archTIS Limited (AR9) Earnings Call Transcript & Summary

So good morning, everyone. Good morning to all our Australian friends and evening to all our international attendees. Welcome to the archTIS Q3 '23 investor update for the period ending March 2023. I'm Kurt Mueffelmann, COO and U.S. President. I'm joined by Daniel Lai, Managing Director and CEO. Dan, why don't I pass it over to you and kick off and start with the summary of the quarter, if you would, please.

Thanks very much, Kurt. Welcome, everybody, for those current investors and potential new investors on the call. We do this every quarter, and we're happy to be back here to present the quarterly results, which is a little bit of a mixed bag, but overall, I think, a good result. And let me explain why across the highlights. First of all, again, strong top line revenue growth. I think 107% on previous comparative period is a good result and consistent with the growth that we've demonstrated over the last few quarters. We've got a 65% increase on revenue over the previous quarter. And of course, we've got to continue to have our operating expenses decline. Now obviously, a big-ticket item that people will be looking at and focused on in this particular quarter was us looking at modify our revenue outlook. Now whilst that's disappointing, I don't think it's bad, and I'll explain to you why. The first reason is this. The order that we expected to come in, which we had forecast around minimum 60% outlook, was to do with hardware and the hardware transaction to operate our Kojensi platform in this particular environment. There was some news, which some people may recall, about cameras having spyware in them being implemented in government agencies, something that was raised in parliament, and that triggered a review of all hardware supply chain across the Commonwealth agencies. Now that has resulted, and of course, who would have thought that spyware in your hardware particularly implemented in government agencies was a bad thing. It is a bad thing, and none of us want that in our national security agencies or our defense agencies. That review has been the trigger for the delay in the hardware order. So I'm going to repeat that, that hardware order is delayed. It has not been canceled and will just be shifted in the period. And again, I don't think that's a bad thing. I think it's a disappointing thing. And so it's a hiccup along the road. And it's easy to get distracted by that. And I don't want people to be distracted by that because you're going to miss the really -- the good news of the quarter. And what's the good news for the quarter? The good news of the quarter is we have closed a number of deals across our international markets. But the really good thing that excites me across this period were -- last quarter has been the engagement that we've had in implementing and progressing a number of proof of concepts in our key defense clients that we have targeted, that we have worked very hard for across the next 2 years, that could, in terms of success of those POCs, accelerate licensing revenue, annual recurring revenue and our growth, with the company -- securing it towards cash flow-positive future and a rerate. So I know that there will be those short-term investments there, that we'll be looking at that modified cash revenue outlook. But I'm telling you the good news here is what's coming across the next 12 months, and I'm very confident about that. And I'm happy to stand up here and to tell you that. Why is that the case? Well, our branding and marketing has been very successful over the last couple of years, and the industry acknowledgment that we are now receiving is telling our customers that we are the default go-to to solve these problems for them in the cybersecurity space and the information access space. We just -- not only did we win the defense cybersecurity industry award last year. This year, we've been nominated for the cybersecurity company of the year. We've also just been -- and we were a finalist in the Microsoft partnership awards for data security, and Kurt will talk a little bit about that later as he was present at the awards. And of course, that industry acknowledgment has been strongly feeding into our alliances and accelerating new market opportunities in verticals that we don't actually participate in, which now our alliance partners have committed to taking us to, and that includes Thales and NetApp. So we have positive news on all of those 3 fronts, which I think puts the company in an excellent position moving forward across the medium -- short and medium term, next 12 to 18 months. Now from that, I'd also like to mention the release of the Australian Defence Strategic Review this week. Some of you will also realize that the -- one of the offers of that review was [indiscernible] in the U.K. last week. That has [indiscernible] [Audio Gap] continued largely [indiscernible] and if we are the default go-to for those products and services, then we have a very bright future and there's a sense of urgency to accomplish it. So that's the overall highlights of the quarter. I'll now pass on to Kurt to go through some of the financial quarter results in detail.

Yes. Great. Thanks, Dan. Good summary on that because during Q3, our total revenue was $1.8 million, which is really a solid triple-digit increase of 107% from the prior comparative period of FY '22 in Q3. Revenue was [Audio Gap] Australian defense department continued to invest in the expansion and enhancement of both our products, Kojensi and NC Protect, as well as Dan mentioned, we had a number of new, although smaller, international customer wins that really have helped augment kind of this larger deal flow during this period. This resulted in a $3.5 million ARR, a strong increase of 67% from the prior comparative period. Lower margin percentages were associated with the increased third-party services resources and hardware procurement to deliver the various [indiscernible] [Audio Gap] decreased, actual gross margin on a dollar basis increased by $265,000 just from last quarter alone. That really provided the business with additional working capital that really helps as we move forward. And licensing margins, as they generally are, remain in the 80% range. And so we remain very cost efficient and capital efficient as it relates to the licensing margins themselves. And as we talk about capital efficiency and operating, operating costs for the quarter were $1.7 million...

Yes. And I think it's...

A reduction of 38%. Daniel?

Yes, sorry, I think it's also important to understand that, that services revenue through that KPMG engagement, in the equipment revenue that we're looking at from our previous announcement of that defense, $9 million, is absolutely cementing us and, again, strategically has opened the doors for those proof of concepts to be pulled through. So these things are all tied intricately together, which -- and it's the story wrapped around those numbers, which we just need to emphasize where we are having our success.

No, great. That's really good on the top line. And again, as we look towards becoming cash flow positive, operating cost plays such a significant component of where we take the business and the speed to get to cash flow positivity. So the decrease really reflects a reduction of 38%, up from -- we had $2.7 million PCP, and we were actually down 17% from the prior quarter. So again, really managing those operating costs across the bottom. The drop in the operating expenses reflects really where our management commitment is to the market, to shareholders and to the business in getting towards cash flow neutrality and moving towards positivity. In the quarter, we ended with $4.8 million available cash. The cash outflows for the quarter was $1.9 million. As cash is always an outgoing concern for management, we continue to focus on closing business, exploring our cost controls on a daily basis and maintaining really where our cash position will be as we move forward. So again, really strong revenue growth supporting the decreased operating net cash flow really is putting us in a good position as we continue to take the business forward. So as we move towards year-end, we're really updating kind of where our FY '23 outlook statements go. And Dan mentioned a little bit earlier, but the company is on track for a solid year-over-year revenue growth. However, the risks have been identified, particularly for the delivery of the Australian Defence of $1.6 million in equipment in the coming quarter. And this may affect the company's ability to achieve the 60% revenue growth outlook statement provided early in the year. But the customers Dan mentioned is looking to fulfill this order in FY '24. So this order is not lost and will be coming at some time in the future. And really, where the impact was across the business, when we look at the impact of the gross margin from the $1.6 million deal, it really was only $250,000 of gross margin. And so when you look at the net effect of it, we are looking at ways to really capture that additional $250,000 in other areas of the business. So now we are estimating and releasing an outlook of year-end revenue between $6 million and $6.5 million, and we're representing a year-over-year growth of approximately 30% to 40%. So Dan, I know you've got a couple of thoughts on that, if you want to kind of jump in.

Yes. Look, I think that, again, the reason that we put out a range there is obviously working very closely with the number of deals. The DSR announcement slowed down internal acquisition of programs within the Australian Department of Defence. The reason for that principle was the -- most of these procurement areas wanted to make sure that these procurements were going to align with the outcomes of the DSR. So that's where I was -- just wanted to make a point of note. And obviously, we are very, as an executive team, focused on the cash position of the company and maintaining a strong cash balance sheet. And of course, we're looking at increasing revenue but also making sure that we have identified additional cost-cutting centers that we can do to make sure we can keep that forward-looking process now. Now I believe that Kurt has frozen. So I might be the only one online at the moment. So what I'll do is share my screen to -- oh, not quite. Let me see if I can get that up -- sorry for the glitch. Just a second while I get -- we'll just take it out from Kurt. Just give me a moment. Just waiting for that to come out. Can you see the screen? You can see it. Fantastic. Okay. I'll just move on from the -- as we mentioned, we are still committed to our $9.5 million in cash receipts and our operating cash net outflows, in decreasing that and making sure that we take care of that as a priority and have identified additional cuts. But obviously, as I just mentioned, there's a number of our deals that we believe that if we close across the next quarter as well, that we will be in a much stronger cash position moving forward. So I'll move to the next slide, Defence Strategic Review. What I wanted to say here was a couple of things. The Defence Strategic Review, as I mentioned, has deferred a number of opportunities moving forward this quarter, which had been moved out, including the equipment order. We're not deterred by that. We think that positions us for a strong year next year. We know the importance of this coming forward. And again, the real benefits of the DSR, which are going to push the company forward are this. The investment horizons have been made clear. The priorities by the government and defense have been made clear. And there's a number of those where -- secure information sharing and the need for our products are going to be absolutely imperative, particularly around data-centric security is being a key enabler of multicollaboration for the technical transfer and implementation of nuclear submarines capability development industry to defense-to-defense department through the alliance. This is a key investment area where we are highly well positioned that they are doing a number of proof of concepts with to look at what products can enable the DSR to be implemented with the sense of urgency, and we're in a prime position to succeed in that from a company perspective. Now I am not going to tell you that it's going to happen overnight. It won't. These things do take time and we've got a Department of Defence which is now adjusting to the new realities of the geopolitical situation and has been told by the government to get on with it. So we do think that we got a great opportunity from this. The timing of it, we'll just have to wait and see. But my suspicion is with the activity that we are seeing in here, which is the good news of the quarter, is that -- will happen over the next 12 to 18 months and will put this company on a position to reach its potential. Of course, the other theme there is the cybersecurity theme where they're clearly investing in, and the ICT systems and the data sharing, this clearly plays into our sweet spot and also creates opportunities for archTIS through the mechanisms that we've already got in place to be the primary adviser for the department, the primary provider of products and solutions to the department. Continued customer adoption. Well, again, KPMG continues to bear fruit for us. That has also, obviously, with the increase in cost of goods, led to an increase in terms of our cash flow -- outflows -- cash outflows across the business for the last quarter, which is part of the impact of the $1.9 million across the quarter in terms of expenditure. We necessarily see that continuing across the next year as we convert those consultancies and positioning those POCs into licensing. So that's really where we see the transition occurring over the next 6 months. The work we -- it does do is give us an advantage for being the thought leader in data-centric security in the department. Now we have won that business with another defense provider. And these are just all little things that are dropping, which positions us to be the premier provider of a shared infrastructure platform, being Kojensi, between the Australian Department of Defence and the industry. And we are now looking -- and as you know, we've raised a little bit of capital last year to launch that into international markets. I've been into London recently, I've had a number of conversations. I can tell you that the U.K. government is committed on the same path as they are in Australia and that what we are doing here, should we be successful, is imminently exportable. The Australian Defence Agency selected NC Protect to enforce data. NC protect not only does secure controls, but it also does secure file shares, which is a much larger market across the Australian Department of Defence, and that raises opportunities for new enterprise licenses in the Department of Defence. And that's where we're also targeting the spread of NC Protect across multiple areas within the department and multiple license arrangements. A multinational manufacturing company has also upped their number of licenses expanded to NC Protect in the U.S. and the renewal of Kojensi license with SAP, which is a critical, as I referenced, client we're sort of committed to. So -- and also with our expansion into the U.S., we have a large organization that support for license expansion. I'm going to talk about the traction with the alliance now, which is obviously very important. We were nominated for the Microsoft Security Excellence Awards for compliance and privacy and is a finalist. We were run off in that award over the weekend. Unfortunately, we lost to a billion-dollar company, which had a much stronger sales presence revenue and partnership arrangement over a period of time. But what I would [ say is that ] acknowledgment with Microsoft is now opening doors for new opportunities. I know there's a little bit of frustration there with people that are saying, well, when are the sales going to be pulled through the Microsoft alliance. Let me just say that we have never been tighter, and they have taken us into a number of opportunities, but these opportunities take time. Again, it's just the core market that we're in, in terms of government and defense, but they are not insignificant deals. The senior -- the U.S. Fed executive meetings. There's been a number of media presence held over the past 3 weeks and, most recently, in the last couple of days that are bearing fruit, and the U.S. government co-sell pipeline opportunities are mapping very nicely. We are also using those alliances very strongly with the Australian Department of Defence and Microsoft in a number of proof of concepts that we are working with here in Australia. Thales. We have been named as a verified solution partner. But more importantly, what Thales has seen with some of our products is they're now taking our products -- not only are they a customer of our products but now have -- are seeing the value in it and they are opening up new vertical markets to take these products to. That would certainly be targeting a process of winning a client, build a go-to-market strategy around success of that implementation and then more [indiscernible] more globally. And we're at the early stages of that, but we have met with their VP of their cloud business and also their defense business. Because it accelerates not only their existing capabilities, but also the capabilities with Microsoft as their trusted partner of Thales as well. Last but not least, NetApp. We've been certified as a NetApp partner. And as I alluded to before, there's a whole market -- untouched market for us there, which we natively fit into in securing file shares and file documents and storage. So that's another key area that we're focused on progressing over the next 6 to 12 months as well. Last but not least, I'll go back now to the strategic growth objectives. Now with the strategic growth objectives, we simplified the business model to make sure that our current resources that we have are aligned to the target markets where we believe are the soft entry points. And we'll double down where we have been successful and where we think the easy expansion of licenses are from the perspective of the company and the [indiscernible]. The Australian Department of Defence, the U.K. Department of Defense have now mandated data-centric security and zero trust across their organizations. They are rapidly trying to resolve the challenges of dealing with industry and capability development as they grow their defense capabilities and renew their defense capabilities, not just for AUKUS and the technology transfers that are going to occur through that in the nuclear submarines but across the board. So as I said, we are now seeing a real urgency in these departments. And not only is the DSR reemphasized, but there's also a question at the current procurement and acquisition processes and challenges to these departments to use what they've got, expand it and solve the long process of procurement and acquisition and challenge that to be converted into a rapid uptake. So I think all of those things are good for us. Our 3 goals currently are to be the preferred platform for sharing information across government, defense and defense industry. That is a Kojensi play. There's no doubt about that. We want to be the [indiscernible] for defense industry [indiscernible] this platform. And as I said, this is a key market for us, and it is a global market. And we're seeing that everywhere. I can give you plenty of examples of that, not only from nuclear submarines to the Hunter-class, but also the sixth-generation fighter between Japan, Italy and also BAE Britain. So there is a number of opportunities that we think will enforce access control and products to the market. We are already in there. We have already had once where we referenced -- and we also have a number of proof of concepts, which I said could rerate this company and expand our user base quite dramatically over the next 18 months. The thought leader in data-centric security. Well, with KPMG, we're already positioned as the thought leader in Australia, and we have then -- and all our trips to the U.S. and to the U.K. most recently confirm that we're ahead of those countries in terms of ability to apply policy enforcement and where our products can add advantage and accelerate their positions in terms of meeting those capability uplift gains as well as sharing intelligence and [indiscernible] information across their allies. So I think from that perspective, we're in a very, very strong position. So overall, I'd like to say this, we had brought in the quarter a strong revenue growth in terms of 100% on the prior comparative period of time, 65% growth on the previous period. We continue to focus on our cash outflows and reduce that towards our commitment of having our cash outflows across the period as we drive towards profitability. And the second thing there, of course, is obviously with the modification or the downgrade, that is something that's completely outside of our control. Again, I would reiterate, it's lost. It's disappointing, but it's not bad, and it will be pushed into the Q1 next financial year. So I think that's important to note. And overall, I'm very positive about what we've got to offer our shareholders in the short term and medium term coming up, propelled by not only the DSR but also the urgency within our clients to solve the problem and the number of proof concepts that we've got well positioned, which could propel the company to reach its potential. So overall, I think it's not a bad quarter. Obviously, I would like to be further along that path. I'm disappointed about the deferral of the equipment, but I look at the upside and I think that the company's on the right track. So I'll hand over to Q&A. Given that Kurt has been dropped off, Julian can you access those, and let's see what we've got in there -- answer some questions. I think there's about 16 questions in there. Let's have a look.

Look, the first one I'll take is from John. John, yes, you asked the question about, well, if we have materially modified the guidance, why wasn't this done earlier? Well, it's quite simple. We haven't done it as soon as we could from the position that we were of certainty that, that revenue was not going to come in this year. So it really is a communication between us and the client. And as soon as the client has told us that the order will not be placed this year, we have then gone out and modified it, which has only been in the last -- confirmed in the last week. So I would suggest to you that we have done that as immediately as we can. What can we tell you about secure access service edge, SASE, software-defined wide area networks? Well, as I just mentioned, we are here to be the -- one of our goals is to be the [indiscernible] between the industry and the shared services platform of choice between -- in defense, industrial base and also the Department of Defence. SASE is a different service. SASE is a network application control for devices and applications. So it's really about remote workforce and securing remote workforce. What it does not do is to control access control to the data. It's not a data-centric security control. And what does that mean? It means that the guy that has just been pulled up for leaking information, a 21-year-old in the U.S., he would still be able to do that. But with our controls, he wouldn't have been able to do that. And that's the difference because we would have controlled access to the data, which he had no right to access. With the SASE wide area network control, if he was remote in [indiscernible], he still would have been able to access that data and take it out because the permissions would have been vastly different. They're not granular. So just a quick question on that one. A large focus on big defense opportunities. Are you selling any small and easier business opportunities come through for NCP on the defense sector? We are, but we are doing that through partners, so our limited resources in terms of our direct sales forces and others. Now we are here to [ spur ] our place where we are most likely to win and where we've got a competitive advantage and access. And that's critical, that where we begin, we can get trusted references to other organizations and spread that news that is a key enabler. And it also means we can use our sell-through strategy for our alliance partners such as Thales, such as Northrop Grumman, such as Microsoft to make sure that we can be successful and have support in each of those areas. And a good indication of that is BAE has now come on board to look at us as a common [indiscernible] because of the work we're doing inside of the Australian Department of Defence because I've seen that similar need in the Ministry of Defence over in the U.K. So yes, we are, and I understand that your frustration there is because these deals take longer time. But let me tell you, they're sticky deals. They're quality clients. A number of those that's announced across the board have been with defense clients, but some of them have been with other organizations, which are not in the defense space at all. And we'll continue to use those new cases where they are available, but we're not always going to be there, but we are focusing on defense. We don't apologize for that. I like this one, and I'm going to give you a good one back, not a question, but a comment. It's not easy doing things always by the spreadsheet -- what the spreadsheet says, but we appreciate it. The [ front ] potential long term is enormous and better to go slower, right? And I'll add to that. When we did this downcast in the figures that we presented here to you today, at the low end, we have to be prudent here. No one's going to punish us for additional upside, and that's why we provided a range. But certainly, we're going to get hammered if we go below the downside. So I just want to make sure that in shareholders' interest that we have been conservative about what we're going to achieve. I'll take one last question, given we're over half an hour. How much margin do you retain when you partner with Microsoft, Thales, Northrop Grumman? It depends upon the different deal, the construction of that deal and what we're delivering. And an example of that is -- a particular deal that I can talk about without revealing the client is Microsoft are providing free resources for that deal. Why? Because if that particular proof of concept arrangement is successful, it gives them a whole of government product, which they can sell across government. So they also see the upside of the value of solving some of these problems, which is again, why we were nominated as a finalist partner for Microsoft. Because they also understand that we do something significantly resolves an important problem and a valuable problem to solve, which gives them greater consumption on their end. So that is one example of where the partner is investing for free. With BAE, in terms of that, they just include us by aligning in a much bigger budget and generally, they don't take fees on top. Some people do. Some people will take up to 10% of that fee. And we've done that in our cost of goods sold through those arrangements and forecast that within the product pricing. Finally, have you seen much uptake from major corporates in NC Protect off the back of the major hacks of Optus, Medibank and most recently, Latitude? Again, we have had interest from various partners who are looking at those deals, but we have been primarily focused on the Australian Department of Defence, the U.S. Department of Defense and government and also -- but I will say this. After the attack in the -- after the leak in the U.S., we had a number of callbacks from a number of clients, which has presented new opportunities which we are pursuing. And they were clients in the U.S., including government clients. Okay. Last question, I think we'll finish on this question because I know that it's something that a lot of people are concerned about. There's a whole -- and my concern is cash burn versus cash position and deferred deals. I don't want to see more dilution. We have said, and I'll state it again, we are, as an executive and as a Board, very concerned about exactly the same thing and highly focused on it. We have committed to halving our cash burn. Obviously, if we -- there's only 2 ways that you're going to solve that problem, bring more cash in through closing more deals or reduce your cash outflows by cutting costs. That is what the Board has committed to, moving towards cash flow positive as quickly as possible in this environment and making sure that we offer our shareholders a sustainable business moving forward, and that is what we're committed to doing. So that answers those hard questions. I'd like to thank you -- now that Kurt is back on, I think it's a good time that we say thank you, and thanks again for your investment and your loyalty. I think we're on the right path. I'm very excited about the next 12 months. And I think we'll work very hard to get ourselves into a position where we'll be able to exploit it. Thank you, everyone.