative instruments are as follows:
| As of September 30, 2023 | As of June 30, 2023 | ||||||||||||||||||||||||||||
| Instrument | Balance Sheet Location | Asset | Liability | Asset | Liability | ||||||||||||||||||||||||
| Derivatives designated as hedges: | |||||||||||||||||||||||||||||
| Cash flow hedge | Prepaid expenses and other current assets (Accounts payable and accrued liabilities) | $ | — | $ | (963) | $ | 1,530 | $ | — | ||||||||||||||||||||
| Net investment hedge | 304 | (70,748) | 596 | (87,855) | |||||||||||||||||||||||||
Total derivatives designated as hedges | 304 | (71,711) | 2,126 | (87,855) | |||||||||||||||||||||||||
| Derivatives not designated as hedges: | |||||||||||||||||||||||||||||
| Cross currency swap contracts | 627 | (55,441) | 1,421 | (73,336) | |||||||||||||||||||||||||
Total derivatives not designated as hedges | 627 | (55,441) | 1,421 | (73,336) | |||||||||||||||||||||||||
| Total derivatives | $ | 931 | $ | (127,152) | $ | 3,547 | $ | (161,191) | |||||||||||||||||||||
The effects of gains (losses) from derivative instruments on our Condensed Consolidated Statements of Income is as follows:
| Three Months Ended September 30, | ||||||||||||||||||||
| Instrument | Income Statement Location | 2023 | 2022 | |||||||||||||||||
| Derivatives designated as hedges: | ||||||||||||||||||||
| Cash flow hedge | Operating expenses | $ | (12) | $ | (800) | |||||||||||||||
| Net investment hedge | Interest and other related expense, net | 922 | — | |||||||||||||||||
| Derivatives not designated as hedges: | ||||||||||||||||||||
| Deal-contingent forward contract | Other income (expense), net | — | (125,331) | |||||||||||||||||
| Non-contingent forward contract | Other income (expense), net | — | (26,203) | |||||||||||||||||
| Cross currency swap contracts | Other income (expense), net | 17,895 | (29,927) | |||||||||||||||||
| Cross currency swap contracts | 856 | — | ||||||||||||||||||
| Total | $ | 19,661 | $ | (182,261) | ||||||||||||||||
The effects of the cash flow and net investment hedges on our Condensed Consolidated Statements of Comprehensive Income:
| Three Months Ended September 30, | |||||||||||||||||
Condensed Consolidated Statements of Income and Condensed Consolidated Statements of Comprehensive Income Location | 2023 | 2022 | |||||||||||||||
| Gain (loss) recognized in OCI (loss) on cash flow hedge (effective portion) | Unrealized gain (loss) on cash flow hedge | $ | (2,505) | $ | (4,546) | ||||||||||||
| Gain (loss) recognized in OCI (loss) on net investment hedge (effective portion) | Net foreign currency translation adjustment | $ | 17,107 | $ | — | ||||||||||||
| Gain (loss) reclassified from AOCI into income (effective portion) - cash flow hedge | Operating expenses | $ | (12) | $ | (800) | ||||||||||||
| Gain (loss) reclassified from AOCI into income (excluded from effectiveness testing) - net investment hedge | Interest and other related expense, net | $ | 561 | $ | — | ||||||||||||
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NOTE 18—SPECIAL CHARGES (RECOVERIES)
Special charges (recoveries) include costs and recoveries that relate to certain restructuring initiatives that we have undertaken from time to time under our various restructuring plans, as well as acquisition-related costs and other charges.
| Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
| Micro Focus Acquisition Restructuring Plan | $ | 6,864 | $ | — | |||||||
| Fiscal 2022 Restructuring Plan | 173 | 6,110 | |||||||||
| Other historical restructuring plans | (290) | (468) | |||||||||
| Acquisition-related costs | 1,070 | 4,585 | |||||||||
| Other charges (recoveries) | 5,977 | 4,054 | |||||||||
| Total | $ | 13,794 | $ | 14,281 | |||||||
Micro Focus Acquisition Restructuring Plan
During the third quarter of Fiscal 2023, as part of the Micro Focus Acquisition, we made a strategic decision to implement restructuring activities to reduce our overall workforce and further reduce our real estate footprint around the world (Micro Focus Acquisition Restructuring Plan). The Micro Focus Acquisition Restructuring Plan charges relate to facility costs and workforce reductions. Facility costs include the accelerated amortization associated with the abandonment of right of use assets, the write-off of fixed assets and other related variable lease and exit costs. These charges require management to make certain judgments and estimates regarding the amount and timing of restructuring charges or recoveries. Our estimated liability could change subsequent to its recognition, requiring adjustments to the expense and the liability recorded. On a quarterly basis, we conduct an evaluation of the related liabilities and expenses and revise our assumptions and estimates as appropriate.
During the three months ended September 30, 2023, we recognized costs of $5.5 million related to abandoned office spaces that have been early terminated or assigned to a third party, of which $4.1 million was related to the write-off of right of use assets, and $0.4 million in charges associated with the write off of fixed assets as part of the Micro Focus Acquisition Restructuring Plan.
As of September 30, 2023, we expect total costs to be incurred in connection with the Micro Focus Acquisition Restructuring Plan to be approximately $135.0 million to $150.0 million, of which $79.1 million has been recorded within “Special charges (recoveries)” to date.
A reconciliation of the beginning and ending restructuring liability, which is included within “Accounts payable and accrued liabilities” in our Condensed Consolidated Balance Sheets, for the three months ended September 30, 2023 is shown below.
| Micro Focus Acquisition Restructuring Plan | Workforce reduction | Facility charges | Total | ||||||||||||||
Balance payable as of June 30, 2023 | $ | 25,816 | $ | 7,276 | $ | 33,092 | |||||||||||
| Accruals and adjustments | 1,407 | 1,367 | 2,774 | ||||||||||||||
| Cash payments | (9,414) | (1,050) | (10,464) | ||||||||||||||
| Foreign exchange and other non-cash adjustments | (334) | (31) | (365) | ||||||||||||||
Balance payable as of September 30, 2023 | $ | 17,475 | $ | 7,562 | $ | 25,037 | |||||||||||
Fiscal 2022 Restructuring Plan
During the third quarter of Fiscal 2022, as part of our return to office planning, we made a strategic decision to implement restructuring activities to streamline our operations and further reduce our real estate footprint around the world (Fiscal 2022 Restructuring Plan). The Fiscal 2022 Restructuring Plan charges will relate to facility costs and workforce reductions. Facility costs will include the accelerated amortization associated with the abandonment of right of use assets, the write-off of fixed assets and other related variable lease and exit costs. These charges require management to make certain judgments and estimates regarding the amount and timing of restructuring charges or recoveries. Our estimated liability could change subsequent to its recognition, requiring adjustments to the expense and the liability recorded. On a quarterly basis, we conduct an evaluation of the related liabilities and expenses and revise our assumptions and estimates as appropriate.
During the three months ended September 30, 2023, we recognized costs of $0.2 million related to abandoned office space that have been early terminated or assigned to a third party.
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Since the inception of the Fiscal 2022 Restructuring Plan, $32.7 million has been recorded within “Special charges (recoveries)” to date. We do not expect to incur any further significant charges relating to the Fiscal 2022 Restructuring Plan.
A reconciliation of the beginning and ending restructuring liability, which is included within “Accounts payable and accrued liabilities” in our Condensed Consolidated Balance Sheets, for the three months ended September 30, 2023 is shown below.
| Fiscal 2022 Restructuring Plan | Workforce reduction | Facility charges | Total | ||||||||||||||
Balance payable as of June 30, 2023 | $ | 497 | $ | 3,308 | $ | 3,805 | |||||||||||
| Accruals and adjustments | — | 127 | 127 | ||||||||||||||
| Cash payments | (118) | (274) | (392) | ||||||||||||||
| Foreign exchange and other non-cash adjustments | (8) | (88) | (96) | ||||||||||||||
Balance payable as of September 30, 2023 | $ | 371 | $ | 3,073 | $ | 3,444 | |||||||||||
Acquisition-related costs
Acquisition-related costs, recorded within “Special charges (recoveries)” include direct costs of potential and completed acquisitions. Acquisition-related costs for the three months ended September 30, 2023 were $1.1 million (three months ended September 30, 2022—$4.6 million).
Other charges (recoveries)
For the three months ended September 30, 2023, “Other charges (recoveries)” includes $2.9 million of Micro Focus compensation related charges, $1.6 million of miscellaneous professional advisory charges, $1.1 million of other miscellaneous charges and $0.4 million related to pre-acquisition equity incentives of Zix Corporation (Zix), which upon acquisition were replaced by equivalent value cash settlements.
For the three months ended September 30, 2022, “Other charges” includes $3.6 million related to Zix pre-acquisition equity incentives, which upon acquisition were replaced by equivalent value cash settlements and $0.5 million related to other miscellaneous charges.
NOTE 19—ACQUISITIONS
Fiscal 2024 Acquisitions
Other Acquisition
On August 23, 2023, we acquired all of the equity interest in KineMatik Ltd. (KineMatik), a provider of automated business process and project management solutions built on OpenText’s Content Server. In accordance with ASC Topic 805, “Business Combinations”, this acquisition was accounted for as a business combination. The results of operations of KineMatik have been consolidated with those of OpenText beginning August 24, 2023. The results of KineMatik are not considered to be material to our business.
Fiscal 2023 Acquisitions
Acquisition of Micro Focus
On January 31, 2023, we acquired all of the issued and to be issued share capital of Micro Focus for a total purchase price of $6.2 billion, inclusive of Micro Focus’ cash and repayment of Micro Focus’ outstanding indebtedness, subject to final adjustments.
In connection with the financing of the Micro Focus Acquisition, concurrent with the announcement of the acquisition on August 25, 2022, the Company entered into the Acquisition Term Loan and Bridge Loan as well as certain derivative transactions. On December 1, 2022, the Company issued and sold $1 billion in aggregate principal amount of 6.90% Senior Secured Notes due 2027, amended the Acquisition Term Loan and terminated the Bridge Loan. On January 31, 2023, we drew down the entire aggregate principal amount of $3.585 billion of the Acquisition Term Loan, net of original issuance discount and other fees, and drew down $450 million under the Revolver. We used these proceeds and cash on hand to fund the purchase price consideration and repayment of Micro Focus’ outstanding indebtedness. In conjunction with the closing of the Micro Focus Acquisition, the deal-contingent forward contracts and non-contingent forward contract, as described in Note 17 “Derivative Instruments and Hedging Activities,” were settled.
The results of operations of Micro Focus have been consolidated with those of OpenText beginning February 1, 2023.
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Preliminary Purchase Price Allocation
As of September 30, 2023, the recognized amounts of identifiable assets acquired and liabilities assumed, based on their fair values as of January 31, 2023, are set forth below:
Cash and cash equivalents | $ | 541,584 | |||
Accounts receivable, net of allowances for credit losses (1) | 408,921 | ||||
| Other current assets | 291,221 | ||||
| Non-current tangible assets | 447,764 | ||||
Goodwill (2) (3) | 3,383,746 | ||||
| Intangible customer assets | 2,162,400 | ||||
| Intangible technology assets | 1,392,300 | ||||
| Accounts payable and accrued liabilities | (504,587) | ||||
| Deferred revenues | (1,107,627) | ||||
Other liabilities (3) | (769,285) | ||||
| Net assets acquired | $ | 6,246,437 | |||
(1)The gross amount receivable was $418.2 million of which $9.3 million of this receivable was expected to be uncollectible.
(2)The goodwill of $3.4 billion is primarily attributable to the synergies expected to arise after the acquisition. There is $67.3 million of goodwill that is deductible for tax purposes.
(3)Current period purchase price allocation adjustments of $33.9 million were primarily driven by changes in other liabilities related to adjustments of pre-acquisition short term and deferred tax liabilities.
A settlement related to Micro Focus’ securities litigation that was agreed to prior to the Micro Focus Acquisition has been accrued as part of the liabilities assumed. This settlement, which received final court approval and is now resolved, was fully paid from insurance coverage, and therefore a receivable was recognized as part of the assets acquired. During the third quarter of Fiscal 2023, payment was made into escrow by insurers, and therefore both the associated receivable and liability are no longer included on the Condensed Consolidated Balance Sheets as of September 30, 2023.
The finalization of the above purchase price allocation is pending the finalization of the valuation of fair value for the assets acquired and liabilities assumed, including intangible assets and taxation-related balances as well as for potential unrecorded liabilities. We expect to finalize this determination on or before our quarter ending March 31, 2024.
The unaudited pro forma revenues and net income (loss) of the combined entity for the three months ended September 30, 2022, had the Micro Focus Acquisition been consummated on July 1, 2021, are set forth below:
| Three Months Ended September 30, | |||||
| Supplemental Unaudited Pro Forma Information | 2022 | ||||
| Revenues | $ | 1,462,612 | |||
Net income (loss) | (78,804) | ||||
Net income (loss) attributable to OpenText | (78,848) | ||||
The unaudited pro forma financial information in the table above is presented for information purposes only and is not indicative of the results of operations that would have been achieved if the Micro Focus Acquisition had taken place at the beginning of the periods presented or the results that may be realized in the future.
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NOTE 20—ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)
| Foreign Currency Translation Adjustments | Cash Flow Hedges | Available-for-Sale Financial Assets | Defined Benefit Pension Plans | Accumulated Other Comprehensive Income (Loss) | |||||||||||||||||||||||||
Balance as of June 30, 2023 | $ | (44,114) | $ | 1,124 | $ | (602) | $ | (9,967) | $ | (53,559) | |||||||||||||||||||
| Other comprehensive income (loss) before reclassifications, net of tax | (14,583) | (1,841) | (221) | (19) | (16,664) | ||||||||||||||||||||||||
| Amounts reclassified into net income, net of tax | — | 9 | — | 189 | 198 | ||||||||||||||||||||||||
| Total other comprehensive income (loss) net, for the period | (14,583) | (1,832) | (221) | 170 | (16,466) | ||||||||||||||||||||||||
Balance as of September 30, 2023 | $ | (58,697) | $ | (708) | $ | (823) | $ | (9,797) | $ | (70,025) | |||||||||||||||||||
| Foreign Currency Translation Adjustments | Cash Flow Hedges | Available-for-Sale Financial Assets | Defined Benefit Pension Plans | Accumulated Other Comprehensive Income (Loss) | |||||||||||||||||||||||||
Balance as of June 30, 2022 | $ | (3,316) | $ | (656) | — | $ | (3,687) | $ | (7,659) | ||||||||||||||||||||
| Other comprehensive income (loss) before reclassifications, net of tax | (36,366) | (3,340) | — | 4,164 | (35,542) | ||||||||||||||||||||||||
| Amounts reclassified into net income, net of tax | — | 588 | — | 37 | 625 | ||||||||||||||||||||||||
| Total other comprehensive income (loss) net, for the period | (36,366) | (2,752) | — | 4,201 | (34,917) | ||||||||||||||||||||||||
Balance as of September 30, 2022 | $ | (39,682) | $ | (3,408) | $ | — | $ | 514 | $ | (42,576) | |||||||||||||||||||
NOTE 21—SUPPLEMENTAL CASH FLOW DISCLOSURES
| Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
| Cash paid during the period for interest | $ | 131,867 | $ | 46,423 | |||||||
| Cash received during the period for interest | $ | 11,453 | $ | 5,431 | |||||||
| Cash paid during the period for income taxes | $ | 79,237 | $ | 38,459 | |||||||
NOTE 22—OTHER INCOME (EXPENSE), NET
| Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
| Foreign exchange gains (losses) | $ | 11,434 | $ | (1,361) | |||||||
Unrealized gains (losses) on derivatives not designated as hedges (1) | 17,895 | (181,461) | |||||||||
OpenText share in net income (loss) of equity investees (2) | (9,696) | (6,534) | |||||||||
| Other miscellaneous income (expense) | 537 | 125 | |||||||||
| Total other income (expense), net | $ | 20,170 | $ | (189,231) | |||||||
______________________
(1)Represents the unrealized gains (losses) on our derivatives not designated as hedges related to the Micro Focus Acquisition (see Note 17 “Derivative Instruments and Hedging Activities” for more details).
(2)Represents our share in net income (losses) of equity investees, which approximates fair value and subject to volatility based on market trends and business conditions, based on our interest in certain investment funds in which we are a limited partner. Our interests in each of these investees range from 4% to below 20% and these investments are accounted for using the equity method (see Note 9 “Prepaid Expenses and Other Assets” for more details).
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NOTE 23—EARNINGS (LOSS) PER SHARE
Basic earnings (loss) per share are computed by dividing net income (loss) attributable to OpenText, by the weighted average number of Common Shares outstanding during the period. Diluted earnings (loss) per share are computed by dividing net income (loss) attributable to OpenText, by the shares used in the calculation of basic earnings (loss) per share plus the dilutive effect of Common Share equivalents, such as stock options, using the treasury stock method. Common Share equivalents are excluded from the computation of diluted earnings (loss) per share if their effect is anti-dilutive. For periods in which we incur a net loss, our outstanding Common Share equivalents are not included in the calculation of diluted loss per share as their effect is anti-dilutive.
| Three Months Ended September 30, | |||||||||||
| 2023 | 2022 | ||||||||||
Basic earnings (loss) per share | |||||||||||
Net income (loss) attributable to OpenText | $ | 80,901 | $ | (116,929) | |||||||
Basic earnings (loss) per share attributable to OpenText | $ | 0.30 | $ | (0.43) | |||||||
Diluted earnings (loss) per share | |||||||||||
Net income (loss) attributable to OpenText | $ | 80,901 | $ | (116,929) | |||||||
Diluted earnings (loss) per share attributable to OpenText | $ | 0.30 | $ | (0.43) | |||||||
Weighted-average number of shares outstanding (in ‘000’s) | |||||||||||
| Basic | 271,178 | 269,804 | |||||||||
| Effect of dilutive securities | 724 | — | |||||||||
| Diluted | 271,902 | 269,804 | |||||||||
Excluded as anti-dilutive (1) | 7,304 | 9,452 | |||||||||
______________________
(1)Represents options to purchase Common Shares excluded from the calculation of diluted earnings (loss) per share because the exercise price of the stock options was greater than or equal to the average price of the Common Shares during the period or the inclusion of the potential dilutive options to purchase Common Shares results in anti-dilution due to the net loss for the period.
NOTE 24—RELATED PARTY TRANSACTIONS
Our procedure regarding the approval of any related party transaction requires that the material facts of such transaction be reviewed by the independent members of the Audit Committee and the transaction be approved by a majority of the independent members of the Audit Committee. The Audit Committee reviews all transactions in which we are, or will be, a participant and any related party has or will have a direct or indirect interest in the transaction. In determining whether to approve a related party transaction, the Audit Committee generally takes into account, among other facts it deems appropriate, whether the transaction is on terms no less favorable than terms generally available to an unaffiliated third party under the same or similar circumstances; the extent and nature of the related person’s interest in the transaction; the benefits to the Company of the proposed transaction; if applicable, the effects on a director’s independence; and if applicable, the availability of other sources of comparable services or products.
During the three months ended September 30, 2023, Mr. Stephen Sadler, a member of the Board of Directors, earned $3 thousand (three months ended September 30, 2022—$7 thousand) in consulting fees from OpenText for assistance with acquisition-related business activities. Mr. Sadler abstained from voting on all transactions from which he would potentially derive consulting fees.
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NOTE 25—SUBSEQUENT EVENTS
Cash Dividends
As part of our quarterly, non-cumulative cash dividend program, we declared, on November 1, 2023, a dividend of $0.25 per Common Share. The record date for this dividend is December 1, 2023 and the payment date is December 20, 2023. Future declarations of dividends and the establishment of future record and payment dates are subject to the final determination and discretion of our Board.
Debt Repayment
Following the end of the quarter, on October 10, 2023 we repaid the outstanding balance on the Revolver of $100 million and on October 20, 2023 we repaid $75 million of the outstanding balance on the Acquisition Term Loan using cash on hand. As of October 31, 2023, we had a balance of nil and $3.5 billion outstanding on our Revolver and Acquisition Term Loan, respectively.
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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
This Quarterly Report on Form 10-Q, including this Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A), contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 21E of the U.S. Securities Exchange Act of 1934, as amended (the Exchange Act), and Section 27A of the U.S. Securities Act of 1933, as amended (the Securities Act), and is subject to the safe harbors created by those sections. All statements other than statements of historical facts are statements that could be deemed forward-looking statements.
When used in this report, the words “anticipates”, “expects”, “intends”, “plans”, “believes”, “seeks”, “estimates”, “may”, “could”, “would”, “might”, “will” and other similar language, as they relate to Open Text Corporation (OpenText or the Company), are intended to identify forward-looking statements under applicable securities laws. Specific forward-looking statements in this report include, but are not limited to, statements regarding: (i) our focus in the fiscal years beginning July 1, 2023 and ending June 30, 2024 (Fiscal 2024) and July 1, 2024 and ending June 30, 2025 (Fiscal 2025) on growth in earnings and cash flows; (ii) creating value through investments in broader Information Management capabilities; (iii) our future business plans and operations, and business planning process; (iv) business trends; (v) distribution; (vi) the Company’s presence in the cloud and in growth markets; (vii) product and solution developments, enhancements and releases, the timing thereof and the customers targeted; (viii) the Company’s financial condition, results of operations and earnings; (ix) the basis for any future growth and for our financial performance; (x) declaration of quarterly dividends; (xi) future tax rates; (xii) the changing regulatory environment; (xiii) annual recurring revenues; (xiv) research and development and related expenditures; (xv) our building, development and consolidation of our network infrastructure; (xvi) competition and changes in the competitive landscape; (xvii) our management and protection of intellectual property and other proprietary rights; (xviii) existing and foreign sales and exchange rate fluctuations; (xix) cyclical or seasonal aspects of our business; (xx) capital expenditures; (xxi) potential legal and/or regulatory proceedings; (xxii) acquisitions and their expected impact, including our ability to realize the benefits expected from the acquisitions and to successfully integrate the assets we acquire or utilize such assets to their full capacity, including in connection with the acquisition of Micro Focus International Limited, formerly Micro Focus International plc, and its subsidiaries (Micro Focus) (see Note 19 “Acquisitions” to our Condensed Consolidated Financial Statements for more details); (xxiii) tax audits; (xxiv) the expected impact of our decision to cease all direct business in Russia and Belarus and with known Russian-owned companies;(xxv) expected costs of the restructuring plans; (xxvi) targets regarding greenhouse gas emissions, waste diversion, energy consumption and Equity, Diversity and Inclusion (ED&I) initiatives; (xvii) integration of Micro Focus, resulting synergies and timing thereof; and (xxviii) other matters.
In addition, any statements or information that refer to expectations, beliefs, plans, projections, objectives, performance or other characterizations of future events or circumstances, including any underlying assumptions, are forward-looking, and based on our current expectations, forecasts and projections about the operating environment, economies and markets in which we operate. Forward-looking statements reflect our current estimates, beliefs and assumptions, which are based on management’s perception of historic trends, current conditions and expected future developments, as well as other factors it believes are appropriate in the circumstances. The forward-looking statements contained in this report are based on certain assumptions including the following: (i) countries continuing to implement and enforce existing and additional customs and security regulations relating to the provision of electronic information for imports and exports; (ii) our continued operation of a secure and reliable business network; (iii) the stability of general political, economic and market conditions; (iv) our ability to manage inflation, including increased labour costs associated with attracting and retaining employees, and rising interest rates; (v) our continued ability to manage certain foreign currency risk through hedging; (vi) equity and debt markets continuing to provide us with access to capital; (vii) our continued ability to identify, source and finance attractive and executable business combination opportunities; (viii) our continued ability to avoid infringing third party intellectual property rights; and (ix) our ability to successfully implement our restructuring plans. Management’s estimates, beliefs and assumptions are inherently subject to significant business, economic, competitive and other uncertainties and contingencies regarding future events and, as such, are subject to change. We can give no assurance that such estimates, beliefs and assumptions will prove to be correct.
Forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to differ materially from the anticipated results, performance or achievements expressed or implied by such forward-looking statements. The risks and uncertainties that may affect forward-looking statements include, but are not limited to: (i) our inability to realize successfully any anticipated synergy benefits from the acquisition of Micro Focus (Micro Focus Acquisition); (ii) the actual and potential impacts of the use of cash and incurrence of indebtedness, including the granting of security interests related to such debt; (iii) the change in scope and size of our operations as a result of the Micro Focus Acquisition; (iv) the uncertainty around expectations related to Micro Focus’ business prospects; (v) integration of acquisitions and related restructuring efforts, including the quantum of restructuring charges and the timing thereof; (vi) the possibility that we may be unable to successfully integrate the assets we acquire or fail to utilize such assets to their full capacity and not realize the benefits we expect from our acquired portfolios and businesses, including the acquisition of Micro Focus, (vii) the potential for the incurrence of or assumption of debt in connection with acquisitions, its impact on future operations and on the ratings or outlooks of rating agencies on our outstanding debt securities, and the possibility of not
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being able to generate sufficient cash to service all indebtedness; (viii) the possibility that the Company may be unable to meet its future reporting requirements under the Exchange Act, and the rules promulgated thereunder, or applicable Canadian securities regulation; (ix) the risks associated with bringing new products and services to market; (x) fluctuations in currency exchange rates (including as a result of the impact of any policy changes resulting from trade and tariff disputes) and the impact of mark-to-market valuation relating to associated derivatives; (xi) delays in the purchasing decisions of the Company’s customers; (xii) competition the Company faces in its industry and/or marketplace; (xiii) the final determination of litigation, tax audits (including tax examinations in Canada, the United States or elsewhere) and other legal proceedings; (xiv) potential exposure to greater than anticipated tax liabilities or expenses, including with respect to changes in Canadian, United States or international tax regimes; (xv) the possibility of technical, logistical or planning issues in connection with the deployment of the Company’s products or services; (xvi) the continuous commitment of the Company’s customers; (xvii) demand for the Company’s products and services; (xviii) increase in exposure to international business risks including the impact of geopolitical instability, political unrest, war and other global conflicts, and other geopolitical tensions, including the Russia-Ukraine and the Israel-Hamas wars, as we continue to increase our international operations; (xix) adverse macroeconomic conditions, including inflation, disruptions in global supply chains and increased labour costs; (xx) inability to raise capital at all or on not unfavorable terms in the future; (xxi) downward pressure on our share price and dilutive effect of future sales or issuances of equity securities (including in connection with future acquisitions); and (xxii) potential changes in ratings or outlooks of rating agencies on our outstanding debt securities. Other factors that may affect forward-looking statements include, but are not limited to: (i) the future performance, financial and otherwise, of the Company; (ii) the ability of the Company to bring new products and services to market and to increase sales; (iii) the strength of the Company’s product development pipeline; (iv) failure to secure and protect patents, trademarks and other proprietary rights; (v) infringement of third-party proprietary rights triggering indemnification obligations and resulting in significant expenses or restrictions on our ability to provide our products or services; (vi) failure to comply with privacy laws and regulations that are extensive, open to various interpretations and complex to implement; (vii) the Company’s growth and other profitability prospects; (viii) the estimated size and growth prospects of the Information Management market; (ix) the Company’s competitive position in the Information Management market and its ability to take advantage of future opportunities in this market; (x) the benefits of the Company’s products and services to be realized by customers; (xi) the demand for the Company’s products and services and the extent of deployment of the Company’s products and services in the Information Management marketplace; (xii) the Company’s financial condition and capital requirements; (xiii) system or network failures or information security, cybersecurity or other data breaches in connection with the Company’s offerings or the information technology systems used by the Company generally, the risk of which may be increased during times of natural disaster or pandemic due to remote working arrangements; (xiv) failure to achieve our environmental goals on energy consumption, waste diversion and greenhouse gas emissions or our targets relating to ED&I initiatives; (xv) failure to attract and retain key personnel to develop and effectively manage the Company’s business; and (xvi) the ability of the Company’s subsidiaries to make distributions to the Company.
Readers should carefully review Part II, Item 1A “Risk Factors” herein and the Company's Annual Report on Form 10-K, including Part I, Item 1A “Risk Factors” therein, Quarterly Reports on Form 10-Q, including Item 1A therein and other documents we file from time to time with the Securities and Exchange Commission (SEC) and other securities regulators. A number of factors may materially affect our business, financial condition, operating results and prospects. These factors include but are not limited to those set forth in Part II, Item 1A “Risk Factors” and elsewhere in this Quarterly Report on Form 10-Q and in the Company's Annual Report on Form 10-K. Any one of these factors, and other factors that we are unaware of, or currently deem immaterial, may cause our actual results to differ materially from recent results or from our anticipated future results. Readers are cautioned not to place undue reliance upon any such forward-looking statements, which speak only as of the date made. Unless otherwise required by applicable securities laws, the Company disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
The following MD&A is intended to help readers understand our results of operations and financial condition, and is provided as a supplement to, and should be read in conjunction with, our Condensed Consolidated Financial Statements and the accompanying Notes to our Condensed Consolidated Financial Statements under Part I, Item 1 of this Quarterly Report on Form 10-Q.
All dollar and percentage comparisons made herein refer to the three months ended September 30, 2023 compared with the three months ended September 30, 2022, unless otherwise noted.
Where we say “we”, “us”, “our”, “OpenText” or “the Company”, we mean Open Text Corporation or Open Text Corporation and its subsidiaries, as applicable.
EXECUTIVE OVERVIEW
At OpenText, we believe information and knowledge make business and people better. We are an Information Management company that provides software and services that empower digital businesses of all sizes to become more
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intelligent, connected, secure and responsible. Our innovations maximize the strategic benefits of data and content for our customers, strengthening their productivity, growth and competitive advantage.
Our comprehensive Information Management platform and services provide secure and scalable solutions for global companies, small and medium-sized businesses (SMBs), governments and consumers around the world. We have a complete and integrated portfolio of Information Management solutions delivered at scale in the OpenText Cloud, helping organizations master modern work, automate application delivery and modernization, and optimize their digital supply chains. To do this, we bring together our Content Cloud, Cybersecurity Cloud, Business Network Cloud, IT Operations Management Cloud, Application Automation Cloud and Analytics & AI Cloud. We also accelerate information modernization with intelligent tools and services for moving off paper, automating classification and building clean data lakes for Artificial Intelligence (AI), analytics and automation.
We are fundamentally integrated into the parts of our customers’ businesses that matter, so they can securely manage the complexity of information flow end to end. Through automation and AI, we connect, synthesize and deliver information where it is needed to drive new efficiencies, experiences and insights. We make information more valuable by connecting it to digital business processes, enriching it with analytics, protecting and securing it throughout its entire lifecycle, and leveraging it to create engaging experiences for employees, suppliers, developers, partners, and customers. Our solutions range from connecting large digital supply chains to managing HR processes to driving better IT service management in manufacturing, retail and financial services.
Our solutions also enable organizations and consumers to secure their information so that they can collaborate with confidence, stay ahead of the regulatory technology curve, identify threats on any endpoint or across their networks, enable privacy, leverage eDiscovery and digital forensics to defensibly investigate and collect evidence, and ensure business continuity in the event of a security incident.
Our initial public offering was on the NASDAQ in 1996 and we were subsequently listed on the Toronto Stock Exchange (TSX) in 1998. Our ticker symbol on both the NASDAQ and the TSX is “OTEX.”
As of September 30, 2023, we employed a total of approximately 24,050 individuals. Of the total 24,050 individuals we employed as of September 30, 2023, 9,000 or 37% are in the Americas, 5,600 or 23% are in EMEA and 9,450 or 39% are in Asia Pacific. Currently, we have employees in 45 countries enabling strong access to multiple talent pools while ensuring reach and proximity to our customers. Please see “Results of Operations” below for our definitions of geographic regions.
Quarterly Summary:
During the first quarter of Fiscal 2024 (which includes the results of Micro Focus, which has a significant impact on period-over-period comparisons) we saw the following activity:
•Total revenue was $1.4 billion, up 67.3% compared to the same period in the prior fiscal year; up 65.4% after factoring in the favorable impact of $15.9 million of foreign exchange rate changes.
•Total annual recurring revenue, which we define as the sum of cloud services and subscriptions revenue and customer support revenue, was $1.1 billion, up 59.1% compared to the same period in the prior fiscal year; up 57.5% after factoring in the favorable impact of $11.7 million of foreign exchange rate changes.
•Cloud services and subscriptions revenue was $451.0 million, up 11.5% compared to the same period in the prior fiscal year; up 10.9% after factoring in the favorable impact of $2.4 million of foreign exchange rate changes.
•GAAP-based gross margin was 71.4% compared to 69.7% in the same period in the prior fiscal year.
•Non-GAAP-based gross margin was 77.3% compared to 75.2% in the same period in the prior fiscal year.
•GAAP-based net income (loss) attributable to OpenText was $80.9 million compared to $(116.9) million in the same period in the prior fiscal year.
•Non-GAAP-based net income attributable to OpenText was $274.3 million compared to $206.8 million in the same period in the prior fiscal year.
•GAAP-based earnings (loss) per share (EPS), diluted, was $0.30 compared to $(0.43) in the same period in the prior fiscal year.
•Non-GAAP-based EPS, diluted, was $1.01 compared to $0.77 the same period in the prior fiscal year.
•Adjusted EBITDA, a non-GAAP measure, was $494.8 million compared to $304.0 million in the same period in the prior fiscal year.
•Operating cash flow was $47.1 million for the three months ended September 30, 2023 compared to $132.0 million in the same period in the prior fiscal year, down 64.3%.
•Cash and cash equivalents were $919.9 million as of September 30, 2023, compared to $1.2 billion as of June 30, 2023.
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•We repaid $175 million of the outstanding balance on the Revolver. Subsequent to the first quarter, in October 2023, we repaid the $100 million outstanding balance drawn under the Revolver and $75 million drawn under the Acquisition Term Loan.
•Enterprise cloud bookings were $121.0 million, compared to $111.8 million in the same period in the prior fiscal year. We define Enterprise cloud bookings as the total value from cloud services and subscription contracts entered into in the period that is new, committed and incremental to our existing contracts, entered into with our enterprise-based customers.
See “Use of Non-GAAP Financial Measures” below for definitions and reconciliations of GAAP-based measures to Non-GAAP-based measures. See “Acquisitions” below for the impact of acquisitions on the period-to-period comparability of results.
Acquisitions
As a result of the continually changing marketplace in which we operate, we regularly evaluate acquisition opportunities within our market and at any time may be in various stages of discussions with respect to such opportunities.
Acquisition of Micro Focus
On January 31, 2023, we acquired all of the issued and to be issued share capital of Micro Focus for a total purchase price of $6.2 billion, inclusive of Micro Focus’ cash and repayment of Micro Focus’ outstanding indebtedness, subject to final adjustments. The results of operations of Micro Focus have been consolidated with those of OpenText beginning February 1, 2023. The Micro Focus Acquisition has contributed to the growth in our revenues and significantly impacts period-over-period comparability. See Note 19 “Acquisitions” to our Condensed Consolidated Financial Statements for more details.
Impacts of Geopolitical Conflicts and Diplomatic Tensions
We continue to monitor the geopolitical conflicts and diplomatic tensions around the world, including the Russia-Ukraine and Israel-Hamas wars. We have ceased all direct business in Russia and Belarus and with known Russian-owned companies. We continue to operate our Israeli-based business and support our employees in the region. While our operations within these locations are not material and we do not expect these geopolitical conflicts to have a material adverse effect on our overall business, results of operations or financial condition, it is not possible to predict the broader consequences of these conflicts, including adverse effects on the global economy, on our business and operations as well as those of our customers, partners and third party service providers. For more information, please see Part I, Item 1A “Risk Factors” and Part II, Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in our Annual Report on Form 10-K for Fiscal 2023.
Outlook for Remainder of Fiscal 2024
As an organization, we are committed to “Total Growth,” meaning we strive towards delivering value through organic initiatives, innovations and acquisitions, as well as financial performance. With an emphasis on increasing recurring revenues and expanding profitability, we believe our Total Growth strategy will ultimately drive cash flow growth, thus helping to fuel our innovation, broaden our go-to-market distribution and identify and execute strategic acquisitions. We are well positioned to expand our product portfolio and improve our ability to innovate and grow organically, which helps us to meet our long-term growth targets. Our Total Growth strategy is a durable model that we believe will create both near and long-term shareholder value through organic and acquired growth, capital efficiency and profitability.
We are committed to continuous innovation. Our investments in research and development (R&D) push product innovation, increasing the value of our offerings to our existing customer base and new customers, which includes Global 10,000 companies (G10K), SMBs and consumers. The G10K are the world's largest companies, ranked by estimated total revenues, as well as the world's largest governments and global organizations. More valuable products, coupled with our established global partner program, lead to greater distribution and cross-selling opportunities which further help us to achieve organic growth. On a fiscal year-to-date basis, we have invested $234.4 million or 16.4% of revenue in R&D expense, which is in line with our target spend for R&D expense this fiscal year.
Looking ahead, the destination for innovation is cloud. Businesses of all sizes rely on a combination of public and private clouds, managed services and off-cloud solutions. As a result, we are committed to continue to modernize our technology infrastructure and leverage our existing investments in the OpenText Cloud and programs to help customers off-cloud. The combination of OpenText cloud-native applications and managed services, together with the scalability and performance of our partner public cloud providers, offer more secure, reliable and compliant solutions to customers wanting to deploy cloud-based Information Management applications. The OpenText Cloud is designed to build additional flexibility and scalability for our
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customers: becoming cloud-native, connecting anything, and extending capabilities quickly with multi-tenant SaaS applications and services.
The completion of the Micro Focus Acquisition during Fiscal 2023 has substantially expanded our scope and size by adding assets and operations to our existing business. We have incurred and will continue to incur additional integration costs. As part of the Micro Focus Acquisition, we made a strategic decision to implement a restructuring plan that impacted its global workforce and further reduced our real estate footprint around the world in an effort to further streamline our operations, consistent with previously announced cost synergies of $400 million (Micro Focus Acquisition Restructuring Plan). The total size of the plan is expected to result in a reduction in the combined workforce of approximately 8%, or 2,000 employees, with an estimated cost of $135 million to $150 million, of which we have incurred $79.1 million. We expect the Micro Focus Acquisition Restructuring Plan to be completed by the end of Fiscal 2024. See Part I, Item 1A, “Risk Factors” in our Annual Report on Form 10-K for Fiscal 2023. The Micro Focus Acquisition has a significant impact on period-over-period comparability as more fully discussed below.
We will continue to closely monitor the potential impacts of inflation with respect to wages, services and goods, concerns regarding any potential recession, rising interest rates, financial market volatility, the Russia-Ukraine and Israel-Hamas conflicts and other geopolitical disputes on our business. See Part I, Item 1A, “Risk Factors” in our Annual Report on Form 10-K for Fiscal 2023.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements in conformity with U.S. GAAP requires us to make estimates, judgments and assumptions that affect the amounts reported in the Condensed Consolidated Financial Statements. These estimates, judgments and assumptions are evaluated on an ongoing basis. We base our estimates on historical experience and on various other assumptions that we believe are reasonable at that time. Actual results may differ materially from those estimates. The policies listed below are areas that may contain key components of our results of operations and are based on complex rules requiring us to make judgments and estimates and consequently, we consider these to be our critical accounting policies. Some of these accounting policies involve complex situations and require a higher degree of judgment, either in the application and interpretation of existing accounting literature or in the development of estimates that affect our financial statements. The critical accounting policies which we believe are the most important to aid in fully understanding and evaluating our reported financial results include the following:
(i)Revenue recognition,
(ii)Goodwill,
(iii)Acquired intangibles, and
(iv)Income taxes.
For a full discussion of all our accounting policies, please see Note 2 “Accounting Policies and Recent Accounting Pronouncements” to the Consolidated Financial Statements included in our Annual Report on Form 10-K for Fiscal 2023.
RESULTS OF OPERATIONS
The following tables provide a detailed analysis of our results of operations and financial condition. For each of the periods indicated below, we present our revenues by product type, revenues by major geography, cost of revenues by product type, total gross margin, total operating margin, gross margin by product type, and their corresponding percentage of total revenue.
In addition, we provide Non-GAAP measures for the periods discussed to provide additional information to investors that we believe will be useful as this presentation aligns with how our management assesses our Company's performance. See “Use of Non-GAAP Financial Measures” below for a reconciliation of GAAP-based measures to Non-GAAP-based measures.
The comparability of our operating results for the three months ended September 30, 2023 as compared to the three months ended September 30, 2022 was impacted by the recent Micro Focus Acquisition, including with regard to the split of our revenues by geography. Our total revenues increased by $573.4 million across all of our product types in the three months ended September 30, 2023, relative to the three months ended September 30, 2022, primarily due to revenue contributions from the Micro Focus Acquisition, in addition to a favorable impact of $15.9 million of foreign exchange rate changes. The Micro Focus Acquisition contributed $562.9 million to our total revenues during the three months ended September 30, 2023, of which $369.9 million related to customer support revenues and $115.5 million related to license revenues.
Total cost of revenues increased by $148.7 million in the three months ended September 30, 2023, relative to the three months ended September 30, 2022, primarily from additional cost of revenues of $158.2 million as a result of the Micro Focus Acquisition.
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Total operating expenses increased by $358.2 million in the three months ended September 30, 2023, relative to the three months ended September 30, 2022, primarily from additional operating expenses of $350.9 million as a result of the Micro Focus Acquisition, of which $267.9 million was related to research and development, sales and marketing, and general and administrative expenses.
Summary of Results of Operations
_______________________________
| Three Months Ended September 30, | |||||||||||||||||
| (In thousands) | 2023 | Change increase (decrease) | 2022 | ||||||||||||||
| Total Revenues by Product Type: | |||||||||||||||||
| Cloud services and subscriptions | $ | 451,014 | $ | 46,363 | $ | 404,651 | |||||||||||
| Customer support | 697,713 | 380,362 | 317,351 | ||||||||||||||
| License | 173,026 | 110,478 | 62,548 | ||||||||||||||
| Professional service and other | 103,676 | 36,190 | 67,486 | ||||||||||||||
| Total revenues | 1,425,429 | 573,393 | 852,036 | ||||||||||||||
| Total Cost of Revenues | 407,011 | 148,663 | 258,348 | ||||||||||||||
| Total GAAP-based Gross Profit | 1,018,418 | 424,730 | 593,688 | ||||||||||||||
| Total GAAP-based Gross Margin % | 71.4 | % | 69.7 | % | |||||||||||||
| Total GAAP-based Operating Expenses | 805,526 | 358,191 | 447,335 | ||||||||||||||
| Total GAAP-based Income from Operations | $ | 212,892 | $ | 66,539 | $ | 146,353 | |||||||||||
| % Revenues by Product Type: | |||||||||||||||||
| Cloud services and subscriptions | 31.6 | % | 47.5 | % | |||||||||||||
| Customer support | 48.9 | % | 37.2 | % | |||||||||||||
| License | 12.1 | % | 7.3 | % | |||||||||||||
| Professional service and other | 7.4 | % | 8.0 | % | |||||||||||||
| Total Cost of Revenues by Product Type: | |||||||||||||||||
| Cloud services and subscriptions | $ | 171,412 | $ | 39,613 | $ | 131,799 | |||||||||||
| Customer support | 75,014 | 47,660 | 27,354 | ||||||||||||||
| License | 3,839 | 1,081 | 2,758 | ||||||||||||||
| Professional service and other | 79,922 | 26,122 | 53,800 | ||||||||||||||
| Amortization of acquired technology-based intangible assets | 76,824 | 34,187 | 42,637 | ||||||||||||||
| Total cost of revenues | $ | 407,011 | $ | 148,663 | $ | 258,348 | |||||||||||
| % GAAP-based Gross Margin by Product Type: | |||||||||||||||||
| Cloud services and subscriptions | 62.0 | % | 67.4 | % | |||||||||||||
| Customer support | 89.2 | % | 91.4 | % | |||||||||||||
| License | 97.8 | % | 95.6 | % | |||||||||||||
| Professional service and other | 22.9 | % | 20.3 | % | |||||||||||||
Total Revenues by Geography: (1) | |||||||||||||||||
Americas (2) | $ | 845,227 | $ | 287,439 | $ | 557,788 | |||||||||||
EMEA (3) | 445,440 | 217,087 | 228,353 | ||||||||||||||
Asia Pacific (4) | 134,762 | 68,867 | 65,895 | ||||||||||||||
| Total revenues | $ | 1,425,429 | $ | 573,393 | $ | 852,036 | |||||||||||
| % Revenues by Geography: | |||||||||||||||||
Americas (2) | 59.3 | % | 65.5 | % | |||||||||||||
EMEA (3) | 31.2 | % | 26.8 | % | |||||||||||||
Asia Pacific (4) | 9.5 | % | 7.7 | % | |||||||||||||
| Other Metrics: | |||||||||||||||||
| GAAP-based gross margin | 71.4 | % | 69.7 | % | |||||||||||||
Non-GAAP-based gross margin (5) | 77.3 | % | 75.2 | % | |||||||||||||
| Net income (loss), attributable to OpenText | $ | 80,901 | $ | (116,929) | |||||||||||||
| GAAP-based EPS (loss), diluted | $ | 0.30 | $ | (0.43) | |||||||||||||
Non-GAAP-based EPS, diluted (5) | $ | 1.01 | $ | 0.77 | |||||||||||||
Adjusted EBITDA (5) | $ | 494,843 | $ | 304,047 | |||||||||||||
(1)Total revenues by geography are determined based on the location of our direct end customer.
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(2)Americas consists of countries in North, Central and South America.
(3)EMEA consists of countries in Europe, the Middle East and Africa.
(4)Asia Pacific primarily consists of Japan, Australia, China, Korea, Philippines, Singapore, India and New Zealand.
(5)See “Use of Non-GAAP Financial Measures” (discussed later in this MD&A) for definitions and reconciliations of GAAP-based measures to Non-GAAP-based measures.
Revenues, Cost of Revenues and Gross Margin by Product Type
1) Cloud Services and Subscriptions:
Cloud services and subscriptions revenues are from hosting arrangements where in connection with the licensing of software, the end user does not take possession of the software, as well as from end-to-end fully outsourced B2B integration solutions to our customers (collectively referred to as cloud arrangements). The software application resides on our hardware or that of a third party, and the customer accesses and uses the software on an as-needed basis via an identified line. Our cloud arrangements can be broadly categorized as platform as a service (PaaS), SaaS, cloud subscriptions and managed services. For the quarter ended September 30, 2023, our cloud renewal rate, excluding the impact of Carbonite, Zix and Micro Focus remained stable at 94% over the quarter ended September 30, 2022.
Cost of Cloud services and subscriptions revenues is comprised primarily of third-party network usage fees, maintenance of in-house data hardware centers, technical support personnel-related costs and some third party royalty costs.
| Three Months Ended September 30, | |||||||||||||||||
| (In thousands) | 2023 | Change increase (decrease) | 2022 | ||||||||||||||
| Cloud Services and Subscriptions: | |||||||||||||||||
| Americas | $ | 335,045 | $ | 26,698 | $ | 308,347 | |||||||||||
| EMEA | 86,383 | 14,881 | 71,502 | ||||||||||||||
| Asia Pacific | 29,586 | 4,784 | 24,802 | ||||||||||||||
| Total Cloud Services and Subscriptions Revenues | 451,014 | 46,363 | 404,651 | ||||||||||||||
| Cost of Cloud Services and Subscriptions Revenues | 171,412 | 39,613 | 131,799 | ||||||||||||||
| GAAP-based Cloud Services and Subscriptions Gross Profit | $ | 279,602 | $ | 6,750 | $ | 272,852 | |||||||||||
| GAAP-based Cloud Services and Subscriptions Gross Margin % | 62.0 | % | 67.4 | % | |||||||||||||
| % Cloud Services and Subscriptions Revenues by Geography: | |||||||||||||||||
| Americas | 74.3 | % | 76.2 | % | |||||||||||||
| EMEA | 19.2 | % | 17.7 | % | |||||||||||||
| Asia Pacific | 6.5 | % | 6.1 | % | |||||||||||||
Three Months Ended September 30, 2023 Compared to Three Months Ended September 30, 2022
Cloud services and subscriptions revenues increased by $46.4 million or 11.5% during the three months ended September 30, 2023 as compared to the same period in the prior fiscal year; up 10.9% after factoring in the favorable impact of $2.4 million of foreign exchange rate changes. The increase was primarily driven by incremental revenues from the Micro Focus Acquisition, as well as partially driven by organic revenue growth over the comparative period. Geographically, the overall change was attributable to an increase in Americas of $26.7 million, an increase in EMEA of $14.9 million, and an increase in Asia Pacific of $4.8 million.
There were 21 cloud services contracts greater than $1.0 million that closed during the first quarter of Fiscal 2024, compared to 18 contracts during the first quarter of Fiscal 2023.
Cost of Cloud services and subscriptions revenues increased by $39.6 million during the three months ended September 30, 2023 as compared to the same period in the prior fiscal year. This was primarily due to an increase in labour-related costs of $27.1 million and an increase in third-party network usage fees of $12.6 million partially driven by incremental Cloud service and subscriptions cost of revenues from the Micro Focus Acquisition over the comparative period. Overall, the gross margin percentage on Cloud services and subscriptions revenues decreased to 62% from 67%.
2) Customer Support:
Customer support revenues consist of revenues from our customer support and maintenance agreements. These agreements allow our customers to receive technical support, enhancements and upgrades to new versions of our software products when available. Customer support revenues are generated from support and maintenance relating to current year sales of software products and from the renewal of existing maintenance agreements for software licenses sold in prior periods.
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Therefore, changes in Customer support revenues do not always correlate directly to the changes in license revenues from period to period. The terms of support and maintenance agreements are typically twelve months, and are renewable, generally on an annual basis, at the option of the customer. Our management reviews our Customer support renewal rates on a quarterly basis, and we use these rates as a method of monitoring our customer service performance. For the quarter ended September 30, 2023, our Customer support renewal rate decreased to 94%, compared to 95% for the quarter ended September 30, 2022.
Cost of Customer support revenues is comprised primarily of technical support personnel and related costs, as well as third party royalty costs.
| Three Months Ended September 30, | |||||||||||||||||
| (In thousands) | 2023 | Change increase (decrease) | 2022 | ||||||||||||||
| Customer Support Revenues: | |||||||||||||||||
| Americas | $ | 385,860 | $ | 202,388 | $ | 183,472 | |||||||||||
| EMEA | 247,375 | 139,486 | 107,889 | ||||||||||||||
| Asia Pacific | 64,478 | 38,488 | 25,990 | ||||||||||||||
| Total Customer Support Revenues | 697,713 | 380,362 | 317,351 | ||||||||||||||
| Cost of Customer Support Revenues | 75,014 | 47,660 | 27,354 | ||||||||||||||
| GAAP-based Customer Support Gross Profit | $ | 622,699 | $ | 332,702 | $ | 289,997 | |||||||||||
| GAAP-based Customer Support Gross Margin % | 89.2 | % | 91.4 | % | |||||||||||||
| % Customer Support Revenues by Geography: | |||||||||||||||||
| Americas | 55.3 | % | 57.8 | % | |||||||||||||
| EMEA | 35.5 | % | 34.0 | % | |||||||||||||
| Asia Pacific | 9.2 | % | 8.2 | % | |||||||||||||
Three Months Ended September 30, 2023 Compared to Three Months Ended September 30, 2022
Customer support revenues increased by $380.4 million or 119.9% during the three months ended September 30, 2023 as compared to the same period in the prior fiscal year; up 116.9% after factoring in the favorable impact of $9.2 million of foreign exchange rate changes. The increase was primarily driven by incremental Customer support revenue from the Micro Focus Acquisition over the comparative period. Geographically, the overall change was attributable to an increase in Americas of $202.4 million, an increase in EMEA of $139.5 million, and an increase in Asia Pacific of $38.5 million.
Cost of Customer support revenues increased by $47.7 million during the three months ended September 30, 2023 as compared to the same period in the prior fiscal year. This was primarily due to an increase in labour-related costs of $45.9 million primarily driven by incremental Customer support cost of revenues from the Micro Focus Acquisition over the comparative period. Overall, the gross margin percentage on Customer support revenues decreased to 89% from 91%.
3) License:
Our License revenue can be broadly categorized as perpetual licenses, term licenses and subscription licenses. Our License revenues are impacted by the strength of general economic and industry conditions, the competitive strength of our software products, and our acquisitions. Cost of License revenues consists primarily of royalties payable to third parties.
| Three Months Ended September 30, | |||||||||||||||||
| (In thousands) | 2023 | Change increase (decrease) | 2022 | ||||||||||||||
| License Revenues: | |||||||||||||||||
| Americas | $ | 82,556 | $ | 50,960 | $ | 31,596 | |||||||||||
| EMEA | 62,641 | 38,547 | 24,094 | ||||||||||||||
| Asia Pacific | 27,829 | 20,971 | 6,858 | ||||||||||||||
| Total License Revenues | 173,026 | 110,478 | 62,548 | ||||||||||||||
| Cost of License Revenues | 3,839 | 1,081 | 2,758 | ||||||||||||||
| GAAP-based License Gross Profit | $ | 169,187 | $ | 109,397 | $ | 59,790 | |||||||||||
| GAAP-based License Gross Margin % | 97.8 | % | 95.6 | % | |||||||||||||
| % License Revenues by Geography: | |||||||||||||||||
| Americas | 47.7 | % | 50.5 | % | |||||||||||||
| EMEA | 36.2 | % | 38.5 | % | |||||||||||||
| Asia Pacific | 16.1 | % | 11.0 | % | |||||||||||||
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Three Months Ended September 30, 2023 Compared to Three Months Ended September 30, 2022
License revenues increased by $110.5 million or 176.6% during the three months ended September 30, 2023 as compared to the same period in the prior fiscal year; up 172.8% after factoring in the favorable impact of $2.4 million of foreign exchange rate changes. The increase was primarily driven by incremental License revenues from the Micro Focus Acquisition over the comparative period. Geographically, the overall change was attributable to an increase in Americas of $51.0 million, an increase in EMEA of $38.5 million, and an increase in Asia Pacific of $21.0 million.
During the first quarter of Fiscal 2024, we closed 51 license contracts greater than $0.5 million, of which 21 contracts were greater than $1.0 million, contributing $63.9 million of License revenues. This was compared to 22 license contracts greater than $0.5 million during the first quarter of Fiscal 2023, of which 9 contracts were greater than $1.0 million, contributing $22.6 million of License revenues.
Cost of License revenues increased by $1.1 million during the three months ended September 30, 2023 as compared to the same period in the prior fiscal year as a result of higher third-party technology costs primarily driven by incremental cost of License revenue from the Micro Focus Acquisition over the comparative period. Overall, the gross margin percentage on License revenues increased to 98% from 96%.
4) Professional Service and Other:
Professional service and other revenues consist of revenues from consulting contracts and contracts to provide implementation, training and integration services (professional services). Other revenues consist of hardware revenues, which are included within the “Professional service and other” category because they are relatively immaterial to our service revenues. Professional services are typically performed after the purchase of new software licenses. Professional service and other revenues can vary from period to period based on the type of engagements as well as those implementations that are assumed by our partner network.
Cost of Professional service and other revenues consists primarily of the costs of providing integration, configuration and training with respect to our various software products. The most significant components of these costs are personnel-related expenses, travel costs and third-party subcontracting.
| Three Months Ended September 30, | |||||||||||||||||
| (In thousands) | 2023 | Change increase (decrease) | 2022 | ||||||||||||||
| Professional Service and Other Revenues: | |||||||||||||||||
| Americas | $ | 41,766 | $ | 7,393 | $ | 34,373 | |||||||||||
| EMEA | 49,041 | 24,173 | 24,868 | ||||||||||||||
| Asia Pacific | 12,869 | 4,624 | 8,245 | ||||||||||||||
| Total Professional Service and Other Revenues | 103,676 | 36,190 | 67,486 | ||||||||||||||
| Cost of Professional Service and Other Revenues | 79,922 | 26,122 | 53,800 | ||||||||||||||
| GAAP-based Professional Service and Other Gross Profit | $ | 23,754 | $ | 10,068 | $ | 13,686 | |||||||||||
| GAAP-based Professional Service and Other Gross Margin % | 22.9 | % | 20.3 | % | |||||||||||||
| % Professional Service and Other Revenues by Geography: | |||||||||||||||||
| Americas | 40.3 | % | 50.9 | % | |||||||||||||
| EMEA | 47.3 | % | 36.8 | % | |||||||||||||
| Asia Pacific | 12.4 | % | 12.3 | % | |||||||||||||
Three Months Ended September 30, 2023 Compared to Three Months Ended September 30, 2022
Professional service and other revenues increased by $36.2 million or 53.6% during the three months ended September 30, 2023 as compared to the same period in the prior fiscal year; up 50.9% after factoring in the favorable impact of $1.9 million of foreign exchange rate changes. The increase was primarily driven by incremental Professional service and other revenues from the Micro Focus Acquisition over the comparative period. Geographically, the overall change was attributable to an increase in EMEA of $24.2 million, an increase in Americas of $7.4 million and an increase in Asia Pacific of $4.6 million.
Cost of Professional service and other revenues increased by $26.1 million during the three months ended September 30, 2023 as compared to the same period in the prior fiscal year. This was primarily due to an increase in labour-related costs of $27.0 million primarily driven by the incremental Professional service and other cost of revenues from the Micro Focus Acquisition over the comparative period. Overall, the gross margin percentage on Professional service and other revenues increased to 23% from 20%.
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Amortization of Acquired Technology-based Intangible Assets
| Three Months Ended September 30, | |||||||||||||||||
| (In thousands) | 2023 | Change increase (decrease) | 2022 | ||||||||||||||
| Amortization of acquired technology-based intangible assets | $ | 76,824 | $ | 34,187 | $ | 42,637 | |||||||||||
Amortization of acquired technology-based intangible assets increased during the three months ended September 30, 2023 by $34.2 million as compared to the same period in the prior fiscal year. This was primarily due to amortization of newly acquired technology-based intangible assets from the Micro Focus Acquisition, partially offset by a reduction in amortization related to technology-based intangible assets from previous acquisitions becoming fully amortized.
Operating Expenses
| Three Months Ended September 30, | |||||||||||||||||
| (In thousands) | 2023 | Change increase (decrease) | 2022 | ||||||||||||||
| Research and development | $ | 234,437 | $ | 124,239 | $ | 110,198 | |||||||||||
| Sales and marketing | 271,801 | 104,631 | 167,170 | ||||||||||||||
| General and administrative | 131,211 | 53,137 | 78,074 | ||||||||||||||
| Depreciation | 34,091 | 10,917 | 23,174 | ||||||||||||||
| Amortization of acquired customer-based intangible assets | 120,192 | 65,754 | 54,438 | ||||||||||||||
| Special charges (recoveries) | 13,794 | (487) | 14,281 | ||||||||||||||
| Total operating expenses | $ | 805,526 | $ | 358,191 | $ | 447,335 | |||||||||||
| % of Total Revenues: | |||||||||||||||||
| Research and development | 16.4 | % | 12.9 | % | |||||||||||||
| Sales and marketing | 19.1 | % | 19.6 | % | |||||||||||||
| General and administrative | 9.2 | % | 9.2 | % | |||||||||||||
| Depreciation | 2.4 | % | 2.7 | % | |||||||||||||
| Amortization of acquired customer-based intangible assets | 8.4 | % | 6.4 | % | |||||||||||||
| Special charges (recoveries) | 1.0 | % | 1.7 | % | |||||||||||||
Research and development expenses consist primarily of payroll and payroll-related benefits expenses, contracted research and development expenses, and facility costs. Research and development enables organic growth and improves product stability and functionality, and accordingly, we dedicate extensive efforts to update and upgrade our product offerings. The primary drivers are typically software upgrades and development.
Change between Three Months Ended September 30, 2023 and 2022 | |||||
(In thousands) | increase (decrease) | ||||
| Payroll and payroll-related benefits | $ | 85,421 | |||
| Contract labour and consulting | 5,752 | ||||
| Share-based compensation | 4,881 | ||||
| Travel and communication | 221 | ||||
| Facilities | 25,229 | ||||
| Other miscellaneous | 2,735 | ||||
| Total change in research and development expenses | $ | 124,239 | |||
Research and development expenses increased by $124.2 million during the three months ended September 30, 2023 as compared to the same period in the prior fiscal year, primarily as a result of the Micro Focus Acquisition. Payroll and payroll-related benefits, which is comprised of salaries, benefits and variable short-term incentives, increased by $85.4 million, facility-related expenses increased by $25.2 million, contract labour and consulting expense increased by $5.8 million, and share-based compensation expense increased by $4.9 million. Overall, our research and development expenses, as a percentage of total revenues, increased to 16% compared to the same period in the prior fiscal year at 13%.
Our research and development labour resources increased by 3,942 employees, from 4,293 employees at September 30, 2022 to 8,235 employees at September 30, 2023, primarily as a result of the Micro Focus Acquisition.
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Sales and marketing expenses consist primarily of personnel expenses and costs associated with advertising, marketing events and trade shows.
| Change between Three Months Ended September 30, 2023 and 2022 | |||||
| (In thousands) | increase (decrease) | ||||
| Payroll and payroll-related benefits | $ | 71,550 | |||
| Commissions | 6,116 | ||||
| Contract labour and consulting | 4,398 | ||||
| Share-based compensation | 4,948 | ||||
| Travel and communication | 3,376 | ||||
| Marketing expenses | 5,189 | ||||
| Facilities | 9,610 | ||||
| Credit loss expense (recovery) | (1,865) | ||||
| Other miscellaneous | 1,309 | ||||
| Total change in sales and marketing expenses | $ | 104,631 | |||
Sales and marketing expenses increased by $104.6 million during the three months ended September 30, 2023 as compared to the same period in the prior fiscal year, primarily as a result of the Micro Focus Acquisition. Payroll and payroll-related benefits, which is comprised of salaries, benefits and variable short-term incentives, increased by $71.6 million, facility-related expenses increased by $9.6 million, commissions increased by $6.1 million, marketing expenses increased by $5.2 million, share-based compensation expense increased by $4.9 million, and travel and communication expenses increased by $3.4 million. Overall, our sales and marketing expenses, as a percentage of total revenues, decreased to 19% compared to the same period in the prior fiscal year at 20%.
Our sales and marketing labour resources increased by 1,998 employees, from 2,656 employees at September 30, 2022 to 4,654 employees at September 30, 2023, primarily as a result of the Micro Focus Acquisition.
General and administrative expenses consist primarily of payroll and payroll related benefits expenses, related overhead, audit fees, other professional fees, contract labour and consulting expenses and public company costs.
| Change between Three Months Ended September 30, 2023 and 2022 | |||||
| (In thousands) | increase (decrease) | ||||
| Payroll and payroll-related benefits | $ | 31,181 | |||
| Contract labour and consulting | 7,623 | ||||
| Share-based compensation | 2,253 | ||||
| Travel and communication | 4,371 | ||||
| Facilities | 2,030 | ||||
| Other miscellaneous | 5,679 | ||||
| Total change in general and administrative expenses | $ | 53,137 | |||
General and administrative expenses increased by $53.1 million during the three months ended September 30, 2023 as compared to the same period in the prior fiscal year, primarily as a result of the Micro Focus Acquisition. Payroll and payroll-related benefits, which is comprised of salaries, benefits and variable short-term incentives, increased by $31.2 million, contract labour and consulting expenses increased by $7.6 million, other miscellaneous costs, which include professional fees such as legal, audit and tax related expenses increased by $5.7 million, travel and communication expenses increased by $4.4 million, share-based compensation expense increased by $2.3 million, and facility-related expenses increased by $2.0 million. Overall, general and administrative expenses, as a percentage of total revenues, remained stable at 9% compared to the same period in the prior fiscal year.
Our general and administrative labour resources increased by 1,599 employees, from 1,864 employees at September 30, 2022 to 3,463 employees at September 30, 2023, primarily as a result of the Micro Focus Acquisition.
Depreciation expenses:
| Three Months Ended September 30, | |||||||||||||||||
| (In thousands) | 2023 | Change increase (decrease) | 2022 | ||||||||||||||
| Depreciation | $ | 34,091 | $ | 10,917 | $ | 23,174 | |||||||||||
Depreciation expenses increased during the three months ended September 30, 2023 by $10.9 million compared to the same periods in the prior fiscal year, primarily as a result of the Micro Focus Acquisition. Depreciation expenses as a
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percentage of total revenue decreased for the three months ended September 30, 2023 at 2% compared to the same period in the prior fiscal year at 3%.
Amortization of acquired customer-based intangible assets:
| Three Months Ended September 30, | |||||||||||||||||
| (In thousands) | 2023 | Change increase (decrease) | 2022 | ||||||||||||||
| Amortization of acquired customer-based intangible assets | $ | 120,192 | $ | 65,754 | $ | 54,438 | |||||||||||
Amortization of acquired customer-based intangible assets increased during the three months ended September 30, 2023 by $65.8 million as compared to the same period in the prior fiscal year. This was primarily related to amortization of newly acquired customer-based intangible assets from the Micro Focus Acquisition.
Special charges (recoveries):
Special charges (recoveries) typically relate to amounts that we expect to pay in connection with restructuring plans, acquisition-related costs and other similar charges and recoveries. Generally, we implement such plans in the context of integrating acquired entities with existing OpenText operations and most recently in response to our return to office planning. Actions related to such restructuring plans are typically completed within a period of one year. In certain limited situations, if the planned activity does not need to be implemented, or an expense lower than anticipated is paid out, we record a recovery of the originally recorded expense to Special charges (recoveries).
| Three Months Ended September 30, | |||||||||||||||||
| (In thousands) | 2023 | Change increase (decrease) | 2022 | ||||||||||||||
| Special charges (recoveries) | $ | 13,794 | $ | (487) | $ | 14,281 | |||||||||||
Special charges (recoveries) decreased by $(0.5) million during the three months ended September 30, 2023 over the comparative period. This was primarily due to a decrease in acquisition related costs of $3.5 million, offset by an increase of other charges (recoveries) of $1.9 million and an increase in restructuring costs of $1.1 million, as compared to the same period in the prior fiscal year.
For more details on Special charges (recoveries), see Note 18 “Special Charges (Recoveries)” to our Condensed Consolidated Financial Statements.
Other Income (Expense), Net
The components of other income (expense), net were as follows:
| Three Months Ended September 30, | |||||||||||||||||
| (In thousands) | 2023 | Change increase (decrease) | 2022 | ||||||||||||||
Foreign exchange gains (losses) | $ | 11,434 | $ | 12,795 | $ | (1,361) | |||||||||||
Unrealized gains (losses) on derivatives not designated as hedges (1) | 17,895 | 199,356 | (181,461) | ||||||||||||||
OpenText share in net income (loss) of equity investees (2) | (9,696) | (3,162) | (6,534) | ||||||||||||||
| Other miscellaneous income (expense) | 537 | 412 | 125 | ||||||||||||||
| Total other income (expense), net | $ | 20,170 | $ | 209,401 | $ | (189,231) | |||||||||||
__________________________
(1)Represents the unrealized gains (losses) on our derivatives not designated as hedges related to the Micro Focus Acquisition (see Note 17 “Derivative Instruments and Hedging Activities” for more details).
(2)Represents our share in net income (loss) of equity investees, which approximates fair value and subject to volatility based on market trends and business conditions, based on our interest in certain investment funds in which we are a limited partner. Our interests in each of these investees range from 4% to below 20% and these investments are accounted for using the equity method (see Note 9 “Prepaid Expenses and Other Assets” to our Condensed Consolidated Financial Statements for more details).
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Interest and Other Related Expense, Net
Interest and other related expense, net is primarily comprised of interest paid and accrued on our debt facilities, offset by interest income earned on our cash and cash equivalents.
| Three Months Ended September 30, | |||||||||||||||||
| (In thousands) | 2023 | Change increase (decrease) | 2022 | ||||||||||||||
Interest expense related to total outstanding debt (1) | $ | 147,007 | $ | 103,839 | $ | 43,168 | |||||||||||
| Interest income | (11,705) | (6,274) | (5,431) | ||||||||||||||
Other miscellaneous expense (2) | 6,462 | 3,817 | 2,645 | ||||||||||||||
| Total interest and other related expense, net | $ | 141,764 | $ | 101,382 | $ | 40,382 | |||||||||||
__________________________
(1)For more details see Note 11 “Long-Term Debt” to our Condensed Consolidated Financial Statements.
(2)Other miscellaneous expense primarily consists of the amortization of debt discount and the debt issuance costs. For more details see Note 11 “Long-Term Debt” to our Condensed Consolidated Financial Statements.
Provision for Income Taxes
We operate in several tax jurisdictions and are exposed to various foreign tax rates.
| Three Months Ended September 30, | |||||||||||||||||
| (In thousands) | 2023 | Change increase (decrease) | 2022 | ||||||||||||||
Provision for income taxes | $ | 10,352 | $ | (23,273) | $ | 33,625 | |||||||||||
The Company’s effective tax rate for the three months ended September 30, 2023 was 11.3%, compared to a provision of (40.4)% for the three months ended September 30, 2022. The Company’s effective tax rate for the three months ended September 30, 2023, differs from the Canadian statutory rate of 26.5% primarily due to tax benefits related to foreign tax rate differences, foreign tax credits and research and development credits, partially offset by US Base Erosion and Anti-Abuse Tax (BEAT). The Company’s effective tax rate for the three months ended September 30, 2022 differs from the Canadian statutory rate primarily due to pre-tax losses created by the mark-to-market valuation on the derivatives not designated as hedges that the Company entered into in connection with the Micro Focus Acquisition, and the inability to recognize the tax benefit of mark-to-market losses. The tax benefit of mark-to-market losses are considered capital losses for tax purposes and require capital income to be recognized. Therefore we recorded a valuation allowance on the portion of the losses that are not supportable by capital gains.
The Inflation Reduction Act and Creating Helpful Incentives to Produce Semiconductors (CHIPS) were signed into law in August 2022. The Inflation Reduction Act introduced new provisions, including a 15% corporate alternative minimum tax for certain large corporations that have at least an average of $1 billion adjusted financial statement income over a consecutive three-tax-year period. The corporate minimum tax will be effective for Fiscal 2024. We are currently evaluating the applicability and the effect of the new laws to our financial results.
For information on certain potential tax contingencies, including the CRA matter, see Note 14 “Guarantees and Contingencies” and Note 15 “Income Taxes” to our Condensed Consolidated Financial Statements. Please also see Part I, Item 1A, “Risk Factors” in our Annual Report on Form 10-K for Fiscal 2023.
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Use of Non-GAAP Financial Measures
In addition to reporting financial results in accordance with U.S. GAAP, the Company provides certain financial measures that are not in accordance with U.S. GAAP (Non-GAAP). These Non-GAAP financial measures have certain limitations in that they do not have a standardized meaning and thus the Company's definition may be different from similar Non-GAAP financial measures used by other companies and/or analysts and may differ from period to period. Thus, it may be more difficult to compare the Company's financial performance to that of other companies. However, the Company's management compensates for these limitations by providing the relevant disclosure of the items excluded in the calculation of these Non-GAAP financial measures both in its reconciliation to the U.S. GAAP financial measures and its Condensed Consolidated Financial Statements, all of which should be considered when evaluating the Company's results.
The Company uses these Non-GAAP financial measures to supplement the information provided in its Condensed Consolidated Financial Statements, which are presented in accordance with U.S. GAAP. The presentation of Non-GAAP financial measures is not meant to be a substitute for financial measures presented in accordance with U.S. GAAP, but rather should be evaluated in conjunction with and as a supplement to such U.S. GAAP measures. OpenText strongly encourages investors to review its financial information in its entirety and not to rely on a single financial measure. The Company therefore believes that despite these limitations, it is appropriate to supplement the disclosure of the U.S. GAAP measures with certain Non-GAAP measures defined below.
Non-GAAP-based net income and Non-GAAP-based EPS, attributable to OpenText, are consistently calculated as GAAP-based net income or earnings (loss) per share, attributable to OpenText, on a diluted basis, excluding the effects of the amortization of acquired intangible assets, other income (expense), share-based compensation, and special charges (recoveries), all net of tax and any tax benefits/expense items unrelated to current period income, as further described in the tables below. Non-GAAP-based gross profit is the arithmetical sum of GAAP-based gross profit and the amortization of acquired technology-based intangible assets and share-based compensation within cost of sales. Non-GAAP-based gross margin is calculated as Non-GAAP-based gross profit expressed as a percentage of total revenue. Non-GAAP-based income from operations is calculated as GAAP-based income from operations, excluding the amortization of acquired intangible assets, special charges (recoveries), and share-based compensation expense.
Adjusted earnings before interest, taxes, depreciation and amortization (Adjusted EBITDA) is consistently calculated as GAAP-based net income, attributable to OpenText, excluding interest income (expense), provision for (recovery of) income taxes, depreciation and amortization of acquired intangible assets, other income (expense), share-based compensation and special charges (recoveries).
The Company's management believes that the presentation of the above defined Non-GAAP financial measures provides useful information to investors because they portray the financial results of the Company before the impact of certain non-operational charges. The use of the term “non-operational charge” is defined for this purpose as an expense that does not impact the ongoing operating decisions taken by the Company's management. These items are excluded based upon the way the Company's management evaluates the performance of the Company's business for use in the Company's internal reports and are not excluded in the sense that they may be used under U.S. GAAP.
The Company does not acquire businesses on a predictable cycle, and therefore believes that the presentation of Non-GAAP measures, which in certain cases adjust for the impact of amortization of intangible assets and the related tax effects that are primarily related to acquisitions, will provide readers of financial statements with a more consistent basis for comparison across accounting periods and be more useful in helping readers understand the Company’s operating results and underlying operational trends. Additionally, the Company has engaged in various restructuring activities over the past several years, primarily due to acquisitions and most recently in response to our return to office planning, that have resulted in costs associated with reductions in headcount, consolidation of leased facilities and related costs, all which are recorded under the Company’s “Special charges (recoveries)” caption on the Condensed Consolidated Statements of Income. Each restructuring activity is a discrete event based on a unique set of business objectives or circumstances, and each differs in terms of its operational implementation, business impact and scope, and the size of each restructuring plan can vary significantly from period to period. Therefore, the Company believes that the exclusion of these special charges (recoveries) will also better aid readers of financial statements in the understanding and comparability of the Company's operating results and underlying operational trends.
In summary, the Company believes the provision of supplemental Non-GAAP measures allow investors to evaluate the operational and financial performance of the Company's core business using the same evaluation measures that management uses, and is therefore a useful indication of OpenText's performance or expected performance of future operations and facilitates period-to-period comparison of operating performance (although prior performance is not necessarily indicative of future performance). As a result, the Company considers it appropriate and reasonable to provide, in addition to U.S. GAAP measures, supplementary Non-GAAP financial measures that exclude certain items from the presentation of its financial results.
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The following charts provide unaudited reconciliations of U.S. GAAP-based financial measures to Non-GAAP-based financial measures for the following periods presented. The Micro Focus Acquisition significantly impacts period-over-period comparability.
Reconciliation of selected GAAP-based measures to Non-GAAP-based measures
for the three months ended September 30, 2023
(In thousands, except for per share data)
| Three Months Ended September 30, 2023 | ||||||||||||||||||||
| GAAP-based Measures | GAAP-based Measures % of Total Revenue | Adjustments | Note | Non-GAAP-based Measures | Non-GAAP-based Measures % of Total Revenue | |||||||||||||||
| Cost of revenues | ||||||||||||||||||||
| Cloud services and subscriptions | $ | 171,412 | $ | (2,991) | (1) | $ | 168,421 | |||||||||||||
| Customer support | 75,014 | (1,058) | (1) | 73,956 | ||||||||||||||||
| Professional service and other | 79,922 | (1,882) | (1) | 78,040 | ||||||||||||||||
| Amortization of acquired technology-based intangible assets | 76,824 | (76,824) | (2) | — | ||||||||||||||||
| GAAP-based gross profit and gross margin (%) / Non-GAAP-based gross profit and gross margin (%) | 1,018,418 | 71.4% | 82,755 | (3) | 1,101,173 | 77.3% | ||||||||||||||
| Operating expenses | ||||||||||||||||||||
| Research and development | 234,437 | (11,734) | (1) | 222,703 | ||||||||||||||||
| Sales and marketing | 271,801 | (11,807) | (1) | 259,994 | ||||||||||||||||
| General and administrative | 131,211 | (7,623) | (1) | 123,588 | ||||||||||||||||
| Amortization of acquired customer-based intangible assets | 120,192 | (120,192) | (2) | — | ||||||||||||||||
| Special charges (recoveries) | 13,794 | (13,794) | (4) | — | ||||||||||||||||
GAAP-based income from operations / Non-GAAP-based income from operations | 212,892 | 247,905 | (5) | 460,797 | ||||||||||||||||
| Other income (expense), net | 20,170 | (20,170) | (6) | — | ||||||||||||||||
Provision for income taxes | 10,352 | 34,313 | (7) | 44,665 | ||||||||||||||||
GAAP-based net income / Non-GAAP-based net income, attributable to OpenText | 80,901 | 193,422 | (8) | 274,323 | ||||||||||||||||
| GAAP-based earnings per share / Non-GAAP-based earnings per share-diluted, attributable to OpenText | $ | 0.30 | $ | 0.71 | (8) | $ | 1.01 | |||||||||||||
_________________________________
(1)Adjustment relates to the exclusion of share-based compensation expense from our Non-GAAP-based operating expenses as this expense is excluded from our internal analysis of operating results.
(2)Adjustment relates to the exclusion of amortization expense from our Non-GAAP-based operating expenses as the timing and frequency of amortization expense is dependent on our acquisitions and is hence excluded from our internal analysis of operating results.
(3)GAAP-based and Non-GAAP-based gross profit stated in dollars and gross margin stated as a percentage of total revenue.
(4)Adjustment relates to the exclusion of special charges (recoveries) from our Non-GAAP-based operating expenses as special charges (recoveries) are generally incurred in the periods relevant to an acquisition and include certain charges or recoveries that are not indicative or related to continuing operations and are therefore excluded from our internal analysis of operating results. See Note 18 “Special Charges (Recoveries)” to our Condensed Consolidated Financial Statements for more details.
(5)GAAP-based and Non-GAAP-based income from operations stated in dollars.
(6)Adjustment relates to the exclusion of other income (expense) from our Non-GAAP-based operating expenses as other income (expense) generally relates to the transactional impact of foreign exchange and is generally not indicative or related to continuing operations and is therefore excluded from our internal analysis of operating results. Other income (expense) also includes our share of income (losses) from our holdings in investments as a limited partner. We do not actively trade equity securities in these privately held companies nor do we plan our ongoing operations based around any anticipated fundings or distributions from these investments. We exclude gains and losses on these investments as we do not believe they are reflective of our ongoing business and operating results. Other income (expense) also includes unrealized and realized gains (losses) on our derivatives which are not designated as hedges. We exclude gains and losses on these derivatives as we do not believe they are reflective of our ongoing business and operating results.
(7)Adjustment relates to differences between the GAAP-based tax provision rate of approximately 11% and a Non-GAAP-based tax rate of approximately 14%; these rate differences are due to the income tax effects of items that are excluded for the purpose of calculating Non-GAAP-based net income. Such excluded items include amortization, share-based compensation, special charges (recoveries) and other income (expense), net. Also excluded are tax benefits/expense items unrelated to current period income such as changes in reserves for tax uncertainties and valuation allowance reserves and “book to return” adjustments for tax return filings and tax assessments. Included is the amount of net tax benefits arising from the internal reorganization that occurred in Fiscal 2017 assumed to be allocable to the current period based on the forecasted utilization period. In arriving at our Non-GAAP-based tax rate of approximately 14%, we analyzed the individual adjusted expenses and took into consideration the impact of statutory tax rates from local jurisdictions incurring the expense.
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(8)Reconciliation of GAAP-based net income to Non-GAAP-based net income:
| Three Months Ended September 30, 2023 | ||||||||
| Per share diluted | ||||||||
GAAP-based net income, attributable to OpenText | $ | 80,901 | $ | 0.30 | ||||
| Add: | ||||||||
| Amortization | 197,016 | 0.72 | ||||||
| Share-based compensation | 37,095 | 0.14 | ||||||
| Special charges (recoveries) | 13,794 | 0.05 | ||||||
| Other (income) expense, net | (20,170) | (0.08) | ||||||
GAAP-based provision for income taxes | 10,352 | 0.04 | ||||||
Non-GAAP-based provision for income taxes | (44,665) | (0.16) | ||||||
Non-GAAP-based net income, attributable to OpenText | $ | 274,323 | $ | 1.01 | ||||
Reconciliation of Adjusted EBITDA
| Three Months Ended September 30, 2023 | |||||
GAAP-based net income, attributable to OpenText | $ | 80,901 | |||
| Add: | |||||
Provision for income taxes | 10,352 | ||||
| Interest and other related expense, net | 141,764 | ||||
| Amortization of acquired technology-based intangible assets | 76,824 | ||||
| Amortization of acquired customer-based intangible assets | 120,192 | ||||
| Depreciation | 34,091 | ||||
| Share-based compensation | 37,095 | ||||
| Special charges (recoveries) | 13,794 | ||||
| Other (income) expense, net | (20,170) | ||||
| Adjusted EBITDA | $ | 494,843 | |||
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Reconciliation of selected GAAP-based measures to Non-GAAP-based measures
for the three months ended September 30, 2022
(In thousands, except for per share data)
| Three Months Ended September 30, 2022 | ||||||||||||||||||||
| GAAP-based Measures | GAAP-based Measures % of Total Revenue | Adjustments | Note | Non-GAAP-based Measures | Non-GAAP-based Measures % of Total Revenue | |||||||||||||||
| Cost of revenues | ||||||||||||||||||||
| Cloud services and subscriptions | $ | 131,799 | $ | (2,033) | (1) | $ | 129,766 | |||||||||||||
| Customer support | 27,354 | (567) | (1) | 26,787 | ||||||||||||||||
| Professional service and other | 53,800 | (1,525) | (1) | 52,275 | ||||||||||||||||
| Amortization of acquired technology-based intangible assets | 42,637 | (42,637) | (2) | — | ||||||||||||||||
| GAAP-based gross profit and gross margin (%) / Non-GAAP-based gross profit and gross margin (%) | 593,688 | 69.7% | 46,762 | (3) | 640,450 | 75.2% | ||||||||||||||
| Operating expenses | ||||||||||||||||||||
| Research and development | 110,198 | (6,854) | (1) | 103,344 | ||||||||||||||||
| Sales and marketing | 167,170 | (6,859) | (1) | 160,311 | ||||||||||||||||
| General and administrative | 78,074 | (5,370) | (1) | 72,704 | ||||||||||||||||
| Amortization of acquired customer-based intangible assets | 54,438 | (54,438) | (2) | — | ||||||||||||||||
| Special charges (recoveries) | 14,281 | (14,281) | (4) | — | ||||||||||||||||
GAAP-based income from operations / Non-GAAP-based income from operations | 146,353 | 134,564 | (5) | 280,917 | ||||||||||||||||
| Other income (expense), net | (189,231) | 189,231 | (6) | — | ||||||||||||||||
Provision for income taxes | 33,625 | 50 | (7) | 33,675 | ||||||||||||||||
GAAP-based net loss / Non-GAAP-based net income, attributable to OpenText | (116,929) | 323,745 | (8) | 206,816 | ||||||||||||||||
| GAAP-based earnings per share / Non-GAAP-based earnings per share-diluted, attributable to OpenText | $ | (0.43) | $ | 1.20 | (8) | $ | 0.77 | |||||||||||||
______________________________
(1)Adjustment relates to the exclusion of share-based compensation expense from our Non-GAAP-based operating expenses as this expense is excluded from our internal analysis of operating results.
(2)Adjustment relates to the exclusion of amortization expense from our Non-GAAP-based operating expenses as the timing and frequency of amortization expense is dependent on our acquisitions and is hence excluded from our internal analysis of operating results.
(3)GAAP-based and Non-GAAP-based gross profit stated in dollars and gross margin stated as a percentage of total revenue.
(4)Adjustment relates to the exclusion of special charges (recoveries) from our Non-GAAP-based operating expenses as special charges (recoveries) are generally incurred in the periods relevant to an acquisition and include certain charges or recoveries that are not indicative or related to continuing operations and are therefore excluded from our internal analysis of operating results. See Note 18 “Special Charges (Recoveries)” to our Condensed Consolidated Financial Statements for more details.
(5)GAAP-based and Non-GAAP-based income from operations stated in dollars.
(6)Adjustment relates to the exclusion of other income (expense) from our Non-GAAP-based operating expenses as other income (expense) generally relates to the transactional impact of foreign exchange and is generally not indicative or related to continuing operations and is therefore excluded from our internal analysis of operating results. Other income (expense) also includes our share of income (losses) from our holdings in investments as a limited partner. We do not actively trade equity securities in these privately held companies nor do we plan our ongoing operations based around any anticipated fundings or distributions from these investments. We exclude gains and losses on these investments as we do not believe they are reflective of our ongoing business and operating results.
(7)Adjustment relates to differences between the GAAP-based tax provision rate of approximately (40)% and a Non-GAAP-based tax rate of approximately 14%; these rate differences are due to the income tax effects of items that are excluded for the purpose of calculating Non-GAAP-based adjusted net income. Such excluded items include amortization, share-based compensation, special charges (recoveries) and other income (expense), net. Also excluded are tax benefits/expense items unrelated to current period income such as changes in reserves for tax uncertainties and valuation allowance reserves, and “book to return” adjustments for tax return filings and tax assessments. Included is the amount of net tax benefits arising from the internal reorganization that occurred in Fiscal 2017 assumed to be allocable to the current period based on the forecasted utilization period. In arriving at our Non-GAAP-based tax rate of approximately 14%, we analyzed the individual adjusted expenses and took into consideration the impact of statutory tax rates from local jurisdictions incurring the expense.
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(8)Reconciliation of GAAP-based net loss to Non-GAAP-based net income:
| Three Months Ended September 30, 2022 | ||||||||
| Per share diluted | ||||||||
GAAP-based net loss, attributable to OpenText | $ | (116,929) | $ | (0.43) | ||||
| Add: | ||||||||
| Amortization | 97,075 | 0.36 | ||||||
| Share-based compensation | 23,208 | 0.09 | ||||||
| Special charges (recoveries) | 14,281 | 0.05 | ||||||
| Other (income) expense, net | 189,231 | 0.70 | ||||||
GAAP-based provision for income taxes | 33,625 | 0.12 | ||||||
Non-GAAP-based provision for income taxes | (33,675) | (0.12) | ||||||
Non-GAAP-based net income, attributable to OpenText | $ | 206,816 | $ | 0.77 | ||||
Reconciliation of Adjusted EBITDA
| Three Months Ended September 30, 2022 | |||||
GAAP-based net loss, attributable to OpenText | $ | (116,929) | |||
| Add: | |||||
Provision for income taxes | 33,625 | ||||
| Interest and other related expense, net | 40,382 | ||||
| Amortization of acquired technology-based intangible assets | 42,637 | ||||
| Amortization of acquired customer-based intangible assets | 54,438 | ||||
| Depreciation | 23,174 | ||||
| Share-based compensation | 23,208 | ||||
| Special charges (recoveries) | 14,281 | ||||
| Other (income) expense, net | 189,231 | ||||
| Adjusted EBITDA | $ | 304,047 | |||
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LIQUIDITY AND CAPITAL RESOURCES
The following tables set forth changes in cash flows from operating, investing and financing activities for the periods indicated:
(In thousands) | As of September 30, 2023 | Change increase (decrease) | As of June 30, 2023 | ||||||||||||||
| Cash and cash equivalents | $ | 919,850 | $ | (311,775) | $ | 1,231,625 | |||||||||||
Restricted cash (1) | 2,300 | (27) | 2,327 | ||||||||||||||
| Total cash, cash equivalents and restricted cash | $ | 922,150 | $ | (311,802) | $ | 1,233,952 | |||||||||||
__________________________
(1)Restricted cash is classified under the Prepaid expenses and other current assets and Other assets line items on the Condensed Consolidated Balance Sheets (see Note 9 “Prepaid Expenses and Other Assets” to our Condensed Consolidated Financial Statements for more details).
| Three Months Ended September 30, | |||||||||||||||||
(In thousands) | 2023 | Change | 2022 | ||||||||||||||
Cash provided by operating activities | $ | 47,121 | $ | (84,838) | $ | 131,959 | |||||||||||
Cash used in investing activities | $ | (50,399) | $ | (14,075) | $ | (36,324) | |||||||||||
Cash used in financing activities | $ | (297,021) | $ | (239,860) | $ | (57,161) | |||||||||||
Cash and cash equivalents
Cash and cash equivalents primarily consist of balances with banks as well as deposits with original maturities of 90 days or less.
We continue to anticipate that our cash and cash equivalents, as well as available credit facilities, will be sufficient to fund our anticipated cash requirements for working capital, contractual commitments, capital expenditures, dividends, operating needs and pending acquisitions for the next twelve months. Any further material or acquisition-related activities may require additional sources of financing and would be subject to the financial covenants established under our credit facilities. For more details, see “Long-term Debt and Credit Facilities” below.
As of September 30, 2023, we have recognized a deferred income tax liability of $29.2 million (June 30, 2023—$28.3 million) on taxable temporary differences related to the undistributed earnings of certain non-United States subsidiaries and planned periodic repatriations from certain German subsidiaries, that will be subject to withholding taxes upon distribution.
Cash flows provided by operating activities
Cash flows from operating activities decreased by $84.8 million during the three months ended September 30, 2023, as compared to the same period in the prior fiscal year primarily due to a decrease in changes from working capital of $151.4 million offset by an increase in net income after the impact of non-cash items of $66.6 million.
During the first quarter of Fiscal 2024 we had a days sales outstanding (DSO) of 43 days, compared to our DSO of 40 days during the first quarter of Fiscal 2023. The per day impact of our DSO in the first quarter of Fiscal 2024 and Fiscal 2023 on our cash flows was $15.8 million and $9.5 million, respectively. In arriving at DSO, we exclude contract assets as these assets do not provide an unconditional right to the related consideration from the customer.
Cash flows used in investing activities
Our cash flows used in investing activities is primarily on account of acquisitions and additions of property and equipment.
Cash flows used in investing activities increased by $14.1 million during the three months ended September 30, 2023, as compared to the same period in the prior fiscal year primarily due to an increase in consideration paid for acquisitions, which includes cash paid for the Micro Focus Acquisition of $9.3 million and other investing activities of $5.6 million.
Cash flows used in financing activities
Our cash flows from financing activities generally consist of long-term debt financing and amounts received from stock options exercised by our employees and Employee Stock Purchase Plan (ESPP) purchases by our employees. These inflows are typically offset by scheduled and non-scheduled repayments of our long-term debt financing and, when applicable, the payment of dividends and/or repurchases of our Common Shares.
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Cash flows used in financing activities increased by $239.9 million during the three months ended September 30, 2023 as compared to the same period in the prior fiscal year. This is primarily due to the net impact of the following activities:
(i)$184.0 million increase due to repayments of long-term debt and the Revolver;
(ii)$53.1 million related to more cash used in the repurchases of treasury stock;
(iii)$2.3 million related to higher cash dividends paid to shareholders; and
(iv)$2.0 million increase in debt issuance costs.
The increases in cash flows used in financing activities above were partially offset by $1.4 million due to increased proceeds from the issuance of Common Shares for the exercise of options and the OpenText ESPP.
Cash Dividends
During the three months ended September 30, 2023, we declared and paid cash dividends of $0.25 per Common Share in the aggregate amount of $67.0 million (three months ended September 30, 2022—$0.24299 per Common Share in the aggregate amount of $64.7 million).
Future declarations of dividends and the establishment of future record and payment dates are subject to final determination and discretion of the Board. See Item 5 “Dividend Policy” included within our Annual Report on Form 10-K for Fiscal 2023 for more information.
Long-term Debt and Credit Facilities
Senior Unsecured Fixed Rate Notes
Senior Notes 2031
On November 24, 2021, OpenText Holdings, Inc. (OTHI), a wholly-owned indirect subsidiary of the Company, issued $650 million in aggregate principal amount of 4.125% Senior Notes due 2031 guaranteed by the Company (Senior Notes 2031) in an unregistered offering to qualified institutional buyers pursuant to Rule 144A under the Securities Act of 1933, as amended (Securities Act), and to certain non-U.S. persons in offshore transactions pursuant to Regulation S under the Securities Act. Senior Notes 2031 bear interest at a rate of 4.125% per annum, payable semi-annually in arrears on June 1 and December 1, commencing on June 1, 2022. Senior Notes 2031 will mature on December 1, 2031, unless earlier redeemed, in accordance with their terms, or repurchased.
OTHI may redeem all or a portion of the Senior Notes 2031 at any time prior to December 1, 2026 at a redemption price equal to 100% of the principal amount of the Senior Notes 2031 plus an applicable premium, plus accrued and unpaid interest, if any, to the redemption date. OTHI may also redeem up to 40% of the aggregate principal amount of the Senior Notes 2031, on one or more occasions, prior to December 1, 2024, using the net proceeds from certain qualified equity offerings at a redemption price of 104.125% of the principal amount, plus accrued and unpaid interest, if any, to the redemption date, subject to compliance with certain conditions. OTHI may, on one or more occasions, redeem the Senior Notes 2031, in whole or in part, at any time on and after December 1, 2026 at the applicable redemption prices set forth in the indenture governing the Senior Notes 2031, dated as of November 24, 2021, among OTHI, the Company, the subsidiary guarantors party thereto, The Bank of New York Mellon, as U.S. trustee, and BNY Trust Company of Canada, as Canadian trustee (the 2031 Indenture), plus accrued and unpaid interest, if any, to the redemption date.
If we experience one of the kinds of change of control triggering events specified in the 2031 Indenture, OTHI will be required to make an offer to repurchase the Senior Notes 2031 at a price equal to 101% of the principal amount of the Senior Notes 2031, plus accrued and unpaid interest, if any, to the date of purchase.
The 2031 Indenture contains covenants that limit OTHI, the Company and certain of the Company’s subsidiaries’ ability to, among other things: (i) create certain liens and enter into sale and lease-back transactions; (ii) in the case of our non-guarantor subsidiaries, create, assume, incur or guarantee additional indebtedness of OTHI, the Company or the guarantors without such subsidiary becoming a subsidiary guarantor of Senior Notes 2031; and (iii) consolidate, amalgamate or merge with, or convey, transfer, lease or otherwise dispose of its property and assets substantially as an entirety to, another person. These covenants are subject to a number of important limitations and exceptions as set forth in the 2031 Indenture. The 2031 Indenture also provides for events of default, which, if any of them occurs, may permit or, in certain circumstances, require the principal, premium, if any, interest and any other monetary obligations on all the then-outstanding Senior Notes 2031 to be due and payable immediately.
Senior Notes 2031 are guaranteed on a senior unsecured basis by the Company and the Company’s existing and future wholly-owned subsidiaries (other than OTHI) that borrow or guarantee the obligations under our senior credit facilities. Senior
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Notes 2031 and the guarantees rank equally in right of payment with all of the Company’s, OTHI’s and the guarantors’ existing and future senior unsubordinated debt and will rank senior in right of payment to all of the Company’s, OTHI’s and the guarantors’ future subordinated debt. Senior Notes 2031 and the guarantees will be effectively subordinated to all of the Company’s, OTHI’s and the guarantors’ existing and future secured debt, including the obligations under the senior credit facilities, to the extent of the value of the assets securing such secured debt.
The foregoing description of the 2031 Indenture does not purport to be complete and is qualified in its entirety by reference to the full text of the 2031 Indenture, which is filed as an exhibit to the Company’s Current Report on Form 8-K filed with the SEC on November 24, 2021.
For further details relating to our debt, please see Note 11 “Long-Term Debt” to our Condensed Consolidated Financial Statements.
Senior Notes 2030
On February 18, 2020 OTHI, a wholly-owned indirect subsidiary of the Company, issued $900 million in aggregate principal amount of 4.125% Senior Notes due 2030 guaranteed by the Company (Senior Notes 2030) in an unregistered offering to qualified institutional buyers pursuant to Rule 144A under the Securities Act of 1933, as amended (Securities Act), and to certain non-U.S. persons in offshore transactions pursuant to Regulation S under the Securities Act. Senior Notes 2030 bear interest at a rate of 4.125% per annum, payable semi-annually in arrears on February 15 and August 15, commencing on August 15, 2020. Senior Notes 2030 will mature on February 15, 2030, unless earlier redeemed, in accordance with their terms, or repurchased.
OTHI may redeem all or a portion of the Senior Notes 2030 at any time prior to February 15, 2025 at a redemption price equal to 100% of the principal amount of the Senior Notes 2030 plus an applicable premium, plus accrued and unpaid interest, if any, to the redemption date. OTHI may also redeem up to 40% of the aggregate principal amount of the Senior Notes 2030, on one or more occasions, prior to February 15, 2025, using the net proceeds from certain qualified equity offerings at a redemption price of 104.125% of the principal amount, plus accrued and unpaid interest, if any, to the redemption date, subject to compliance with certain conditions. OTHI may, on one or more occasions, redeem the Senior Notes 2030, in whole or in part, at any time on and after February 15, 2025 at the applicable redemption prices set forth in the indenture governing the Senior Notes 2030, dated as of February 18, 2020, among OTHI, the Company, the subsidiary guarantors party thereto, The Bank of New York Mellon, as U.S. trustee, and BNY Trust Company of Canada, as Canadian trustee (the 2030 Indenture), plus accrued and unpaid interest, if any, to the redemption date.
If we experience one of the kinds of change of control triggering events specified in the 2030 Indenture, OTHI will be required to make an offer to repurchase the Senior Notes 2030 at a price equal to 101% of the principal amount of the Senior Notes 2030, plus accrued and unpaid interest, if any, to the date of purchase.
The 2030 Indenture contains covenants that limit the Company, OTHI and certain of the Company's subsidiaries’ ability to, among other things: (i) create certain liens and enter into sale and lease-back transactions; (ii) in the case of our non-guarantor subsidiaries, create, assume, incur or guarantee additional indebtedness of the Company, OTHI or the guarantors without such subsidiary becoming a subsidiary guarantor of Senior Notes 2030; and (iii) consolidate, amalgamate or merge with, or convey, transfer, lease or otherwise dispose of its property and assets substantially as an entirety to, another person. These covenants are subject to a number of important limitations and exceptions as set forth in the 2030 Indenture. The 2030 Indenture also provides for events of default, which, if any of them occurs, may permit or, in certain circumstances, require the principal, premium, if any, interest and any other monetary obligations on all the then-outstanding Senior Notes 2030 to be due and payable immediately.
Senior Notes 2030 are guaranteed on a senior unsecured basis by the Company and the Company's existing and future wholly-owned subsidiaries (other than OTHI) that borrow or guarantee the obligations under our senior credit facilities. Senior Notes 2030 and the guarantees rank equally in right of payment with all of the Company, OTHI and the guarantors’ existing and future senior unsubordinated debt and will rank senior in right of payment to all of the Company, OTHI and the guarantors’ future subordinated debt. Senior Notes 2030 and the guarantees will be effectively subordinated to all of the Company, OTHI and the guarantors’ existing and future secured debt, including the obligations under the senior credit facilities, to the extent of the value of the assets securing such secured debt.
The foregoing description of the 2030 Indenture does not purport to be complete and is qualified in its entirety by reference to the full text of the 2030 Indenture, which is filed as an exhibit to the Company’s Current Report on Form 8-K filed with the SEC on February 18, 2020.
For further details relating to our debt, please see Note 11 “Long-Term Debt” to our Condensed Consolidated Financial Statements.
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Senior Notes 2029
On November 24, 2021, we issued $850 million in aggregate principal amount of 3.875% Senior Notes due 2029 (Senior Notes 2029) in an unregistered offering to qualified institutional buyers pursuant to Rule 144A under the Securities Act and to certain non-U.S. persons in offshore transactions pursuant to Regulation S under the Securities Act. Senior Notes 2029 bear interest at a rate of 3.875% per annum, payable semi-annually in arrears on June 1 and December 1, commencing on June 1, 2022. Senior Notes 2029 will mature on December 1, 2029, unless earlier redeemed, in accordance with their terms, or repurchased.
We may redeem all or a portion of the Senior Notes 2029 at any time prior to December 1, 2024 at a redemption price equal to 100% of the principal amount of the Senior Notes 2029 plus an applicable premium, plus accrued and unpaid interest, if any, to the redemption date. We may also redeem up to 40% of the aggregate principal amount of the Senior Notes 2029, on one or more occasions, prior to December 1, 2024, using the net proceeds from certain qualified equity offerings at a redemption price of 103.875% of the principal amount, plus accrued and unpaid interest, if any, to the redemption date, subject to compliance with certain conditions. We may, on one or more occasions, redeem the Senior Notes 2029, in whole or in part, at any time on and after December 1, 2024 at the applicable redemption prices set forth in the indenture governing the Senior Notes 2029, dated as of November 24, 2021, among the Company, the subsidiary guarantors party thereto, The Bank of New York Mellon, as U.S. trustee, and BNY Trust Company of Canada, as Canadian trustee (the 2029 Indenture), plus accrued and unpaid interest, if any, to the redemption date.
If we experience one of the kinds of change of control triggering events specified in the 2029 Indenture, we will be required to make an offer to repurchase the Senior Notes 2029 at a price equal to 101% of the principal amount of the Senior Notes 2029, plus accrued and unpaid interest, if any, to the date of purchase.
The 2029 Indenture contains covenants that limit our and certain of our subsidiaries’ ability to, among other things: (i) create certain liens and enter into sale and lease-back transactions; (ii) in the case of our non-guarantor subsidiaries, create, assume, incur or guarantee additional indebtedness of the Company or the guarantors without such subsidiary becoming a subsidiary guarantor of Senior Notes 2029; and (iii) consolidate, amalgamate or merge with, or convey, transfer, lease or otherwise dispose of its property and assets substantially as an entirety to, another person. These covenants are subject to a number of important limitations and exceptions as set forth in the 2029 Indenture. The 2029 Indenture also provides for events of default, which, if any of them occurs, may permit or, in certain circumstances, require the principal, premium, if any, interest and any other monetary obligations on all the then-outstanding Senior Notes 2029 to be due and payable immediately.
Senior Notes 2029 are guaranteed on a senior unsecured basis by our existing and future wholly-owned subsidiaries that borrow or guarantee the obligations under our senior credit facilities. Senior Notes 2029 and the guarantees rank equally in right of payment with all of our and our guarantors’ existing and future senior unsubordinated debt and will rank senior in right of payment to all of our and our guarantors’ future subordinated debt. Senior Notes 2029 and the guarantees will be effectively subordinated to all of our and our guarantors’ existing and future secured debt, including the obligations under the senior credit facilities, to the extent of the value of the assets securing such secured debt.
The foregoing description of the 2029 Indenture does not purport to be complete and is qualified in its entirety by reference to the full text of the 2029 Indenture, which is filed as an exhibit to the Company’s Current Report on Form 8-K filed with the SEC on November 24, 2021.
For further details relating to our debt, please see Note 11 “Long-Term Debt” to our Condensed Consolidated Financial Statements.
Senior Notes 2028
On February 18, 2020 we issued $900 million in aggregate principal amount of 3.875% Senior Notes due 2028 (Senior Notes 2028) in an unregistered offering to qualified institutional buyers pursuant to Rule 144A under the Securities Act and to certain non-U.S. persons in offshore transactions pursuant to Regulation S under the Securities Act. Senior Notes 2028 bear interest at a rate of 3.875% per annum, payable semi-annually in arrears on February 15 and August 15, commencing on August 15, 2020. Senior Notes 2028 will mature on February 15, 2028, unless earlier redeemed, in accordance with their terms, or repurchased.
We may redeem all or a portion of the Senior Notes 2028 at any time prior to February 15, 2023 at a redemption price equal to 100% of the principal amount of the Senior Notes 2028 plus an applicable premium, plus accrued and unpaid interest, if any, to the redemption date. We may also redeem up to 40% of the aggregate principal amount of the Senior Notes 2028, on one or more occasions, prior to February 15, 2023, using the net proceeds from certain qualified equity offerings at a redemption price of 103.875% of the principal amount, plus accrued and unpaid interest, if any, to the redemption date, subject to compliance with certain conditions. We may, on one or more occasions, redeem the Senior Notes 2028, in whole or in part, at any time on and after February 15, 2023 at the applicable redemption prices set forth in the indenture governing the Senior Notes 2028, dated as of February 18, 2020, among the Company, the subsidiary guarantors party thereto, The Bank of New
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York Mellon, as U.S. trustee, and BNY Trust Company of Canada, as Canadian trustee (the 2028 Indenture), plus accrued and unpaid interest, if any, to the redemption date.
If we experience one of the kinds of change of control triggering events specified in the 2028 Indenture, we will be required to make an offer to repurchase the Senior Notes 2028 at a price equal to 101% of the principal amount of the Senior Notes 2028, plus accrued and unpaid interest, if any, to the date of purchase.
The 2028 Indenture contains covenants that limit our and certain of our subsidiaries’ ability to, among other things: (i) create certain liens and enter into sale and lease-back transactions; (ii) in the case of our non-guarantor subsidiaries, create, assume, incur or guarantee additional indebtedness of the Company or the guarantors without such subsidiary becoming a subsidiary guarantor of Senior Notes 2028; and (iii) consolidate, amalgamate or merge with, or convey, transfer, lease or otherwise dispose of its property and assets substantially as an entirety to, another person. These covenants are subject to a number of important limitations and exceptions as set forth in the 2028 Indenture. The 2028 Indenture also provides for events of default, which, if any of them occurs, may permit or, in certain circumstances, require the principal, premium, if any, interest and any other monetary obligations on all the then-outstanding Senior Notes 2028 to be due and payable immediately.
Senior Notes 2028 are guaranteed on a senior unsecured basis by our existing and future wholly-owned subsidiaries that borrow or guarantee the obligations under our senior credit facilities. Senior Notes 2028 and the guarantees rank equally in right of payment with all of our and our guarantors’ existing and future senior unsubordinated debt and will rank senior in right of payment to all of our and our guarantors’ future subordinated debt. Senior Notes 2028 and the guarantees will be effectively subordinated to all of our and our guarantors’ existing and future secured debt, including the obligations under the senior credit facilities, to the extent of the value of the assets securing such secured debt.
The foregoing description of the 2028 Indenture does not purport to be complete and is qualified in its entirety by reference to the full text of the 2028 Indenture, which is filed as an exhibit to the Company’s Current Report on Form 8-K filed with the SEC on February 18, 2020.
For further details relating to our debt, please see Note 11 “Long-Term Debt” to our Condensed Consolidated Financial Statements.
Senior Secured Fixed Rate Notes
Senior Secured Notes 2027
On December 1, 2022, we issued $1 billion in aggregate principal amount of Senior Secured Notes due 2027 (Senior Secured Notes 2027) in connection with the financing of the Micro Focus Acquisition in an unregistered offering to qualified institutional buyers pursuant to Rule 144A under the Securities Act and to certain non-U.S. persons in offshore transactions pursuant to Regulation S under the Securities Act. Senior Secured Notes 2027 bear interest at a rate of 6.90% per annum, payable semi-annually in arrears on June 1 and December 1, commencing on June 1, 2023. Senior Secured Notes 2027 will mature on December 1, 2027, unless earlier redeemed, in accordance with their terms, or repurchased.
We may redeem all or a portion of the Senior Secured Notes 2027 at any time prior to November 1, 2027 at a redemption price equal to the greater of (a) 100% of the principal amount of the Senior Secured Notes 2027 to be redeemed and (b) the net present value of the remaining scheduled payments of principal and interest thereon discounted to the Par Call Date less interest accrued to the date of redemption, plus accrued and unpaid interest to, but excluding, the redemption date. On or after the Par Call Date (as defined in the 2027 Indenture), the Company may redeem the Senior Secured Notes 2027, in whole or in part, at any time and from time to time, at a redemption price equal to 100% of the principal amount of the Senior Secured Notes 2027 being redeemed plus accrued and unpaid interest thereon to the redemption date.
If we experience one of the kinds of change of control triggering events specified in the indenture governing the Senior Secured Notes 2027 dated as of December 1, 2022, among the Company, the subsidiary guarantors party thereto, The Bank of New York Mellon, as U.S. trustee, and BNY Trust Company of Canada, as Canadian trustee (the 2027 Indenture), we will be required to make an offer to repurchase the Senior Secured Notes 2027 at a price equal to 101% of the principal amount of the Senior Secured Notes 2027, plus accrued and unpaid interest, if any, to the date of purchase.
The 2027 Indenture contains covenants that limit our and certain of the Company’s subsidiaries’ ability to, among other things: (i) create certain liens and enter into sale and lease-back transactions; (ii) create, assume, incur or guarantee additional indebtedness of the Company or certain of the Company’s subsidiaries without such subsidiary becoming a subsidiary guarantor of the Senior Secured Notes 2027; and (iii) consolidate, amalgamate or merge with, or convey, transfer, lease or otherwise dispose of the Company’s property and assets substantially as an entirety to, another person. These covenants are subject to a number of important limitations and exceptions as set forth in the 2027 Indenture. The 2027 Indenture also provides for certain events of default, which, if any of them occurs, may permit or, in certain circumstances, require the principal,
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premium, if any, interest and any other monetary obligations on all the then-outstanding Senior Secured Notes 2027 to be due and payable immediately.
The Senior Secured Notes 2027 are guaranteed on a senior secured basis by certain of the Company’s subsidiaries and are secured with the same priority as the Company’s senior credit facilities. The Senior Secured Notes 2027 and the related guarantees are effectively senior to all of the Company’s and the guarantors’ senior unsecured debt to the extent of the value of the collateral (as defined in the 2027 Indenture) and are structurally subordinated to all existing and future liabilities of each of the Company’s existing and future subsidiaries that do not guarantee the Senior Secured Notes 2027.
The foregoing description of the 2027 Indenture does not purport to be complete and is qualified in its entirety by reference to the full text of the 2027 Indenture, which is filed as an exhibit to the Company’s Current Report on Form 8-K filed with the SEC on December 1, 2022.
For further details relating to our debt, please see Note 11 “Long-Term Debt” to our Condensed Consolidated Financial Statements.
Term Loan B
On May 30, 2018, we entered into a credit facility, which provides for a $1 billion term loan facility with certain lenders named therein, Barclays Bank PLC (Barclays), as sole administrative agent and collateral agent, and as lead arranger and joint bookrunner (Term Loan B) and borrowed the full amount on May 30, 2018 to, among other things, repay in full the loans under our prior $800 million term loan credit facility originally entered into on January 16, 2014. Repayments made under Term Loan B are equal to 0.25% of the principal amount in equal quarterly installments for the life of Term Loan B, with the remainder due at maturity.
Borrowings under Term Loan B are secured by a first charge over substantially all of our assets on a pari passu basis with the Revolver, the Acquisition Term Loan and Senior Secured Notes 2027. Term Loan B has a seven-year term, maturing in May 2025. On June 6, 2023, we amended the Term Loan B to replace the LIBOR benchmark rate applicable to borrowings under Term Loan B with a SOFR benchmark rate.
Borrowings under Term Loan B bear interest at a rate per annum equal to an applicable margin plus, at the borrower’s option, either (1) the SOFR benchmark rate for the interest period relevant to such borrowing or (2) an alternate base rate (ABR). The applicable margin for borrowings under Term Loan B is 1.75%, with respect to SOFR advances and 0.75%, with respect to ABR advances. The interest on the current outstanding balance for Term Loan B is equal to 1.75% plus Adjusted Term SOFR (as defined in the Term Loan B). As of September 30, 2023, the outstanding balance on the Term Loan B bears an interest rate of 7.18%.
Term Loan B has incremental facility capacity of (i) $250 million plus (ii) additional amounts, subject to meeting a “consolidated senior secured net leverage” ratio not exceeding 2.75:1.00, in each case subject to certain conditions. Consolidated senior secured net leverage ratio is defined for this purpose as the proportion of our total debt reduced by unrestricted cash, including guarantees and letters of credit, that is secured by our or any of our subsidiaries’ assets, over our trailing twelve months net income before interest, taxes, depreciation, amortization, restructuring, share-based compensation and other miscellaneous charges.
Under Term Loan B, we must maintain a “consolidated net leverage” ratio of no more than 4.00:1.00 at the end of each financial quarter. Consolidated net leverage ratio is defined for this purpose as the proportion of our total debt reduced by unrestricted cash, including guarantees and letters of credit, over our trailing twelve months net income before interest, taxes, depreciation, amortization, restructuring, share-based compensation and other miscellaneous charges. As of September 30, 2023, our consolidated net leverage ratio, as calculated in accordance with the applicable agreement, was 3.64:1.00.
For further details relating to our debt, please see Note 11 “Long-Term Debt” to our Condensed Consolidated Financial Statements.
Revolver
On October 31, 2019, we amended our committed revolving credit facility (the Revolver) to increase the total commitments under the Revolver from $450 million to $750 million as well as to extend the maturity from May 5, 2022 to October 31, 2024. Borrowings under the Revolver are secured by a first charge over substantially all of our assets, on a pari passu basis with Term Loan B, the Acquisition Term Loan and Senior Secured Notes 2027. The Revolver has no fixed repayment date prior to the end of the term. On June 6, 2023, we amended the Revolver to replace the LIBOR benchmark rate applicable to borrowings with a SOFR benchmark rate. Borrowings under the Revolver currently bear interest per annum at a floating rate of interest equal to Adjusted Term SOFR (as defined in the Revolver) and a fixed margin dependent on our consolidated net leverage ratio ranging from 1.25% to 1.75%.
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Under the Revolver, we must maintain a “consolidated net leverage” ratio of no more than 4:1 at the end of each financial quarter. Consolidated net leverage ratio is defined for this purpose as the proportion of our total debt reduced by unrestricted cash, including guarantees and letters of credit, over our trailing twelve months net income before interest, taxes, depreciation, amortization, restructuring, share-based compensation and other miscellaneous charges.
As of September 30, 2023, we had $100 million outstanding balance under the Revolver (June 30, 2023—$275 million). For the three months ended September 30, 2023, we recorded interest expense of $2.0 million, respectively, relating to the Revolver (three months ended September 30, 2022—nil). In October 2023, the Company repaid the $100 million outstanding balance drawn under the Revolver.
For further details relating to our debt, please see Note 11 “Long-Term Debt” to our Condensed Consolidated Financial Statements.
Acquisition Term Loan
On December 1, 2022, we amended our first lien term loan facility (the Acquisition Term Loan), dated as of August 25, 2022, to increase the aggregate commitments under the senior secured delayed-draw term loan facility from an aggregate principal amount of $2.585 billion to an aggregate principal amount of $3.585 billion. During the third quarter of Fiscal 2023, the Company drew down $3.585 billion, net of original issuance discount of 3% and other fees, of which the net proceeds were used to fund the Micro Focus Acquisition (see Note 19 “Acquisitions” to our Condensed Consolidated Financial Statements for more details). On August 14, 2023, we amended the Acquisition Term Loan, to reduce the applicable interest rate margin by 0.75% over the remaining term of the Acquisition Term Loan. The reduction in interest rate margin on the Acquisition Term Loan resulting from the amendment was accounted for by the Company as a debt modification.
The Acquisition Term Loan has a seven-year term from the date of funding, and repayments under the Acquisition Term Loan are equal to 0.25% of the principal amount in equal quarterly installments for the life of the Acquisition Term Loan, with the remainder due at maturity. Borrowings under the Acquisition Term Loan currently bear a floating rate of interest equal to 2.75% plus Adjusted Term SOFR (as defined in the Acquisition Term Loan). As of September 30, 2023, the outstanding balance on the Acquisition Term Loan bears an interest rate of 8.18%. As of September 30, 2023, the Acquisition Term Loan bears an effective interest rate of 9.27%. The effective interest rate includes interest expense of $77.2 million and amortization of debt discount and issuance costs of $3.3 million.
The Acquisition Term Loan has incremental facility capacity of (i) $250 million plus (ii) additional amounts, subject to meeting a “consolidated senior secured net leverage” ratio not exceeding 2.75:1.00, in each case subject to certain conditions. Consolidated senior secured net leverage ratio is defined for this purpose as the proportion of the Company’s total debt reduced by unrestricted cash, including guarantees and letters of credit, that is secured by the Company’s or any of the Company’s subsidiaries’ assets, over the Company’s trailing four financial quarter net income before interest, taxes, depreciation, amortization, restructuring, share-based compensation and other miscellaneous charges. Under the Acquisition Term Loan, we must maintain a “consolidated net leverage” ratio of no more than 4.50:1.00 at the end of each financial quarter. Consolidated net leverage ratio is defined for this purpose as the proportion of the Company’s total debt reduced by unrestricted cash, including guarantees and letters of credit, over the Company’s trailing four financial quarter net income before interest, taxes, depreciation, amortization, restructuring, share-based compensation and other miscellaneous charges as defined in the Acquisition Term Loan. As of September 30, 2023, our consolidated net leverage ratio, as calculated in accordance with the applicable agreement, was 3.64:1:00.
The Acquisition Term Loan is unconditionally guaranteed by certain subsidiary guarantors, as defined in the Acquisition Term Loan, and is secured by a first charge on substantially all of the assets of the Company and the subsidiary guarantors on a pari passu basis with the Revolver, Term Loan B and the Senior Secured Notes 2027.
For the three months ended September 30, 2023, we recorded interest expense of $77.2 million, relating to the Acquisition Term Loan (three months ended September 30, 2022— nil). In October 2023, the Company repaid $75 million drawn under the Acquisition Term Loan.
The foregoing description of the Acquisition Term Loan does not purport to be complete and is qualified in its entirety by reference to the full text of the Acquisition Term Loan, which is filed as an exhibit to the Company’s Current Report on Form 8-K filed with the SEC on August 25, 2022.
For further details relating to our debt, please see “Long-Term Debt” to our Condensed Consolidated Financial Statements.
Bridge Loan
On August 25, 2022, we entered into a bridge loan agreement (Bridge Loan) which provided for commitments of up to $2.0 billion to finance a portion of the repayment of Micro Focus’ existing debt. On December 1, 2022, we entered into an
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amendment to the Bridge Loan that reallocated commitments under the Bridge Loan to the Acquisition Term Loan. In connection with the amendment to the Bridge Loan and the receipt of proceeds from the issuance of the Senior Secured Notes 2027, all remaining commitments under the Bridge Loan were reduced to zero and the Bridge Loan was terminated, which resulted in a loss on debt extinguishment of $8.2 million relating to unamortized debt issuance costs in the second quarter of Fiscal 2023.
As of September 30, 2023, we had no borrowings under the Bridge Loan. For the three months ended September 30, 2023, we did not record any interest expense relating to the Bridge Loan.
The foregoing description of the Bridge Loan does not purport to be complete and is qualified in its entirety by reference to the full text of the Bridge Loan, which is filed as an exhibit to the Company’s Current Report on Form 8-K filed with the SEC on August 25, 2022.
For further details relating to our debt, please see Note 11 “Long-Term Debt” to our Condensed Consolidated Financial Statements.
Shelf Registration Statement
On December 6, 2021, we filed a universal shelf registration statement on Form S-3 with the SEC, which became effective automatically (the Shelf Registration Statement). The Shelf Registration Statement allows for primary and secondary offerings from time to time of equity, debt and other securities, including Common Shares, Preference Shares, debt securities, depositary shares, warrants, purchase contracts, units and subscription receipts. A short-form base shelf prospectus qualifying the distribution of such securities was concurrently filed with Canadian securities regulators on December 6, 2021. The type of securities and the specific terms thereof will be determined at the time of any offering and will be described in the applicable prospectus supplement to be filed separately with the SEC and Canadian securities regulators.
Share Repurchase Plan / Normal Course Issuer Bid
On November 4, 2021, the Board authorized a share repurchase plan (the Fiscal 2022 Repurchase Plan), pursuant to which we were authorized to purchase in open market transactions, from time to time over the 12 month period commencing November 12, 2021, up to an aggregate of $350 million of our Common Shares on the NASDAQ Global Select Market, the TSX (as part of a Fiscal 2022 Normal Course Issuer Bid (NCIB)) and/or other exchanges and alternative trading systems in Canada and/or the United States, if eligible, subject to applicable law and stock exchange rules. The price that we paid for Common Shares in open market transactions was the market price at the time of purchase or such other price as was permitted by applicable law or stock exchange rules.
The Fiscal 2022 Repurchase Plan was effected in accordance with Rule 10b-18. All Common Shares purchased by us pursuant to the Fiscal 2022 Repurchase Plan were cancelled.
During the three months ended September 30, 2023 and 2022, we did not repurchase and cancel any Common Shares.
Normal Course Issuer Bid
The Company established the Fiscal 2021 NCIB in order to provide it with a means to execute purchases over the TSX as part of the overall Fiscal 2021 Repurchase Plan.
The TSX approved the Company’s notice of intention to commence the Fiscal 2021 NCIB, pursuant to which the Company was authorized to purchase Common Shares over the TSX for the period commencing November 12, 2020 until November 11, 2021 in accordance with the TSX's normal course issuer bid rules, including that such purchases were to be made at prevailing market prices or as otherwise permitted. Under the rules of the TSX, the maximum number of Common Shares that could be purchased in this period was 13,618,774 (representing 5% of the Company’s issued and outstanding Common Shares as of November 4, 2020), and the maximum number of Common Shares that could be purchased on a single day was 143,424 Common Shares, which was 25% of 573,699 (the average daily trading volume for the Common Shares on the TSX for the six months ended October 31, 2020), subject to certain exceptions for block purchases, subject in any case to the volume and other limitations under Rule 10b-18.
The Company renewed the NCIB in Fiscal 2022 in order to provide it with a means to execute purchases over the TSX as part of the overall Fiscal 2022 Repurchase Plan.
The TSX approved the Company’s notice of intention to commence the Fiscal 2022 NCIB pursuant to which the Company was authorized to purchase Common Shares over the TSX for the period commencing November 12, 2021 until November 11, 2022 in accordance with the TSX's normal course issuer bid rules, including that such purchases were to be made at prevailing market prices or as otherwise permitted. Under the rules of the TSX, the maximum number of Common Shares that could be purchased in this period was 13,638,008 (representing 5% of the Company’s issued and outstanding Common
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Shares as of October 31, 2021), and the maximum number of Common Shares that could be purchased on a single day was 112,590 Common Shares, which is 25% of 450,361 (the average daily trading volume for the Common Shares on the TSX for the six months ended October 31, 2021), subject to certain exceptions for block purchases, subject in any case to the volume and other limitations under Rule 10b-18.
Commitments and Contractual Obligations
As of September 30, 2023, we have entered into the following contractual obligations with minimum payments for the indicated fiscal periods as follows:
| Payments due between | |||||||||||||||||||||||||||||
(In thousands) | Total | October 1, 2023 - June 30, 2024 | July 1, 2024 - June 30, 2026 | July 1, 2026 - June 30, 2028 | July 1, 2028 and beyond | ||||||||||||||||||||||||
Long-term debt obligations (1) | $ | 11,967,329 | $ | 478,079 | $ | 2,155,858 | $ | 2,908,194 | $ | 6,425,198 | |||||||||||||||||||
Operating lease obligations (2) | 387,637 | 79,726 | 146,796 | 90,189 | 70,926 | ||||||||||||||||||||||||
Finance lease obligations (3) | 9,991 | 4,232 | 5,300 | 459 | — | ||||||||||||||||||||||||
| Purchase obligations for contracts not accounted for as lease obligations | 400,328 | 118,628 | 270,777 | 10,923 | — | ||||||||||||||||||||||||
| $ | 12,765,285 | $ | 680,665 | $ | 2,578,731 | $ | 3,009,765 | $ | 6,496,124 | ||||||||||||||||||||
__________________________
(1)Includes interest up to maturity and principal payments. Please see Note 11 “Long-Term Debt” to our Condensed Consolidated Financial Statements for more details.
(2)Represents the undiscounted future minimum lease payments under our operating leases liabilities and excludes sublease income expected to be received under our various sublease agreements with third parties. Please see Note 6 “Leases” to our Condensed Consolidated Financial Statements for more details.
(3)Represents the undiscounted future minimum lease payments under our finance leases liabilities and excludes sublease income expected to be received under our various sublease agreements with third parties. Please see Note 6 “Leases” to our Condensed Consolidated Financial Statements for more details.
Guarantees and Indemnifications
We have entered into customer agreements which may include provisions to indemnify our customers against third party claims that our software products or services infringe certain third-party intellectual property rights and for liabilities related to a breach of our confidentiality obligations. We have not made any material payments in relation to such indemnification provisions and have not accrued any liabilities related to these indemnification provisions in our Condensed Consolidated Financial Statements.
Occasionally, we enter into financial guarantees with third parties in the ordinary course of our business, including, among others, guarantees relating to taxes and letters of credit on behalf of parties with whom we conduct business. Such agreements have not had a material effect on our results of operations, financial position or cash flows.
Litigation
We are currently involved in various claims and legal proceedings.
Quarterly, we review the status of each significant legal matter and evaluate such matters to determine how they should be treated for accounting and disclosure purposes in accordance with the requirements of ASC Topic 450-20 “Loss Contingencies” (Topic 450-20). Specifically, this evaluation process includes the centralized tracking and itemization of the status of all our disputes and litigation items, discussing the nature of any litigation and claim, including any dispute or claim that is reasonably likely to result in litigation, with relevant internal and external counsel, and assessing the progress of each matter in light of its merits and our experience with similar proceedings under similar circumstances.
If the potential loss from any claim or legal proceeding is considered probable and the amount can be reasonably estimated, we accrue a liability for the estimated loss in accordance with Topic 450-20. As of the date of this Quarterly Report on Form 10-Q, the aggregate of such accrued liabilities was not material to our consolidated financial position or results of operations and we do not believe as of the date of this filing that it is reasonably possible that a loss exceeding the amounts already recognized will be incurred that would be material to our consolidated financial position or results of operations. As described more fully below, we are unable at this time to estimate a possible loss or range of losses in respect of certain disclosed matters.
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Contingencies
CRA Matter
As part of its ongoing audit of our Canadian tax returns, the Canada Revenue Agency (CRA) has disputed our transfer pricing methodology used for certain intercompany transactions with our international subsidiaries and has issued notices of reassessment for Fiscal 2012, Fiscal 2013, Fiscal 2014, Fiscal 2015 and Fiscal 2016. Assuming the utilization of available tax attributes (further described below), we estimate our potential aggregate liability, as of September 30, 2023, in connection with the CRA's reassessments for Fiscal 2012, Fiscal 2013, Fiscal 2014, Fiscal 2015 and Fiscal 2016, to be limited to penalties, interest and provincial taxes that may be due of approximately $76 million. As of September 30, 2023, we have provisionally paid approximately $33 million in order to fully preserve our rights to object to the CRA's audit positions, being the minimum payment required under Canadian legislation while the matter is in dispute. This amount is recorded within “Long-term income taxes recoverable” on the Condensed Consolidated Balance Sheets as of September 30, 2023.
The notices of reassessment for Fiscal 2012, Fiscal 2013, Fiscal 2014, Fiscal 2015 and Fiscal 2016 would, as drafted, increase our taxable income by approximately $90 million to $100 million for each of those years, as well as impose a 10% penalty on the proposed adjustment to income. Audits by the CRA of our tax returns for fiscal years prior to Fiscal 2012 have been completed with no reassessment of our income tax liability.
We strongly disagree with the CRA's positions and believe the reassessments of Fiscal 2012, Fiscal 2013, Fiscal 2014, Fiscal 2015 and Fiscal 2016 (including any penalties) are without merit, and we are continuing to contest these reassessments. On June 30, 2022, we filed a notice of appeal with the Tax Court of Canada seeking to reverse all such reassessments (including penalties) in full and the customary court process is ongoing.
Even if we are unsuccessful in challenging the CRA's reassessments to increase our taxable income for Fiscal 2012, Fiscal 2013, Fiscal 2014, Fiscal 2015 and Fiscal 2016, we have elective deductions available for those years (including carry-backs from later years) that would offset such increased amounts so that no additional cash tax would be payable, exclusive of any assessed penalties and interest, as described above.
The CRA has audited Fiscal 2017, Fiscal 2018 and Fiscal 2019 on a basis that we strongly disagree with and are contesting. The focus of the CRA audit has been the valuation of certain intellectual property and goodwill when one of our subsidiaries continued into Canada from Luxembourg in July 2016. In accordance with applicable rules, these assets were recognized for tax purposes at fair market value as of that time, which value was supported by an expert valuation prepared by an independent leading accounting and advisory firm. CRA’s position for Fiscal 2017 through Fiscal 2019 relies in significant part on the application of its positions regarding our transfer pricing methodology that are the basis for its reassessment of our fiscal years 2012 to 2016 described above, and that we believe are without merit. Other aspects of CRA’s position for Fiscal 2017 through Fiscal 2019 conflict with the expert valuation prepared by the independent leading accounting and advisory firm that was used to support our original filing position. The CRA issued notices of reassessment in respect of Fiscal 2017, Fiscal 2018 and Fiscal 2019 on a basis consistent with its proposal to reduce the available depreciable basis of assets in Canada. On April 19, 2022, we filed our notice of objection regarding the reassessment in respect of Fiscal 2017 and on March 15, 2023, we filed our notice of objection regarding the reassessment in respect of Fiscal 2018. We intend to file a notice of objection regarding Fiscal 2019. If we are ultimately unsuccessful in defending our position, the estimated impact of the proposed adjustment could result in us recording an income tax expense, with no immediate cash payment, to reduce the stated value of our deferred tax assets of up to approximately $470 million. Any such income tax expense could also have a corresponding cash tax impact that would primarily occur over a period of several future years based upon annual income realization in Canada. We strongly disagree with the CRA’s position for Fiscal 2017 through Fiscal 2019 and intend to vigorously defend our original filing position. We are not required to provisionally pay any cash amounts to the CRA as a result of the reassessment in respect of Fiscal 2017 through Fiscal 2019 due to the utilization of available tax attributes; however, to the extent the CRA reassesses subsequent fiscal years on a similar basis, we expect to make certain minimum payments required under Canadian legislation, which may need to be provisionally made starting in Fiscal 2024 while the matter is in dispute.
We will continue to vigorously contest the adjustments to our taxable income and any penalty and interest assessments, as well as any reduction to the basis of our depreciable property. We are confident that our original tax filing positions were appropriate. Accordingly, as of the date of this Quarterly Report on Form 10-Q, we have not recorded any accruals in respect of these reassessments or proposed reassessment in our Condensed Consolidated Financial Statements. The CRA is also in preliminary stages of auditing Fiscal 2020.
Carbonite Class Action Complaint
On August 1, 2019, prior to our acquisition of Carbonite Inc. (Carbonite), a purported stockholder of Carbonite filed a putative class action complaint against Carbonite, its former Chief Executive Officer, Mohamad S. Ali, and its former Chief Financial Officer, Anthony Folger, in the United States District Court for the District of Massachusetts captioned Ruben A.
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Luna, Individually and on Behalf of All Others Similarly Situated v. Carbonite, Inc., Mohamad S. Ali, and Anthony Folger (No. 1:19-cv-11662-LTS) (the Luna Complaint). The complaint alleges violations of the federal securities laws under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended, and Rule 10b-5 promulgated thereunder. The complaint generally alleges that the defendants made materially false and misleading statements in connection with Carbonite’s Server Backup VM Edition, and seeks, among other things, the designation of the action as a class action, an award of unspecified compensatory damages, costs and expenses, including counsel fees and expert fees, and other relief as the court deems appropriate. On August 23, 2019, a nearly identical complaint was filed in the same court captioned William Feng, Individually and on Behalf of All Others Similarly Situated v. Carbonite, Inc., Mohamad S. Ali, and Anthony Folger (No. 1:19- cv-11808-LTS) (together with the Luna Complaint, the Securities Actions). On November 21, 2019, the district court consolidated the Securities Actions, appointed a lead plaintiff, and designated a lead counsel. On January 15, 2020, the lead plaintiff filed a consolidated amended complaint generally making the same allegations and seeking the same relief as the complaint filed on August 1, 2019. The defendants moved to dismiss the Securities Actions on March 10, 2020. On October 22, 2020, the district court granted with prejudice the defendants’ motion to dismiss the Securities Actions. On November 20, 2020, the lead plaintiff filed a notice of appeal to the United States Court of Appeals for the First Circuit. On December 21, 2021, the United States Court of Appeals for the First Circuit issued a decision reversing and remanding the Securities Actions to the district court for further proceedings. The parties have completed discovery. On July 14, 2023, the district court certified the lead plaintiff’s proposed class. The defendants have filed a motion for class decertification and a motion for summary judgment, both of which are pending. The defendants remain confident in their position, believe the Securities Actions are without merit, and will continue to vigorously defend the matter.
Carbonite vs Realtime Data
On February 27, 2017, before our acquisition of Carbonite, a non-practicing entity named Realtime Data LLC (Realtime Data) filed a lawsuit against Carbonite in the U.S. District Court for the Eastern District of Texas captioned Realtime Data LLC v. Carbonite, Inc. et al (No 6:17-cv-00121-RWS-JDL). Therein, it alleged that certain of Carbonite’s cloud storage services infringe upon certain patents held by Realtime Data. Realtime Data’s complaint against Carbonite sought damages in an unspecified amount and injunctive relief. On December 19, 2017, the U.S. District Court for the Eastern District of Texas transferred the case to the U.S. District Court for the District of Massachusetts (No. 1:17-cv-12499). Realtime Data has also filed numerous other patent suits on the same asserted patents against other companies. After a stay pending appeal in one of those suits, on January 21, 2021, the district court held a hearing to construe the claims of the asserted patents. As to the fourth patent asserted against Carbonite, on September 24, 2019, the U.S. Patent & Trademark Office Patent Trial and Appeal Board invalidated certain claims of that patent, including certain claims that had been asserted against Carbonite. The parties then jointly stipulated to dismiss that patent from this action. On August 23, 2021, in one of the suits against other companies, the District of Delaware (No. 1:17-cv-800), held all of the patents asserted against Carbonite to be invalid. Realtime Data has appealed that decision to the U.S. Court of Appeals for the Federal Circuit. Based upon the order in the Delaware case, the U.S. District Court for the District of Massachusetts granted summary judgment in Carbonite’s favor. Realtime Data appealed the order, but stipulated to stay the appeal pending the outcome of their appeal in the District of Delaware case and agreed that if the U.S. Court of Appeals for the Federal Circuit affirmed the District of Delaware’s judgment of invalidity, Realtime Data would subsequently dismiss their appeal against Carbonite. On August 2, 2023, the U.S. Court of Appeals for the Federal Circuit affirmed the invalidity of the patents asserted against Carbonite. Pursuant to the parties’ stipulation, Realtime Data dismissed its appeal against Carbonite to fully resolve this matter.
Off-Balance Sheet Arrangements
We do not enter into off-balance sheet financing as a matter of practice, except for guarantees relating to taxes and letters of credit on behalf of parties with whom we conduct business.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
We are primarily exposed to market risks associated with fluctuations in interest rates on our term loans, revolving loans and foreign currency exchange rates.
Interest rate risk
Our exposure to interest rate fluctuations relates primarily to our Term Loan B, Revolver and Acquisition Term Loan.
As of September 30, 2023, we had an outstanding balance of $945.0 million on Term Loan B. Borrowings under the Term Loan B currently bear a floating rate of interest equal to Adjusted Term SOFR (as defined in the Term Loan B) and applicable margin of 1.75%. As of September 30, 2023, an adverse change of 100 basis points on the interest rate would have the effect of increasing our annual interest payment on Term Loan B by approximately $9.5 million, assuming that the loan balance as of September 30, 2023 is outstanding for the entire period (June 30, 2023—$9.5 million).
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As of September 30, 2023, we had an outstanding balance of $100.0 million under the Revolver. Borrowings under the Revolver currently bear interest per annum at a floating rate of interest equal to Adjusted Term SOFR (as defined in the Revolver) and a fixed margin dependent on our consolidated net leverage ratio ranging from 1.25% to 1.75%. As of September 30, 2023, an adverse change of 100 basis points on the interest rate would have the effect of increasing our annual interest payment on the Revolver by approximately $1.0 million, assuming that the loan balance as of September 30, 2023 is outstanding for the entire period (June 30, 2023—$2.8 million).
As of September 30, 2023, we had an outstanding balance of $3.6 billion under the Acquisition Term Loan. Borrowings under the Acquisition Term Loan bears a floating interest rate of 2.75% plus Adjusted Term SOFR. As of September 30, 2023, an adverse change of 100 basis points on the interest rate would have the effect of increasing our annual interest payment on the Acquisition Term Loan by approximately $35.6 million, assuming that the loan balance as of September 30, 2023 is outstanding for the entire period (June 30, 2023—$35.7 million).
For more information regarding the impact of SOFR rates, see “Stress in the global financial system may adversely affect our finances and operations” included within Part I, Item 1A, “Risk Factors” in our Annual Report on Form 10-K for Fiscal 2023.
Foreign currency risk
Foreign currency transaction risk
We transact business in various foreign currencies. Our foreign currency exposures typically arise from intercompany fees, intercompany loans and other intercompany transactions that are expected to be cash settled in the near term and are transacted in non-functional currency. We expect that we will continue to realize gains or losses with respect to our foreign currency exposures. Our ultimate realized gain or loss with respect to foreign currency exposures will generally depend on the size and type of cross-currency transactions that we enter into, the currency exchange rates associated with these exposures and changes in those rates.
We have hedged certain of our Canadian dollar foreign currency exposures relating to our payroll expenses in Canada. Based on the CAD foreign exchange forward contracts outstanding as of September 30, 2023, a one cent change in the Canadian dollar to U.S. dollar exchange rate would have caused a change of $0.7 million in the mark-to-market valuation on our existing foreign exchange forward contracts (June 30, 2023—$0.7 million).
Additionally, in connection with the Micro Focus Acquisition, in August 2022, we entered into certain derivative transactions to meet certain foreign currency obligations related to the purchase price of the Micro Focus Acquisition, mitigate the risk of foreign currency appreciation in the GBP denominated purchase price and mitigate the risk of foreign currency appreciation in the EUR denominated existing debt held by Micro Focus. We entered into the following derivatives: (i) three deal-contingent forward contracts, (ii) a non-contingent forward contract, and (iii) EUR/USD cross currency swaps. These instruments were entered into as economic hedges to mitigate foreign currency risks associated with the Micro Focus Acquisition. In connection with the closing of the Micro Focus Acquisition the deal-contingent forward and non-deal contingent forward contracts were settled and we designated the 7-year EUR/USD cross currency swaps as net investment hedges.
Based on the 5-year EUR/USD cross currency swaps outstanding as of September 30, 2023, a one cent change in the Euro to U.S. dollar forward exchange rate would have caused a change of $7.1 million in the mark-to-market valuation on our existing cross currency swap (June 30, 2023—$7.3 million).
Based on the 7-year EUR/USD cross currency swaps outstanding as of September 30, 2023, a one cent change in the Euro to U.S. dollar forward exchange rate would have caused a change of $7.5 million in the mark-to-market valuation on our existing cross currency swaps (June 30, 2023—$7.8 million).
Foreign currency translation risk
Our reporting currency is the U.S. dollar. Fluctuations in foreign currencies impact the amount of total assets and liabilities that we report for our foreign subsidiaries upon the translation of these amounts into U.S. dollars. In particular, the amount of cash and cash equivalents that we report in U.S. dollars for a significant portion of the cash held by these subsidiaries is subject to translation variance caused by changes in foreign currency exchange rates as of the end of each respective reporting period (the offset to which is recorded to accumulated other comprehensive income (loss) on our Condensed Consolidated Balance Sheets).
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The following table shows our cash and cash equivalents denominated in certain major foreign currencies as of September 30, 2023 (equivalent in U.S. dollar):
| (In thousands) | U.S. Dollar Equivalent at September 30, 2023 | U.S. Dollar Equivalent at June 30, 2023 | |||||||||
| Euro | $ | 164,124 | $ | 200,282 | |||||||
| British Pound | 48,337 | 69,108 | |||||||||
Indian Rupee | 42,082 | 57,199 | |||||||||
| Swiss Franc | 50,067 | 53,122 | |||||||||
| Other foreign currencies | 210,116 | 218,663 | |||||||||
| Total cash and cash equivalents denominated in foreign currencies | 514,726 | 598,374 | |||||||||
| U.S. Dollar | 405,124 | 633,251 | |||||||||
| Total cash and cash equivalents | $ | 919,850 | $ | 1,231,625 | |||||||
If overall foreign currency exchange rates in comparison to the U.S. dollar uniformly weakened by 10%, the amount of cash and cash equivalents we would report in equivalent U.S. dollars would decrease by $51.5 million (June 30, 2023—$59.8 million), assuming we have not entered into any derivatives discussed above under “Foreign Currency Transaction Risk.”
Item 4. Controls and Procedures
(A) Evaluation of Disclosure Controls and Procedures
As of the end of the period covered by this Quarterly Report on Form 10-Q, our management, with the participation of the Chief Executive Officer and Chief Financial Officer, performed an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures as defined in Rule 13a-15(e) promulgated under the Exchange Act. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that as of September 30, 2023, our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed in our reports filed or submitted under the Exchange Act were recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that information required to be disclosed by us in the reports we file under the Exchange Act (according to Rule 13(a)-15(e)) is accumulated and communicated to our management, including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
(B) Changes in Internal Control over Financial Reporting (ICFR)
Based on the evaluation completed by our management, in which our Chief Executive Officer and Chief Financial Officer participated, our management has concluded that there were no changes in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) during the fiscal quarter ended September 30, 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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Part II - Other Information
Investors should note that we may announce information using our website, press releases, securities law filings, public conference calls, webcasts and the social media channels identified on the Investors section of our website (https://investors.opentext.com). Such social media channels may include the Company’s or our CEO’s blog, X, formerly known as Twitter, account or LinkedIn account. The information posted through such channels may be material. Accordingly, investors should monitor such channels in addition to our other forms of communication. Unless otherwise specified, such information is not incorporated into, or deemed to be a part of, this Quarterly Report on Form 10-Q, our Annual Report on Form 10-K or in any other report or document we file with the SEC under the Securities Act, the Exchange Act or under applicable Canadian securities laws.
Item 1A. Risk Factors
You should carefully consider the risk factors discussed in Part I, Item 1A, “Risk Factors” in our Annual Report on Form 10-K for our fiscal year ended June 30, 2023. These are not the only risks and uncertainties facing us. Additional risks not currently known to us or that we currently believe are immaterial may also impair our operating results, financial condition and liquidity. Our business is also subject to general risks and uncertainties that affect many other companies.
Item 5. Other Information
During the three months ended September 30, 2023, none of our officers or directors adopted or terminated any contract, instruction or written plan for the purchase or sale of our securities that was intended to satisfy the affirmative defense conditions of Rule 10b5-1(c) under the Exchange Act or any “non-10b5-1 trading arrangement” as defined in Item 408(c) of Regulation S-K.
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Item 6. Exhibits
The following documents are filed as a part of this report:
| Exhibit Number | Description | Report or Registration Statement | Exhibit Reference | |||||||||||||||||
Company’s Form 8-K, filed August 14, 2023 | Exhibit 10.1 | |||||||||||||||||||
| 101.INS | XBRL instance document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document. | |||||||||||||||||||
| 101.SCH | Inline XBRL taxonomy extension schema. | |||||||||||||||||||
| 101.CAL | Inline XBRL taxonomy extension calculation linkbase. | |||||||||||||||||||
| 101.DEF | Inline XBRL taxonomy extension definition linkbase. | |||||||||||||||||||
| 101.LAB | Inline XBRL taxonomy extension label linkbase. | |||||||||||||||||||
| 101.PRE | Inline XBRL taxonomy extension presentation. | |||||||||||||||||||
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
OPEN TEXT CORPORATION
Date: November 2, 2023
| By: | /s/ MARK J. BARRENECHEA | ||||
| Mark J. Barrenechea Vice Chair, Chief Executive Officer and Chief Technology Officer (Principal Executive Officer) | |||||
| /s/ MADHU RANGANATHAN | |||||
| Madhu Ranganathan Executive Vice President and Chief Financial Officer (Principal Financial Officer) | |||||
| /s/ COSMIN BALOTA | |||||
| Cosmin Balota Senior Vice President and Chief Accounting Officer (Principal Accounting Officer) | |||||
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