Bentley Systems, Incorporated (BSY) Earnings Call Transcript & Summary

Welcome to the NASDAQ Investors Conference in partnership with Jefferies. Let's now go live to London.

Great. Thank you, everybody, for joining us. Just making sure this is working. So Greg from Bentley Systems is with us today. Greg, thank you so much for joining us. We were together this time last year. So I think that most in the audience should be familiar with Bentley Systems. But I thought for those that may not be as familiar, if you could give maybe a high-level overview of what Bentley does, just so those investors that don't know it well can maybe get up to speed on it before we dive into the story.

Samad, thank you, and I apologize to everyone for my voice. I attended such a conference as this a week ago in New York amidst the pollution. I haven't recovered since, but who would think you could come to London for blue and clear skies? We do come to London for quality of infrastructure. And actually, everyone would be familiar with what Bentley Systems does as we help with infrastructure engineering. We're the infrastructure engineering software company. So the U.K. make an important market to us, by far the second market for us in the world with over 500 colleagues here. But I came this morning by way of the Elizabeth line, and that was an example of a terrific design and construction project where we were the technology partner, and then we weren't involved in signaling and rolling stock that was delayed. But infrastructure underlies our economies and environment together in the world. The company history started with 5 Bentley brothers, the other 4 are proper engineers. And we began 40 years ago focusing especially on software for civil engineering and modeling of horizontal networks of infrastructure, we say today public works and utilities, and went on to acquire the simulation engines that are used with modeling of infrastructure engineering. And then project-wise, the collaboration environment, cloud environment and asset-wise and now digital twins. As a private company, we always prefer a subscription model. So our go-to-market today is almost entirely direct, 92% direct and over 90% subscription revenues. And by now our -- we focused on the major enterprises, engineering firms and infrastructure owner operators. 2/3 of our revenue are from accounts that spend over $250,000 a year with us. We've accumulated a comprehensive portfolio to make that possible. And I think that contributes to our profitability. We focus on increasing our operating margins every year. We measure our adjusted operating income with stock-based compensation. It's at 26% at this point comparing comparably to peers. And we had stable cash flows and even pay a modest dividend.

Great. I think that was a very helpful overview. And I'd like to thank you for the Elizabeth line. It's made my life less stressful coming into London. Traffic keeps getting worse here somehow. So let's talk about the market opportunity. You sized the TAM at about $30 billion. How should we think about the market share Bentley has in that market today? And how do you continue to gain share in that large market?

Well, $30 billion would be the expenditure by infrastructure engineers throughout the world if they spent as much as already do the product engineers of the world. And we don't have software for product engineering and the spending has been less where we are and gaining share, if you like, is going digital became the priority during the pandemic for infrastructure engineers. They couldn't do their work otherwise, couldn't visit sites and so forth. Digital twins got a start. I know we'll come back to that during the pandemic and since then, infrastructure investment programs in the world have become substantially a greater share of expenditure than ever before, and there is a capacity constraint now for the world's civil structural and geotechnical engineers that makes going digital of the essence for them to accomplish more for each hour that they spend, and yet we're at the beginning of how much could be spent in each of those hours.

So I'm going to jump ahead. You've mentioned digital twins a couple of times now. There's a lot of chatter in the market about that in the category that you spend time in. Why is there an opportunity now there for infrastructure engineering? And is has Bentley specifically attacking that opportunity?

Well, the reason it's now is a convergence of technologies that make digital twins feasible for infrastructure assets. One set of technologies is for the capture of 3D reality. Drone flights that produce video. Video is overlapping images. Our software processes overlapping images, triangulates it into a mesh reality model that you can actually engineer to. So we could have a digital twin of each infrastructure asset in the world. And then cameras to detect changes and sensor devices and so forth. . Then on the other extreme, you have the immersive environment, sometimes called the metaverse, there's more of them all the time to experience in 3D. What you need in between for a digital twin of infrastructure to be useful are the engineering technologies to go with the OT and the IT. The ET would be the modeling and simulation logic that exists for these infrastructure assets that we see outside the window. But generally, the modeling and simulation work done by the engineers is only used once for the project delivery phase. We know that because it's captured in the inscrutable format of engineering applications like ours, and they aren't used again. So the digital twin opportunity is to open up that useful ET engineering technologies to reflected in a cloud environment, federated semantically align, it and geospatially align it for this inversion, and then be able to evaluate the trade-offs for energy transition, resilience to flood and so forth, the requirements in the world now for extending the life and the safe life of existing infrastructure. So digital twins are an opportunity for us because the engineering technologies we provide the digital components, the digital chronology, the 3D and 4D in the context of the digital capture and immersive experience are here now. And -- but the ET is what's necessary to make it useful and valuable.

So it sounds like as this -- as it continues to grow as a function that Bentley will be well positioned to drive revenue from that opportunity.

Well, it's incremental to what we do now. We have an excellent business based on a consumption term by engineers of their applications for modeling and simulation and collaboration and, for instance, construction simulation and so forth. But that revenue opportunity is dependent on the rate of spend and the number of structural engineers. The digital twin opportunity is for each asset to have created and curated the data shared in the ways that I have described. And ultimately, our intention is to monetize that by being paid for the cloud service that brings it together, and there will be digital integrators of the world, the engineering firms who provide that analytics service, the proprietary use of the data for the owner operators of the world. We would like to serve that ecosystem by providing the underlying cloud service that does that federation and alignment and makes the 3D and 4D logic accessible and more valuable all the time.

That's helpful. You mentioned infrastructure engineers and it's a category that I'm myself a little bit less familiar with. So I'm curious where are we at in software spend when you think about the typical infrastructure engineer? And how should we think about software spend increasing as part of an infrastructure engineer's workflows? And maybe how is Bentley tying into that?

Well, we can quantify that. We're a long established and the biggest vendor generally for the largest engineering firms in the world. The top firms globally compiled by Engineering News Record account for about 1/4 of our ARR. And of course, we have telemetry for the number of hours they use our software. When you work that out, they spend today, across all of these top firms, about $1.41 per hour for use of our applications. But that's for the value of an engineer whose hour will be billed at, on average, $150. So the degree of substitution, if you like, of technology for labor, of the software intensity is less than 1% by now. And that mattered less over time when engineering firms billed their hours. That is their commercial model. And if you like, I don't want to be too cynical about it, but you don't have such a incentive to get more efficient if your business model is to bill your hours. But they have all reached capacity now over the past couple of years. There is not possible to hire a civil or structural or geotechnical engineer in the world. And so going digital to increase the productivity and quality of those hours is essential for that, which is the priority of all of us in resilience and adaptation and energy transition, energy security and so forth. All of the engineers are busy and going digital after it was essential during the pandemic is now the strategy to get more for each of those hours.

Yes. One of the things that you talked about in terms of it's hard to hire more engineers that were at capacity. So this brings me to a topic that I am legally required to bring up, otherwise, they won't let me keep my job, that's AI. And it's not a software conference or an event with a software company if we don't talk about it. So how do you think about AI maybe helping to either supplement the work of a typical engineer? And maybe how is Bentley thinking about AI inside of its portfolio of applications?

Well, we have a good start in analytical AI and machine learning. When the drone reality meshes are created, AI and machine learning enables us to recognize and classify the digital components. The road center lines, the signs, the signals and so forth, for instance. And on the generative side, we have degenerative design scenarios created by humans. Now to be able to generatively create designs from existing data will make that data all the more valuable and important. But when we think of generative AI on text or imagery, let's think of language models, there's a language. In the case of engineering, we don't have the language yet. We have a good start on it with a schema across our Bentley Infrastructure Cloud that brings all of the ET and the IT and the OT together, but there's much headroom ahead. I will say that the low-hanging fruit is as follows, most infrastructure projects, unbelievably even today, start with a blank screen even though the engineers have already done many bridges or done many wastewater treatment plants or airport terminals. So the initial use of generative AI will be to find and reuse the existing modules in industrializing and increasing productivity through reuse of existing designs. I want to emphasize that for our users the data is their data and their value. And our project-wise environment helps them and will help them in the future to be able to do this on their data. It isn't our data. And there needs to be more discussion of that particular point, I think, in general.

No, that's very helpful. And I want to touch on a couple of more of the growth initiatives of the company before switching gears. So where are you at on the E365 initiative? If maybe you can help the audience understand what that initiative is and where are we at on that. How much more growth do you think that can contribute over time?

E365 is our enterprise subscription program of the future. We have had a consumption-based commercial approach for enterprises, as I say, that's 2/3 of our business, but it was an annual consumption-based. E365 is daily. We -- our revenue and ARR depend on the daily use of our applications. We charge per application per day. That's a preferable model for these enterprises because the owner operators for whom the work is done, they're part of the supply chain, are willing to reimburse the cost of software because they know it improves the quality and productivity of the engineers. But they need to be able to have that attributed to particular project work each day for each engineer. When we introduced the program, we priced it in such a way as to recover, given the average number of days of usage of each product in relation to what was the annual subscription cost, a sufficient uptick to cover our dedicating a success team. So a virtual set of our engineers. We have 1,000 civil and structural and geotechnical engineers among our own 5,000 colleagues, and they're now assigned as experts to introduce new digital workflows. And the E365 accounts prioritize, each quarter, a set of blueprints to introduce new digital workflows to be able to use software more intensively and increase their throughput. So where we are now is we started with the largest accounts and are working our way down. We're about halfway through our enterprise accounts, and that's taken 3 years. So the bottleneck is we need to have these success people there and upskill them and dedicate them to the accounts, and we -- it takes some while to acquire and train those. So we have some years to go to get through our enterprise, 2/3 of our business, but we're halfway through that.

So we've talked about the big enterprises, right? And when I look around, I think about large firms is what drive projects like what I'm seeing outside of this window or when you mentioned something like the Elizabeth line. But you guys have also been talking publicly about moving more towards the SMB market. So what's driving that push towards SMB customers now? And what makes them more compelling than in the past maybe?

Well, it's a new focus on our part, frankly, since becoming public and focusing as we should on behalf of all of our shareholders on things we'd relatively neglected. And we have -- we're focused on direct account management of the large enterprises. But if we take a project like Crossrail, there is Tier 1 and Tier 2 and then Tier 3 contractors and consultants as well. And it turns out that there are as many infrastructure engineers who work in firms with 50 or fewer engineers as those who work in the larger firms in the world at large. And in the pandemic, when everything became virtualized and, if you like, all sales became inside sales, we turned our attention to the SMB market and created a specialized group of inside salespeople who focused on harnessing direct digital engagement. The engineers -- infrastructure engineers are not particularly interested in talking to a salesperson. They're willing to talk to another engineer, but they want self-service. So we have come to the SMB market through direct digital engagement and inside sales in a differentiated way, and it is succeeding for us to the extent that new logos now represent 3% of ARR growth, which has been rather incremental over these recent years.

Okay. Very helpful. Maybe last question on the growth driver side. The company has talked about this ES(D)G growth opportunity? What is that? Can you define that for us and help us understand why -- what you see is attractive about that from a growth perspective?

Well, every company issuer would talk about ESG, but for a software company, a global software company, especially as virtualized as we are in Bentley Systems across the world, our footprint, if you like, and environmental is not very substantial, it's immaterial. We say our handprint, helping our users the civil and structural geotechnical engineers of the world, in empowering sustainable development goals, the UN Sustainable Development Goals, the rest of us care about that and talk about it, but the actual work of -- to do with the quality of mobility and water and grids is the work of civil and structural and geotechnical engineers. So that which is imperative now for resilience and, even more so, adaptation as to climate for energy transition for energy security, these are what civil and structural and geotechnical engineers in the world are zealous about, committed to, and going digital is the only way to accomplish what's required there, the global consensus priorities. And we feel we have a special role to play and responsibility in that regard. And it's really stimulating and gratifying to share that ES(D)G priority with our users.

Great. Let's maybe step back and zoom out. We've talked a lot about Bentley. I think that the company also is impacted by what's going on in the macro world, there's these cross-currents. On the one hand, it seems like things are going quite well. U.S. is a strong labor market, you continue to see good growth. On the other hand, everybody is worried because that's what everyone want to do. So what are you seeing from a macro perspective? And how are you positioning the company for what you're seeing in the current macro environment?

The world of infrastructure engineering is BSY, busy everywhere. And there really is not an exception anywhere. The government programs for infrastructure investment, and that's how we would refer to it now. A couple of years ago, you would say stimulus. But it isn't really about stimulus. It's because of these priorities that I described that it is the -- there's a high return on infrastructure spending. The programs are long term and committed. And as you know now even in the U.S. So there is considerable visibility into the record backlogs and the quantity of work for several years to look ahead in public works and utilities, especially. Now infrastructure, we consider to be everything that's -- some of that would include commercial and facilities sector of infrastructure, vertical buildings, and there's overcapacity there. And these are subject to private financing and banking constraints and so forth, so we expect weakness in that. It's only a single-digit percentage of our own ARR in the industrial sector, which may be 20% of our ARR, also privately funded. But there, the incremental priorities for energy security, where we need redundant facilities in the world, seem to make that rather predictably strong. And then the largest sector for us after public works and utilities is resources and mining. And it seems that while that's cyclical, the cycle for electrification and so forth is certain to last more years to come. So macro is limited for us to the impact on commercial and facilities. Don't expect good things there, but it's only a single-digit percentage of our owned footprint.

Great. I thought only I was allowed to make jokes, but I like how you did BSY, busy with the ticker symbol, I like that move. So I appreciate that. Maybe switching gears. We only have a few minutes left. I want to jump ahead to the financial side. You've talked about ARR multiple times in terms of the contributors to that. How should we think about what's been sustaining that healthy ARR growth? And maybe what are the 2 or 3 key variables that will allow you to drive durable ARR growth?

Well, our ARR growth each period will be a layered sandwich, if you like, that starts with pricing escalation, and we do have annual escalation for our subscriptions. They're not contractually related to a price index, but I would say a software developer price index. So if that had been 2% or 3% for a long time, it might now be closer to 4% or 5%, 4%. And then the next layer would be consumption of our applications and our cloud service environments. And while on the face of it, that's kind of limited by the number of engineers. There is further penetration potential from period to period now that we -- that E365 our largest subscription program is based on daily consumption that can vary, by the way, with a number of workdays in each quarter. But the next layer above that is really the most significant one. When I start with engineers spend $1.41 per hour on average on our software now, they're using a mix of our applications, which include a lot of the generic modeling, such as our original platform product, MicroStation. But none of the engineers are actually working on generic projects. They're working on bridges or roadways or railways or overhead electrification lines or wastewater treatment plants or tunnels or wind farms. And for each of those, we have a specialized application based on MicroStation. But what you spend there is a multiple of 2 or 5 or 10 or 20. So we say application mix accretion. The opportunity, how will it go about, how will it happen that infrastructure engineers get to spending as much as product engineers do on software because the engineers cost the same. They'll be using more specialized software from us. And there's -- with E365, introducing the more specialized software is the priority often for our accounts in their quarterly road map blueprint prioritization. So that's the next layer, the application mix accretion, the upsell to more specialized applications, which is nowhere near the point of diminishing returns. And then finally, we have some new logos and names, and we also do have some new products through our programmatic acquisitions from time to time that represent under 100% of ARR growth. But that -- those combination -- that combination will change a bit from period to period, but it has been overall growing a bit since we've been public.

Great. Maybe we'll end with this one. Just how do you think about -- the company has a good balance of growth and profitability, how do you think about that trade-off? And maybe how should we think about the margin expansion over time?

Well, that is how we think of that trade-off. I'm a believer in Rule of 40, et cetera, it is the case that you can substitute for the short-term margins for faster growth. In our 40th year, our -- we have determined the trade-off, we think, is the right long term for our shareholders, and I might say our family continues to own 58% of the economics of the company. So we share -- we'll always make decisions for the long term. But how we calibrate that trade-off is that we say, each year, we should commit to becoming a 1% more efficient in our 41st year than our 40th, and if we're going to grow 13%, we'll spend only 12% more to do it. And then subject to growing our operating margins 100 basis points per year, we will grow as fast as we can. So for instance, our operating management, their incentives are contingent on achieving the 100 basis point operating margin improvement. But the amount of their incentives is based on the ARR growth that we reset every year. So we think that's -- you could say, well, why don't you recalibrate that and reconsider it every year, and I've learned that such is human nature that we're better not to reopen that discussion every year because we would always hear this is the year to invest and would not know if that works out for years to come. So where we are so far is we measure our operating margins, including stock-based compensation because it's important to all of us as investors, and we're up to 26% and believe we can grow that indefinitely going forward. You might say, why fundamentally is that? I think it's because when you serve these large enterprise accounts, so we have 150 that spend over $1 million with us, another 500 that spend over $250,000, and we scale up each year, providing them more. It doesn't cost us more to service them, if you like. And G&A, we can scale up over time as a public company and so forth. So I'm rather confident of indefinitely continuing that trade-off.

Look, Greg, it was great to have you here today and learn more about Bentley, and look forward to chatting with you soon.

Many thanks, Samad.

Thanks.

Cheers.