RingCentral is facing an increasing debt burden, but – rather than pay it off – it has been plowing its cash into repurchasing its stock at higher prices than it sold them for.
This strategy is not new. It has been buying back its stock for the past two years in the hope that its free cash flow would be enough to repay its debts.
As analyst Michael Wiggins De Oliveira reports in Seeking Alpha, the problem is around $539 million of its debts will mature in two years. One year later – a further $520 million will be due for conversion.
During the company’s Q1 2023 earnings call, Sonalee Parekh, Chief Financial Officer at RingCentral, laid out its growth strategy: “We shared last quarter that we would double free cash flow generation from a normalized level of $140 million in 2022 to at least $280 million by 2024 by fiscal year-end.
“I am now confident we can achieve this level of free cash flow generation much earlier than the end of fiscal year 2024.
And this level of free cash flow generation gives us a lot of flexibility around capital allocation, and importantly, addressing our convertible debt in a cost-efficient manner.
Unfortunately, RingCentral’s revenue growth has consistently dropped by between three and six percent for the last five quarters.
Indeed, it has fallen from 33 percent in Q1 2022 to 14 percent in Q1 2023. Next quarter, the vendor estimates this percentage will drop to 11 percent.
At this rate, even if RingCentral succeeds in hitting its revenue targets, it would still not be enough to pay off its debt of over $1 billion.
By its own calculations, therefore, RingCentral is significantly overleveraged – as De Oliveira points out.
To make matters worse, RingCentral has been continuing to dig its debts even deeper.
Although the company announced that it had repurchased around $461 million of its 2025 convertible notes, its balance sheet only held around $275 million, which is $185 million short.
A large portion of this debt must have been paid for by another $400 million loan that it took out in Q4 2022.
8×8 Merger: A Bridge Too Far?
Since 2022, both RingCentral and 8×8 have suffered a 75 percent tumble in their stock prices. For RingCentral, this resulted in a ten percent layoff of its workforce
Yet, both bounced back this year after an activist investor bought an 8.7 percent stake in RingCentral and a 12.4 percent share of 8×8.
That encouraged the stock market as talks of a merger resurfaced. Why? Because – from one perspective – these two weakened companies would be in a stronger position to last the financial challenges ahead by joining forces.
After all, the idea of connecting 8×8’s CCaaS solution to RingCentral’s UCaaS solution massively could open up many doors in the enterprise communications space.
Yet, in the short-term at least, this will only add to RingCentral’s debt problems as it would have to take on 8×8’s debts too.
Some also believe that RingCentral’s latest earnings report shows that an 8×8 takeover would not be necessary to accelerate its profits.
Moreover, focusing solely on CCaaS, UCaaS, and CPaaS may also be limiting RingCentral’s potential, as Liz Miller, VP and Principal Analyst at Constellation Research, explains:
We tend to look at what is happening in the very insular areas of CCaaS, UCaaS, and CPaaS, at what our competitors and neighbours are doing.
Miller continued: “[An activist investor will say:] Wake up! Things are happening outside of this space.
“These conversations will be how can we make our stocks jump three- or four-fold.”
As such, the activist investor may only be advocating for increased cooperation between RingCentral and 8×8.
It could also be encouraging RingCentral to look beyond enterprise communications, identify opportunities elsewhere, and make the big changes that will buck the slow, downward trend.