RXT - Rackspace Technology: Everything But The 'Kitchen Sink'

2023-05-05 16:11:07 ET

Summary

• Today, we circle back on Rackspace Technology, Inc., a once-promising cloud concern that has fallen on hard times.
• The company recently had a 'kitchen sink' quarter which contained numerous charges and write downs.
• Rackspace did generate positive cash flow in FY2022 and is very cheap on a price to sales basis.
• A falling knife to avoid or a potential turnaround story in the making? An updated investment analysis follows in the paragraphs below.

It's not your enemies who condemn you to solitude, it's your friends ”? Milan Kundera.

Today, we put Rackspace Technology, Inc. (RXT) back in the spotlight for the first time since our initial article on this small cap tech concern in June of last year. Our concluding take on RXT at that time was the following:

Rackspace seems like it is dead money for now while we wait for a turnaround in margins or perceptions about them. "

Avoiding the shares was the right call, as Rackspace Technology, Inc. stock has fell by more than 80% since our initial piece on it. Is this Busted IPO finally in the "buy zone" at current trading levels or is it still a " falling knife" to be avoided? An updated analysis follows below.

Company Overview:

Texas-headquartered Rackspace Technology, Inc. is an end-to-end multi-cloud technology services concern that develops and operates customer cloud environments across all major technology platforms. The company most recently debuted on the markets in August 2020, raising net proceeds of $666.6 million at $21 a share. The shares currently trade under $1.50 a share and sport an approximate market capitalization of $290 million.

Fourth Quarter Results:

The company reported fourth quarter numbers on February 22nd. Rackspace had non-GAAP earnings per share of six cents, a penny above expectations. Revenues rose just over one percent on a year-over-year basis to $787 million, some $10 million more than expectations.

Management then made the last stanza of 2022 something hopefully of a final " kitchen sink" quarter. Leadership is splitting the firm into two business units, Public Cloud and Private Cloud.

Rackspace took $217 million of non-cash impairment charges during the quarter. This consisted of a charge of $129 million for goodwill and another for $75 million for asset impairment. The asset impairment charge was for the company's current San Antonio headquarters facility as the company is relocating to North San Antonio. The goodwill write-off was due to the decline in market capitalization following the ransomware attack on Rackspace's Hosted Exchange email business. This attack happened on December 2nd of last year and resulted in Rackspace abandoning its Hosted Exchange email environment. migrating customers’ accounts to Microsoft 365.

For the fiscal 2022 year, Rackspace took goodwill charges of $535 million. Not surprising given the massive amount of market cap the company has shed since going public. The company also had $146 million of asset impairment charges in FY2022. Capital expenditures did drop from $203 million in FY2021 to $142 million in FY2022. Finally, the company brought in a new CFO in mid-November of last year. This follows an appointment of a new CEO in September. The company's Q4 report had something of a " clear the decks" feel to it. Not surprising given the recent management changes.

Analyst Commentary & Balance Sheet:

Since fourth quarter result hit, a half dozen analyst firms have reiterated/downgraded the stock as a Hold/Sell, including Raymond James and Citigroup. Price targets proffered range from $1.50 to $4.00. Credit Suisse seems the lone optimist on the stock right now with a buy rating and $6.10 price target on RXT.

Just over eight percent of the outstanding shares are currently held short. There has been no insider activity in the shares so far in 2023. In late November of last year, a company director purchased nearly $550,000 worth of equity at just over $4.50 a share.

The company ended FY2022 with cash and cash equivalents of $241 million and no balance outstanding on their $375 million revolving credit facility. The two provided just over $600 million in total liquidity for the company. In addition, Rackspace had cash flow from operating activities of $40 million in 4Q2022 and $259 million for all of FY2022. The company had free cash flow of $25 in Q4 and $179 million for all of fiscal 2022.

It should be noted Rackspace has a great deal of debt on its balance sheet . Fortunately, given the current credit environment, Rackspace has no significant debt maturities until 2028.

Verdict:

The current analyst firm consensus has Rackspace losing four cents a share in FY2023 as sales decline in the low single digits to $3.04 billion. Next year, they foresee a profit of 7 cents a share on a very slight rise in revenue.

Rackspace Technology, Inc. is dirt cheap both on a price to sales basis and operating cash flow basis. Unfortunately, that is before taking into consideration its nearly $3.5 billion in long-term debt. In addition, the company is projected to be marginally profitable in 2024 and is likely to face economic headwinds as the possibility of a recession seems to increase by the week.

Rackspace's far-off debt maturities give it time to right the ship and it has made significant management changes over the past couple of quarters to lead that effort. This is a story worth watching, but I have to see some additional progress to this potential turnaround play before I invest in Rackspace Technology, Inc.

People never know what they are capable of until all other options run out .”? Lance Conrad.

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