Rackspace Technology: Still Bogged Down By Debt (NASDAQ:RXT)

I’m living so far beyond my income that we may almost be said to be living apart.” – Saki

It has been nearly a year and a half since our initial article on Rackspace Technology (NASDAQ:RXT). We concluded that piece stating ‘Rackspace is in a sexy industry but with unsexy margins and high debt and is likely at best dead money‘ until it produced a turnaround in margins. Given it has been nearly 18 months since we last looked in on this ‘Busted IPO‘, it is time to circle back on this name. An updated analysis follows in the paragraphs below.

Company Overview:

Rackspace Technology is headquartered in San Antonio, TX, and operates through two main business segments: Multicloud Services and Apps & Cross Platform. Rackspace provides public and private cloud-managed services via the former and managed applications; managed security services in the areas of security threat assessment and prevention, threat detection and response, rapid remediation, etc. across the latter. The stock trades just over $1.25 a share and sports an approximate market capitalization of $290 million. The company breaks sales into Public and Private cloud revenues.

Third Quarter Results:

The company posted its third-quarter numbers on November 7th. Rackspace delivered a non-GAAP loss of four cents a share as sales fell just over seven percent on a year-over-year basis to $732 million. Both top and bottom-line results were slightly over the consensus, it should be noted. Private cloud revenue fell 13% from the same period a year ago to $300 million. Public cloud sales fell just four percent to $433 million. Rackspace posted $214 million of non-cash impairment charges during the quarter primarily as a result of a sustained decrease in the stock’s market capitalization.

Management guided the coming quarter to similar net losses with revenue being in the $710 million to $720 million range. The company’s CEO had just this to say about the company’s cash flow during the quarter:

Cash flow from operations was $267 million and free cash flow was $239 million in the third quarter. Our reported cash flow includes cash received through the new AR securitization. Normalizing for the AR securitization, cash flow from operations would have been $61 million and free cash flow would have been $34 million, in line with our expectations.“

Analyst Commentary & Balance Sheet:

The company is universally hated in the analyst firm community at the moment. Since third quarter results posted, five analyst firms including Barclays and UBS have reissued Hold or Sell ratings on the stock. Price targets proffered a range from $1 to $3 a share. Last week, Citigroup reiterated its Sell rating and bumped down its price target on RXT a quarter to $1.25 a share while offering the following commentary:

Our forward revenue estimates move lower once again as macro headwinds persist (delayed decision-making, etc.) and there may be elevated levels of investor fatigue for those waiting for positive signs that the longer-than-expected turnaround is coming to fruition. The company continued to opportunistically pay down debt, but a new Accounts Receivable securitization facility was leveraged to help achieve this…meanwhile leverage ratios remain relatively high (though the maturities are pushed out).”

Approximately 10% of the outstanding float in the shares is currently held short. One insider purchased just under $50,000 worth of shares in mid-August. Three others have sold just under $150,000 worth of equity collectively since Q3 results came out.

The company ended the quarter with just over $275 million in cash and marketable securities on its balance sheet against some $3.1 billion in long-term debt. The good news is that debt carries low interest rates and has no maturities before 2028. Rackspace also has $375 million worth of funding capacity on an open credit facility.

The company has paid down $274 million of debt in the open market over the first 10 months of 2023. They have done so at roughly one-third of face value of the notes. This is due both to the low interest rates of the debt compared to the current interest rates and the perception of the company’s long-term creditworthiness. The company paid $30 million to buy back $85 million at face value debt in the third quarter.

Verdict:

Rackspace posted a profit of 54 cents a share in FY2022 on $3.12 billion worth of revenue. This year the analyst firm consensus has the firm losing 16 cents a share as sales fall to $2.95 billion. They also project the company will lose seven cents a share in FY2024 on $2.87 billion.

The stock is selling at a ridiculously cheap price to sales ratio based on market cap and insiders have retained their stakes in the firm despite the company’s ongoing challenges. Management also has over four years to pare down its debt load substantially. Failure to do so, at current interest rate levels, would substantially threaten Rackspace’s ability to continue as a going concern.

The challenge is the company is projected to see falling revenues and post loss in both FY2023 and FY2024 despite the company consistently launching new offerings. Given that, it is easy to see why the analyst community is not optimistic about Rackspace’s future and why the stock should continue to be avoided.

If you owe your bank a hundred pounds, you have a problem. But if you owe a million, it has.” – John Maynard Keynes