Micro Focus International PLC (MFGP) 2019 Q4 法說會逐字稿

Hello, and welcome to the earnings call for the Micro Focus International plc preliminary results for the 12 months ended 31st October 2019. (Operator Instructions)

I would now like to hand the call over to Ben Donnelly, Investor Relations Manager at Micro Focus. Please go ahead, sir.

Thank you, operator. This earnings call covers the 12 months period to the 31st of October 2019. I'm joined by Stephen Murdoch, CEO; Brian McArthur-Muscroft, CFO; and also Kevin Loosemore, Executive Chairman. In a moment, I will hand over to Stephen for some comments on our performance in the period, but please do note that for those of you that are already accessing the webcast facility accompanying this call, you will find a few slides to support Stephen's comments.

For those participating only by phone, the webcast and the slides can be accessed through the front page of the Investor Relations section of the Micro Focus website. A recording of this call and those slides will be available shortly after this call finishes.

I would now like to hand over to Stephen for some introductory remarks before we open this up for Q&A.

Thank you, Ben, and good morning, good afternoon to everyone on the telephone. Overall, I would characterize this as a disappointing year as our financial performance was below our expectations. Despite this, there were areas of significant progress and a number of key accomplishments.

We delivered revenue broadly in the middle of the revised range with improved EBITDA margins and continued to drive additional cost efficiencies, although these did not fully offset the revenue decline.

Through the SUSE divestiture and the share buyback programs we executed, we returned $2.3 billion to shareholders which is the equivalent of $5.37 per share. And today, we're announcing a final dividend of $0.5833, which means we delivered $1.1666 for the full year.

Our product team has delivered new capabilities in every portfolio with outstanding examples of new innovation that our customers need, such as robotic process automation, artificial intelligence in multiple portfolios, enabling better, faster decision-making. And we also delivered further enhancements in support of giving customers the flexibility in choosing the right mix of cloud, on-premise or hybrid approaches for the business. I will cover in more detail our progress in the key integration programs in a moment as this context is important background for the Strategic & Operational Review that we announced in August.

We announced this review, given the challenges we experienced in delivering the consistent level of business performance we target and the extended time lines for completing the integration of HPE Software. The purpose of the review was twofold: to take a full and critical assessment of our integration program and the initiatives already underway to improve our overall execution capability, evaluating what was working and what needed to change or stop; and conduct a detailed evaluation of the full range of potential strategic alternatives available for value creation.

To support us in this work, with leading a global investment bank and specialist advisers. The review is substantially complete and I will summarize the findings later. But firstly, as additional context, I want to spend a few moments on the progress made on both integration and broader operational improvements in the period.

Our integration programs are focused on 3 distinct but iterative steps. Firstly, enabling the teams to collaborate. Secondly, simplifying the structure and processes in the business to improve speed and combining the systems and simplification work to deliver the foundations for materially improved execution levels and overall organizational productivity. This combination is key to margin expansion and the operational flexibility to enable strategic portfolio actions to be executed.

There was very solid progress in the period. We've built and deployed a completely new IT environment of servers, storage, networking and e-mail. This allows us to exit from the dependency on HPE Systems and bring the 2 teams together.

You can see examples of the scale of this work on the slide. The combination of this project with the project to deliver common business application systems, which you may have heard me refer to as Stack C, will when complete, provide the core of the operational platform I referenced earlier.

In parallel, we're advanced in simplifying our structure, for example, consolidating down from executing finance in more than 60 locations to 5 hubs.

While executing these programs, we've also completed the significant additional work of carving out SUSE on-time and to-budget enabling the shareholder returns referenced earlier.

This is good progress, but we're not where we wanted to be, hence the need for a review.

To recap, the review looked at our operational plan and strategic alternatives with the conclusions summarized as follows.

The fundamentals that underpin the Micro Focus business model and approach remain valid and our core value propositions resonate with customers.

We have however significantly underestimated the challenges and complexities that have emerged in the integration of the HPE Software business which has also extended the time required to complete this program. The issues are understood in detail, including the remaining actions and these include areas of acceleration and additional action.

The review also identified that whilst we have been dealing with these internal challenges, we've not applied our model or changed the approach quickly enough to respond to challenges or exploit growth opportunities in the market.

As I mentioned earlier, the review is substantially complete and the Board has concluded that at this time, the greatest opportunity for value creation is through the execution of 4 key actions which are targeted to deliver by 2023, a business with stable revenues, EBITDA margins in the mid-40s, generating at least $700 million of sustainable free cash flow and built on an IT and operational foundation that enables accretive portfolio actions.

The 4 key actions can be summarized as follows: First, we need to complete the core systems and operational simplification work that I talked about earlier. This platform is the key enabler for significantly improved execution across the company and will provide the foundation for margin expansion.

Secondly, we need to transform our go-to-market organization and approach. The work to do this has been underway but we need to change approach and drive much more significant change faster.

We have strong portfolios in Security and Big Data and these markets are growing, but we are not participating in that growth. We will now take a different approach on how we run and invest in these areas.

Additionally, we've not been decisive enough in driving a transition to SaaS or subscription in the areas of our portfolio where this is key to growth.

I will cover additional detail on our plans after Brian's update on our FY '19 performance. Brian?

Thank you, Stephen. Hello, everyone, and thank you for joining the call.

All the numbers that I refer to on the first slide will be on a constant currency basis unless stated otherwise. For information on the impact on the business of currency movements, please refer to the appendix of the presentation.

Firstly, let me give you an overview of our financial performance. The results for the financial year are in line with our revised guidance given at the time of the trading update on 29 August 2019. The revenue decline of 7.3% is within our guided range of minus 6% to minus 8% for the full year.

We provide analysis by product group in Appendix 2 of the presentation. As part of the August trading update, we launched a Strategic & Operational Review of the Group. A key part of this review is understanding the issues surrounding our sales execution and the outcome of this review will be discussed by Stephen shortly.

The license revenue has declined by 7.2% in the 12 months ended 31 October 2019. This decline reflects an improvement in license trajectory from 12.8% in FY '18. However, performance quarter-to-quarter remains more volatile than we would like.

We witnessed this in the third quarter of FY '19 where underperformance in the period combined with the deterioration of the macroeconomic environment led to a delay in new orders and resulted in us updating our full year revenue guidance.

The license revenue within the Security portfolio reduced by 13.1%, which represents the largest decline across our portfolio. Overall, the decline in Security was due to the impact of the significant levels of sales force attrition combined with an increase in the level of disruptive competition in the market.

This was further compounded by corrective actions required within the product portfolio which take time to flow through into pipeline of revenue.

Maintenance revenue declined by 6.2% before and 5.3% after taking account of the deferred revenue haircut. Please note, FY '20 will be the last year of the deferred revenue haircut and it will be minimal across all revenue lines thereafter.

The maintenance decline during the financial year has been impacted by one-off events such as the disposal of Atalla and the changing approach to servicing U.S. government contracts as an agent rather than a principal.

After taking these 2 items into account, the maintenance revenue decline would have been 4.7% rather than 6.2%. We provide further analysis of the impact of the Atalla and the U.S. government contracts in Appendix 2 of the presentation.

As a result of the above, we do not see the current year's performance as indicative of underlying trends and anticipate an improvement in the rate of maintenance revenue decline in future periods as we continue with our targeted investments across the portfolio.

Consulting revenue, which is not impacted by the deferred revenue haircut, declined by 21.5% in the period. Consulting revenue was broadly stable for the last 3 quarters of FY '19 and is on track to be stable on a year-over-year basis by the end of 2020.

SaaS and other recurring revenue declined 11.1% before and 9.9% after taking account of the deferred revenue haircut which was due to deliberate management actions in respect of managed services revenue. Later, as part of the Strategic & Operational Review section, Stephen will highlight the need to accelerate the transition to subscription and SaaS and the impact of which will be seen from FY '21 onwards.

SaaS, other recurring and consulting revenue contributed 2.6 percentage points or 1/3 of the overall revenue decline of 7.3% in FY '19.

The business is continuing to drive efficiencies and processes and remove complexity and cost from operations. Cost reduction programs are comprehensive and targeted to areas which do not impact the customer proposition.

On a net basis, the business reduced operating cost by 10.3% when compared to the same period last year. This resulted in an adjusted EBITDA margin increase of 2 percentage points to 40.7% in the 12 months ended 31 October 2019.

As part of the second phase of the Strategic & Operational Review, we will continue with our cost reduction program.

Alongside cost reductions, we continue to work on multiple transformation projects to simplify and standardize our systems including building a new IT system to run more streamlined business processes. The completion of these projects are a key strategic imperative. And as these projects complete, we anticipate incremental opportunities to realize efficiencies across our centralized functions and this will enable further cost reductions in future periods.

In addition, diluted adjusted EPS from continuing operations for the period of $1.96 represents an increase of 4.5% on the corresponding period. This increase is primarily driven by a lower share count due to the Group completing a further share consolidation on 29 April 2019 and returning $1.8 billion to shareholders as part of the SUSE transaction.

In addition, the Group completed $540 million of share buybacks throughout the financial period. The impact of these will be accretive to full year EPS in subsequent periods.

Today, we're announcing a final dividend of $0.5833 which takes the total dividend for the period to $1.1666 per share. This is a continuation of our dividend policy of twice-covered adjusted earnings. We're also announcing that we iterate this dividend policy for future accounting periods, 1/3 of which will be paid as an interim dividend and 2/3 as a final dividend in each period.

Moving now to some of the other key financial performance metrics. Firstly, HPE Software-related exceptional items. As a result of the ongoing integration of the HPE Software business and development of our new IT platform, the business has incurred exceptional items of $294 million in the period.

During the financial year, spend in relation to our IT systems totaled $126 million. As we've consistently communicated, this is a complex multiperiod IT project. The project is further complicated by our SOX obligations which limit the opportunity to make substantial system changes in the second half of FY '20. The overall exceptional spend to the end of October related to integration of the HPE Software business is $715 million.

We are encouraged with the progress made to date and we are expecting completion by the end of calendar year 2020 with a total spend of $960 million.

Adjusted cash conversion in the 12 months ended 31 October 2019 was 95.3% against long-term guidance of 95% to a 100%.

Please note, FY '19 free cash flow is not directly comparable to FY '18 because SUSE contributed cash profits for the full 12 months in FY '18 but for only 4 months in FY '19.

Once the integration is complete and exceptional costs are removed, we believe underlying free cash flow is circa $700 million. This is after increased tax payments, which I will explain in more detail later.

The Group's net debt at 31 October 2019 was $4.3 billion with a net debt to adjusted EBITDA ratio of 3.2x, and I'll give further detail on leverage and on the profile of our debt facilities later in this presentation.

Turning to the next slide. Micro Focus continues to be a highly cash-generative business. In FY '19, the Group generated over $1 billion of cash from operations in the period which represents an adjusted cash conversion rate, as I've said, of 95.3%.

During the year, we had a significant improvement in the collection of both overdue and current trade receivable balances. The reduction in aged receivables combined with a significant improvement in billing operations has been a key focus of the team in the financial year and an important part of the ongoing stabilization of the business and mitigation of potential risk on the balance sheet.

Despite this improvement, the working capital outflow increased from $39.6 million in FY '18 to $121.2 million in FY '19. This was driven by cash outflows arising from timing differences of exceptional cash costs and deferred revenue.

Tax payments increased in the 12 months to 31 October 2019 by $88.4 million. We've previously signaled that our tax payments will increase as we've now utilized the tax attributes acquired with HPE Software related to prepaid royalties. We expect a further increase in tax payments in future periods which, as mentioned earlier, will be more than offset from a free cash flow perspective by a reduction in exceptional costs.

As is typical for software companies and in line with IFRS, our CapEx spend remains relatively low being circa $80 million to $90 million in both FY '18 and FY '19.

Our low level of CapEx is a result of expensing all our research and development costs through adjusted EBITDA rather than capitalizing. Research and development costs were $491 million in FY '19.

The Group has generated substantial levels of free cash flow following the acquisition of HPE Software, despite incurring significant outlays on exceptional costs relating to the integration.

As mentioned earlier, our underlying free cash flow is circa $700 million which will lead to an underlying interest cover of circa 4.5x to 5x before dividends and after CapEx.

Moving to my final slide, we turn to the Group's balance sheet strength. As announced during our trading update in November, net leverage at the end of FY '19 was 3.2x adjusted EBITDA which we are reconfirming today.

Please note that when calculating our leverage, we've not taken into account any potential impact of IFRS 16 which the Group adopted on 1 November 2019 and as such, all measures we're discussing are on a like-for-like basis.

Since the trading update, we've continued to work on our Strategic & Operational Review, the initial findings of which indicate our leverage will gradually increase throughout FY '20 to the mid-3s by the end of the financial year. This short-term increase is driven by the required investment program and the transformational nature of the changes we're making to the go-to-market function.

It's important to note, however, that over the same period, our net debt position in dollar terms will decrease even after these investments and the tail end of the exceptional costs.

In the past, we've increased our leverage in the short-term to fund value-accretive M&A and associated costs. We now intend to make a similar organic investment in our business in order to drive value creation.

We expect to decrease the level of leverage by the end of FY '21 and then return to our medium-term leverage target of 2.7x during FY '23.

In terms of gross debt, $200 million of the proceeds from the SUSE disposal were used to reduce debt in the period and as a result, the next amortization payment is not due until late FY '21 and the first tranche of debt refinance is not due until early in FY '22.

The $500 million RCF remains undrawn and is not due until 2022. This combined with our cash balance of $356 million as at 31 October 2019, gives us ample facilities to run our business and demonstrates the robustness of our balance sheet as we continue to restructure the Group.

With that, I'll hand back to Stephen to discuss our Strategic & Operational Review. Stephen?

Thank you, Brian. To recap, these are our 4 key initiatives, each of which has a specific execution plan but they also overlap and reinforce each other. To provide additional insight, I want to go down a few levels in terms of detail.

Our core systems and operational programs are advanced. The review identified the critical enabling factor these have on our ability to execute in the short-term and as the foundations for longer-term efficiencies in operation and scale leading to expansion in EBITDA margins.

As such, the focus is on driving completion with as much rigor and speed as possible. There were also some adjustments identified to drive shorter-term progress in support of our GTM transformation.

Overall performance in sales will improve with the completion of the systems work but the review identified the need for more fundamental change to be driven in parallel. As additional context for this, through multiple acquisitions, the company has inherited a mix of product and regionally focused sales approaches. This has led to duplication and inefficiencies and overall inconsistency in execution. Analysis in the review has resulted in a decision to change how we're approaching this area.

To date, we've been taking an incremental and iterative approach to driving change, partly driven by systems issues and elevated attrition levels. This incremental approach has now been replaced by a structural change program driven top-down and built on 3 key pillars.

Firstly, a consistent global plan underpinned by a single sales methodology and common tools.

Secondly, a structured approach to serving our customers consistently and effectively with the company being aligned from product to sales in support of this. All of this built on the disciplined, data-driven and opportunity based resource deployment.

You can see these 3 pillars laid out on this slide. The design work is complete, execution is underway, we have deployed the consistent approach globally, built on a single common methodology and tool set and the team are now ramping usage. Driven by the historical differences of approach referenced earlier, we've been inconsistent in how resource has been deployed in support of our more than 40,000 customers, the results of which range from the same product growing in one country and declining elsewhere; ineffective cross-selling, for example, we have 30 products in our Security portfolio and sell no more than 2 or 3 in most cases to our existing security customers. And in too many cases, our customers are not exploiting the latest versions of our product. This reduces the value they see and therefore impacts renewal rates.

The structured model you see here, combined with systematic opportunity-based deployment of resource, is targeted at fixing this. To give you a sense of the potential here, the work we did as part of the review, identified a 30% gap in selling time to the benchmark. Addressing this gap, then turning half of it into sales would be the equivalent to at least 100 additional salespeople. We generate between $1 million and $2 million per primary quota carrier depending on the portfolio and experience levels.

A fair challenge would be is it realistic to assume you can turn half of this into sales? And in response, I would look at our core customer propositions and the fact that these continue to resonate.

When I visit customers personally and explain our strategy, the overwhelming response I get is, I didn't know that you did that. And this next slide gives you additional detail on how we add value to customers.

Firstly, we're focused on helping customers deal with the challenges and exploit the opportunities represented by the key market trends of the move to cloud and the requirement for customers to run and transform their businesses, means increasingly, they need to exploit a mix of cloud and on-premise deployment capabilities.

We deliver solutions for this, such that customers can achieve this with a balance of cost, risk and availability.

All the rapid expansion of things, applications and data, again where we offer a suite of solutions, specifically in Security and Big Data, that are focused on protecting identities, applications and data and enabling identifiable actionable insights from that data.

And finally, the demand for ever-faster new product introduction means faster deployment cycles and new approaches such as DevOps where again we've deep expertise and a long-standing track record.

In summary, we're focused on delivering speed through enterprise DevOps, agility through enablement of multiple deployment models, security through tools and governments and insights through a predictive approach to analytics.

The examples are customers on this slide from media to the most security-conscious government agencies, and there are many more in our website and annual report.

Turning now to our next 2 initiatives. The pace of change in the enterprise software market is accelerating and as we've been working through our internal challenges, we've not responded quickly enough to reposition ourselves to respond to those changes as effectively as we might.

The review has helped identify more precisely the 3 or 4 key areas that have had a disproportionate impact on our revenue performance and more broadly, that we are underexploiting our capabilities and potential to more fully participate in the growth in Security and gig data markets.

Having reviewed each of these areas in detail, we've developed corrective action plans with associated investment priorities that are focused on accelerating the delivery of new capabilities in our IT Operations Management and Application Delivery Management portfolios, the focus of which is improving revenue trends in these areas faster.

We will expand and accelerate our SaaS and subscription road maps and expect this to result in this revenue stream being roughly 20% of our overall revenues by 2023.

Our goal is to execute such that as much of this growth as possible is incremental rather than displacing existing revenue but market experience shows that some will inevitably be substitution.

And finally, we will be taking a differentiated approach to both Security and Vertica which is a Big Data solution, which I will now cover in more detail.

The security market is growing overall and specifically in the areas highlighted on the left of this slide where we have real strengths that we're not currently exploiting. We cover a broad spectrum of core use cases and have significant market share in key segments of this market.

Also, some of the largest and more security-conscious customers globally have invested in and trust our offerings, whether it is to scan billions of lines of codes with our Fortify offering or operate cyber-threat detection and response through enhanced analytics with Arcsight.

To better capture the opportunity in this market and reposition ourselves for growth, we will now begin to run and manage our Security business much more autonomously, leveraging a modified version of the SUSE playbook and underpinned by highly targeted investments in product development and specialist sales resources.

Similarly, in Vertica, our value proposition and core capabilities are closely aligned to the key market trends and customer requirements. And some of the most innovative and data-driven companies in the world already use the product at scale to drive their business models, ranging from dynamic pricing and retailing to better diagnostics and health care.

We believe this sheer volume of data needs an engine such as Vertica to derive insights from that data. We have completed the product architecture work to be able to deploy in the cloud, on-premise or in a hybrid model.

This provides the foundation to build from and again, we will run a modified version of the SUSE playbook tailored specifically for this area and drive a much more defined transition to SaaS and subscription revenue here.

In summary, to support the execution of the initiatives identified from the Strategic & Operational Review, we plan to invest $70 million to $80 million. This investment is targeted on research and development and sales and marketing within Security and Vertica, the goal of which is to reposition and drive for growth. In ITOM and ADM, we're accelerating the delivery of core capabilities, the goal of which is to enable faster correction of revenue trends in these areas. And in SaaS, to accelerate the delivery of our road maps to better position ourselves for growth in this area.

These investment actions form a key part of the overall plan laid out earlier.

Turning now to our FY '20 outlook. Based on the conclusions of the Strategic & Operational Review, we expect revenues for the 12 months ending 31 October 2020 to be in the range of minus 6% to minus 8% at constant currency when compared to the 12 months ended 31 October 2019.

Within this, we expect total revenues in the first half of FY '20 to be broadly consistent with the trajectory achieved in the second half of FY '19 with improvement in the second half of FY '20 and progressive improvement thereafter.

As set out on an earlier slide as a direct result of the review, we will be investing between $70 million to $80 million across our portfolio in FY '20.

The investments we are announcing today are not expected to deliver revenue benefit in the current financial year with revenue returns expected to begin in FY '21 and will therefore impact our adjusted EBITDA margins in both of FY '20 and FY '21.

By the end of FY '21, we expect to be showing a demonstrable improvement in our growth prospects and revenue quality which in turn should flow through to higher returns thereafter. This should also coincide with the delivery of the systems platform enabling cost and operational efficiencies to further contribute to margin expansion.

We expect to reduce net debt in absolute terms through FY '20 excluding the impact of IFRS 16 and with our strong underlying cash flows from operations continuing to comfortably fund our remaining integration-related exceptional costs and the additional investments announced.

Finally, I would like to close on reiterating the Micro Focus equity story, the foundations for which remain unchanged and are directly aligned to creating value for our shareholders.

The Micro Focus business model remains focused on delivering sustainable growth in EBITDA, strong cash flows to provide the scope for shareholder returns and the foundation for other value-accretive actions and all built on efficient and disciplined allocation of capital.

The key initiatives and associated investments announced today, combined with existing but adjusted operational improvement actions that are resulting from the Strategic and Operational Review, are intended to drive an accelerated recovery in revenue trajectory, such that we drive to flat to low single-digit revenue growth over the medium-term.

Successful delivery of this revenue improvement when combined with completion of the work to build an effective operational platform, should also enable adjusted EBITDA margins to be improved to the mid-40s over time and result in further improvements in the already strong levels of free cash flow generation.

Significant progress on this journey would also enable the company to once again consider appropriate portfolio actions and accretive M&A to further enhance shareholder value creation in the medium-term.

The executive team is fully committed to driving successful execution of this plan and the executions to begin this are already underway.

You will also have seen today the announcement of a change in Chairman. And in closing, I want to thank Kevin on behalf of the company for his contribution over 15 years at Micro Focus. And on a personal note to say how much of an honor it has been to work with him and I look forward to the next phase of building the business together working with Greg.

Thank you for your time today. I'll now hand back to the operator who will open up for Q&A.

(Operator Instructions) Our first question comes from John King with Bank of America.

I think 2 for Stephen. So just first of all, obviously, you've reiterated the desire to get towards flat to growing revenues in the outer years. But I just wonder, it strikes me that the customer base, there's a kind of perception issue that obviously Micro Focus has driven so much cost out of the business, hasn't really been focused on investing in the product, and I realize that, to some extent, we're seeing a change in tone on that today. And I just wonder how confident are you that that's fixable? And how much -- whether this $70 million to $80 million is enough to address that? And perhaps also, would you agree with that as being one of the issues that's out there?

And then second question was just on the IT project. I think that's detailed in the statement, in the consolidated application suite for the business. I think it talks about the idea that you can't do this, well in the second half of 2020. So I

(technical difficulty)

Questioner, it looks like your line dropped. Okay. We'll take our next question from Sven Merkt with Barclays.

It's James Goodman here. We've managed to get one of the phone lines working. And I wanted to ask you a couple of questions about the outlook, please. And just firstly, in terms of the revenue trajectory for next year, little bit steeper decline than I anticipated and I didn't fully understand the reasons for that when I think about the different revenue lines, given, I suppose, services will be a lower decline this year and it sounds like the agency-principal issues in the maintenance line don't repeat. So maybe you can help us a little bit with the outlook, maybe split across the 4 revenue lines?

And then secondly, just on the margin. I just wanted to make sure I'm interpreting your comments and the additional investment correctly on the margin. Do we take effectively a flat margin expectation, then we take out an additional revenue decline at a high drop-through and then take out the investment which gets you, I don't know, in the sort of just above maybe the mid-30s sort of range on the percentage margin or am I missing some of the offset within the revenue takeout component of that, if you like? Maybe you could just help us a little bit more specifically on the margin you're anticipating for next year?

James, yes, I'll take the second part of that. Your premise is quite correct to apply just the 2 to a flat and that will get you to where you need to be, I believe.

And then on the first part, I'll let Stephen talk to the individual parts of the GTM organization and the revenue impact.

Yes, James, we are -- the plan lays out a multistep phase to getting back to where we really believe we should have this business. We've begun the changes in H2 and through the start of this year. They're clearly going to take some time to work through. We're also still clearing out a lot of the hangover of headwinds that we've had in terms of sales productivity. And again, we've got a clear path to getting through those.

So in the short-term of H1, we'll see those continuing headwinds. We expect a moderation of that into H2 and then continued improvement from thereon.

The in-period compares on maintenance, et cetera, we've told you before are still impacted by a lot of anomalous activity that happened in the past. So again, I would encourage that you look at the full year and the trajectory on the full year once we get into the interims and not on the period-on-period.

Our next question comes from John King with Bank of America.

Yes. I'm sorry about that, my line dropped. Just to go back to the first one, was really around the perception issue, I think, that I was...

Yes, John, we got you all the way to -- yes, we got you all the way -- right to the end.

Yes, sorry. And the second one was around the IT project. And just, I guess, what's the rush with that project? It seems like perhaps the right thing here would just be to take your time to address that. And if you are to delay the implementation of that project, does that imply some further costs that you might incur in the second half? Or perhaps you can just clear that up?

I'll do the second one first. The IT program completes -- the remaining work completes work we've already done. So you put it together with the physical infrastructure. We then put the business systems on top. That gives us the platform required to actually drive the efficiencies across the organization that we're looking to do and also supports driving much improved sales force productivity. We can get after area of our sales force productivity independent of the systems, and we will do, but the ultimate combination is what delivers the real value.

The project is currently on track. It's always been working to address of time scales and it goes through a series of gates. And every time we go through a gate, we take a decision as to whether we continue on the current plan or whether we rephase. The next major gate on that is in Q2, and we'll communicate in the interims what we decided on the systems at that point.

So it really is that platform for effectiveness and efficiency moving forward. And by definition, we're not there yet. Therefore, we have more cost in the business than we would like. And as we move forward in these systems, we'll have the opportunity to deliver those cost improvements. Okay?

In terms of your first point, well, number of facts. We spend a broadly consistent amount of revenues on R&D development. We've delivered real breakthrough innovation on pretty much all of our portfolios as you look at it this year. I mentioned RPA, you combine that with artificial intelligence, you then put that together with decades of heritage and the testing -- software testing space through our ADM portfolio, and you can now automate manual tests with artificial intelligence to improve speed of product development. All of that is deployable on top of what you've already invested in, rather than needing a rip and replace.

COBOL we've put container technology now, so you can actually take an application written 4 decades ago and deploy it on any one of the public clouds without touching a line of code. Yes, we've got cloud native capabilities and service management.

We've got what we think is an industry-leading proposition in Big Data. We're underperforming against the capabilities we have in Security. We've been really clear on that and these investments are to fix that.

So, on the whole, I'm pleased with the progress we're making in product development. What we're not pleased with at all is the consistency with which we tell that story to our customer base. So you would get a mixed reaction if you picked up the telephone to our customers in terms of how much of what I've just said they know. And the reason for driving a structural systematic change to the sales force is to get after removing that variability and making sure more of our people, our best people, are deployed with the biggest customers with the best opportunity for our portfolios rather than the inconsistent application of resource that's been happening today.

So I think that's the bigger problem rather than our ability to innovate, which I think is [very strong].

Our next question comes from Stacy Pollard with JPMorgan.

I have 2 questions, really just around timing and progression. So if I look at timing and progression of revenue growth recovery, as I think through 2020, of course, you've already given guidance. How do you see -- do you think 2021 or 2022, perhaps, is the year that you breakeven and then kind of into the low single digits by 2023? Is that the way to think about it?

And then the second question, kind of a similar question on margin progression. If I take your reply to James around margins and what to include, I've estimated around something like 36% for margins -- EBITDA margins for FY '20. Can that pick up in '21? Is it my understanding that you could get back to, say, 40% by 2022, and then mid-40s by 2023, was that your definition of midterm?

2023 is the target for when we would be stable and hopefully driving modest revenue growth. The combination of that revenue leverage with the completion of the systems work that I've referenced earlier, Stacy, gives the foundational components to drive material improvement and EBITDA margins. So that's the time frame.

In terms of progression we've laid out how '20 looks, we expect a progressive step forward in '21. And then hopefully we build on that into '22 and accelerate through to that '23 time frame.

Yes, and obviously as we make progress, we'll share the updates.

And then your second question, Stacy, I see what you've done to get to 36% and I don't think we disagree with that, I think I can see where you're coming from.

Our next question comes from Julian Serafini with Jefferies.

So I want to go back and touch on the comment that you made earlier about disruptive competition in the security market. I guess, can you share some more color on that, like what exactly do you mean by disruptive competition? And has that abated in any shape or form? Or is that [not] persisting in that market as far as you can see?

Julian, I don't think I used disruptive in the context of competition and security. Security is a growing market, it, as with all growing markets, is competitive. We've got very strong franchisees in terms of customer basis, very capable -- very strong capabilities within our core products, whether that's Fortify for application scanning or Arcsight for threat detection and response. We've got solid basis in identity management and we've got a legacy position in endpoint security.

So that collection of assets, we believe, should be growing. We're not going to try and participate fully in the market-leading elements of that growth because that's not -- you know, that's not approaching in our model, and it's not what we would do in terms of investment levels, cash burn rates, et cetera, that you see in there.

But we do believe we should be participating in the growth in a 0 to high single-digit basis in aggregate, and the investments we're laying out today close gaps, accelerate the provision of new capabilities like SaaS in identity and then the operational -- the beginning to -- the beginnings of an operational separation, gives the foundation to actually differentiate execution levels expectations and how we hold the sales force accountable there.

So we think a combination of both of those things will position us for a single-digit growth in security as we complete them.

Okay. So I must have misunderstood it because the line quality is a little tough today.

And then the second question I want to ask too is you talked about the percent of total revenue in 2023 being SaaS or subscription? Should we assume that, that's predominantly more a subscription really an on-prem subscription rather than SaaS. I mean could you share a little bit on what's going to drive that?

We've got both actually. So existing today, we have both, and we'll continue to build out both. So we have genuine cloud native codeless SaaS solutions in a number of the portfolios. We then have a more subscription-orientation to deployment for some of our mainframe solutions in COBOL, capabilities in Security, we've got a mix of both. We've got a more subscription-oriented business in Fortify. And we've got a SaaS-oriented business we build in the other areas.

So it would be a mix of both, and how the split of those evolves, I think we'll just work through as we go.

Our next question comes from Michael Briest with UBS.

Two from me as well. As part of the strategic review, can you say whether there was any interest expressed in any of your business units? And was it just a question of price or was there actually no interest in any of your businesses?

And then secondly, Brian, on the maintenance, I mean, in the first half, you had 2.5% underlying decline. And you said that was the sort of run rate we should assume. And then 6 months later, there's a significant change and I'm assuming both the federal business and the disposal were affected in H1 as well. So can you talk through what was the exceptional headwind on maintenance? And why you're so confident that they won't recur?

So, just for clarity, I think I said you should not assume that, that first half performance was the underlying rate because we called out that there were some one-offs in both sides of it.

And then if you look at the H1-H2 split on maintenance, you can see it going very much the other way. In fact, in maintenance, there were headwinds for the majority of the year and particularly in H2. So what we called out this time was actually the headwinds in the maintenance number actually, which came in, not at 2-point-something but 6.1, we would say an underlying roughly 4.7 once you take out the effects of the Atalla transaction coming out year-on-year and also the move on the government side where we actually took -- just took a technical reduction in the revenue number because we needed to act as agent rather than principal in our relationship with them. So we still made roughly the same money out of the contracts but we just don't book the revenue and that goes through the maintenance line.

I don't think we'll see those kind of one-offs again going forward. So I think what we've called out actually isn't a 2 for the moment. I think we called out 4s, is what feels to us like coming through the white noise of the end of '18 and through '19. I think that the -- you come out of the end of that in 4s, as we've said. If there's any implication of 2s, I'm not 100% sure where it came from.

And on your first question, Michael, if I look outside the scope of the strategic review we get inbound inquiries for key elements of our portfolio on multiple occasions. Okay? And the -- my response would be there's a time for self-help and there's a time for portfolio action. And given we have very recent experience of getting that decision right with SUSE in terms of understanding when we had optimized the performance in our view as best we could in our ownership and had clear line of sight of the complexities of carving out with tax leakage, et cetera, then we were able to take the actions to monetize that asset and deliver those returns to shareholders. This is not the time for that. This is the time for getting those assets on the trajectory we believe they should be.

And just a final one. Could you, I mean, given the balance sheet, as you described it and your organic R&D investments, would you say M&A where you're acquiring things to help with the technology like you did with security in the first half is unlikely, so further acquisitions are unlikely in the short term?

I think if there are smaller acquisitions that can help technologically, we will always consider them and be able to do them. But certainly, a major acquisition at the moment we've taken off the table given that we would need to use stock and given where our share price is. I think that's only fair to make clear.

(Operator Instructions) Our next question comes from Mohammed Moawalla with Goldman Sachs.

Great. I had 2, if I may? One, in terms of the additional investments you're making. Are you willing to invest more for longer and essentially keep the margins flat in order to drive that kind of recovery? And what, in your view, is your kind of expected timing on kind of recovery? So what I'm trying to say is, would you essentially sacrifice margin to prioritize a recovery in growth?

Second question is just coming back on the maintenance. Can you just give us a sense of what your renewal rates are today? And to what extent, if there are any other moving parts in there, I know you identified some other kind of one-offs but I know in the past, Micro Focus also had the benefit of catch-up maintenance payments. Was that also a factor in here and looked at kind of true underlying renewal rate or maintenance rate of decline is?

So taking the first one -- I'll take the first one. In terms of what we would or wouldn't do, I think we've demonstrated today that absolutely we will invest to accelerate the turnaround of the business and that's what the '20 activity is all about.

If your question becomes, what does that mean for '21? At the moment in our modeling, we assume that we have all of the investment cost in '20, but none of the benefits coming through, but in our modeling we believe in '21 they start to come through so that if we were to reinvest in '21, we would have a net position where we'd actually get the benefits starting to flow through against it. So the bottom of the investment cycle in terms of the net return would always be 2020.

Would we consider accelerating in '21? Again, I think as long as we could see the level of progress and the justification for it, of course, I think we would. And I think I would apply that comment also to SaaS transition. At the moment in our SaaS transition modeling, as we've said, we're taking quite a conservative approach but there are other areas of the business that we are currently modeling, and have modeled, to look at whether or not we would accelerate. And I think, we just need to see the evidence of success, but also evidence of success economically, not just doing it from the point of view of optics, if you will. We want to see financial return for it. And I think we would consider that acceleration as well, if we got into 2021, and we were seeing significant traction and the ability and a willingness in the market to pay the right price for it.

And hopefully, that's specific enough on both sides of that for you.

Yes, Mohammed, on the maintenance number, we don't disclose renewal trends at a granular level. But we do have a very clear and specific 10-point action plan that we're executing to improve the underlying trends and maintenance. That features very specific set of actions that are around renewal rate. So those are, for example, around ensuring our customers are on the very latest versions of our products such that they see the most value from the maintenance, through to win back activities to get people back on to maintenance and then appropriate application of price and value increases as we go through. So there's a clear detailed 10-point plan to improve the underlying.

At this time, we have no other questioners in the queue. So I'll turn it back to our speakers for closing comments.

Okay. So thank you. I really appreciate the time today and certainly the questions. And I just want to close by reaffirming that the plan we've laid out today has clear and specific detail behind it. The execution is underway and the executive team are fully behind driving that execution to successful delivery because we see a huge amount of potential in this business that we're not realizing today. So with that, thank you very much.

Thank you. Ladies and gentlemen, that concludes today's presentation. You may disconnect your phone lines, and thank you for joining us.