Clarivate Plc (CLVT) Earnings Call Transcript & Summary

Good morning, everybody. Thank you very much for joining the Stifel Cross Sector [indiscernible] assets that are, I would say, very prominent in the industries they're in, but not well known to the typical information services analysts or people on the street that are on that spot. And with that, I want to kind of open it up. And I think -- so Jonathan, one of the things -- I don't know if I just pose that question, you go through those slides. Jon has prepared a few slides here because the most prominent, the most common question I'm getting right now about Clarivate is, with everything going on with AI, how exactly is AI going to impact Clarivate's business? And is there a place where Clarivate is particularly susceptible to being disrupted by it? And on the flip side, I would say, where is Clarivate actually using AI in terms of what it's doing with its own product development and so on ingestion of data and the likewise. And with that, I just want to hand it over to Jonathan to kind of talk us through that a little bit.

Sounds great. Shlomo, thank you so much for having us. And for those of you that may be a bit less familiar with Clarivate or the name, I'll just take a second to touch on what it is that we do. So we are an information services business that provides enriched data, analytics and insights, workflow tools, and expert services to a range of customers that participate in the broader innovation life cycle. The business is operated in 3 segments, which are evidenced on the screen in front of you on the left-hand side. Academia & Government makes up about half of our business. In this part of the business, we are supporting the broader research product -- process with research and analytics tools. We do digital content aggregation. We have great software and workflow tools for both the researcher and the librarians within these universities that help to manage the broader collection. On the middle, you see our Life Science & Healthcare segment. Here, we help scientists and health care organizations to create a healthier tomorrow. We do that by supporting the full spectrum of therapeutic development, from research and development through to regulatory and safety and then ultimately the monetization of the investment they've made in the commercialization cycle. And then finally on the right, our Intellectual Property segment supports that broader ecosystem, which is really made up of a few key parts. It's the patent and trade offices around the world. It's corporations that maintain IP portfolios as well as those law firms that support individuals and corporations in doing that. We provide intelligence services, workflow tools and the broader ability to maintain their patent profile for them.

So to Shlomo's first question, I'll just touch on that on Slide 5 here, all 3 of our businesses are using AI today to enhance our solutions. And I've outlined for you on the page, we do that on a couple of different dimensions: Machine learning; deep learning; and then what is most relevant right now or being talked about, which are the large language models that deliver generative AI. Machine learning and deep learning have been around for a while, so I'll focus just very particularly on the generative AI component. The first opportunity that we see to really enhance the experience and the solutions for our customers is to leverage this tool in the content ingestion process. So I've given examples here of each of those within each of our businesses. We've been able to automate the classification process within our A&G segment, which delivers really important KPIs and tools to our customers there. We're able to extract relationships and normalize information coming in through these models within our Life Science segment to continue to augment and enhance the information there. And then it's given us the ability to do rapid summarization, leveraging LLM within our IP segment to provide really attractive translation of the patents for many records around the world to help make them more relevant for the searchers in those areas. So I want to start with that key point, and that is that we are leveraging the most cutting-edge technology in AI in our products today, and these are some real-life examples and proof points of that. But when we step back, when we think about where the technology is going over time, we're particularly excited about the role we can play in leveraging this technology to augment experiences in the broader suite of products that we provide for our customers. And there are really some key reasons for that, that are important to understand, and those are evidenced on the slide on the top. There are 3 really key building blocks as to why our assets are going to be augmented by this new technology. And the first is proprietary data. We have billions of data points across our products that are not available anywhere else in the world. And these are highly relevant for the use cases that we're dealing with in all 3 of our segments. The next aspect is what we're really referring to as analytical transparency. Our markets cannot accept a black box, meaning it is critical that our users are able to go back and trace how the solution or the information was arrived at. Our rich metadata that we've developed around all of these proprietary records that we have give us the ability to provide that transparency, as they go through, to understand the analytical output. And then finally in our case, very simply, you have to have accurate intelligence. The information that we provide has to be right. One of the big challenges early on with the models are hallucinations. And in our market, we cannot afford to have high levels of hallucination. So the results have to be validated. We have to leverage the data. We have to provide that traceability and providence around the information to get the right answer. And it's really going to be so valuable for our customers for a few reasons, and those are reflected on the bottom. The use cases in our markets are very high stakes. When it comes to being regulatory-compliant for a drug or when it comes to making sure that people are safe in our health care business, it's just so critical that these use cases are accurate and correct. We are also so embedded in their workflows that, as we introduce this technology within our existing products, it's going to help augment what they already do and enhance it and make it much less disruptive for them as they're leveraging the new technology. And then finally, it's so important in our market that you have that seal of approval or that clear understanding that the information that you're getting is right. And we've developed those trusted credentials over a very long period of time. Last thing I'll highlight on real quickly is just how each of those key building blocks are relevant in our business today. When you look at that proprietary data, it's not just one of our segments that has proprietary data. All of them do. Our academic business has exclusively licensed content along with the rich metadata that we've developed around it. We've developed disease insights around over 200 diseases around the world in thousands of different patient segments, those are ours and can be leveraged in these LLMs and in this AI. And then finally, all of the unique classifications that we've provided around patent technology, as an example, gives the ability to discover that information in the right way. It's so important in the KPIs that we deliver in Academia & Government. And it's also so critical that we have auditability and traceability within our analytics for the Life Sciences space. We have a great exciting new tool that we brought in to market this year, Brand Landscape Analyzer in our IP segment. And this uses artificial intelligence and generative AI to look at trademarks around the world and help identify potential infringements for our customers so that they can enforce and protect those critical assets. So the analytics delivered by that are so valuable. And then finally, getting the intelligence right is so critical. We do that so well within our academic business with our workflow tools, like Alma, that give great analytics that are useful for our librarians, understanding the value they create. The regulatory compliance tools that we deliver, we deliver the right answer with our ClaRITA solution, which is used by many of the world's largest pharma companies to help manage that process. And then finally, protecting IP rights around the world with our renewal services. We can leverage these analytics to make sure we're doing those IP renewals in the most efficient way for all those customers. So long-winded answer to your first question, but lots of exciting stuff going on within our space as we apply this technology to benefit our customers.

Great. I want to follow up with one of those items, though. A lot of what you have is behind paywalls or things like that. So you want to get all the different journals, you have to subscribe or pay for them in order to run those analytics. So it's a barrier for someone else to try and go ahead and assemble that. But the trademarking that you just referred to, though, a lot of it is just scouring the Internet for similar type of images. Well, it's to stop someone else from using this kind of technology to go ahead and generate similar products and say, "Hey, we have a trademark kind of business that's going to compete using AI that we've developed in order to match similarities for the customers?"

Yes. And this is a case why this is important for us to be out front and to do this early on. It's our deep knowledge around the trademark process, all that rich metadata we have from decades of helping companies to protect that, that we believe are going to make our analytics superior. We're one of the early ones to market with this technology. We think it's going to be a great solution and help to prevent others from coming up with a solution that's more attractive or more effective.

Okay. I'm going to just shift a little bit. The company is going through kind of a transition in trying to improve the organic growth of the business overall. And one of the goals over the next, I think by the end of 2024, is to be able to get the company to organic growth of 6%. Most investors, when you look at the end markets of the business, kind of academia or government, IP is a little more esoteric, but it doesn't seem to ring as these are end markets that grow that fast. How can investors get confidence that you're really -- you're not really trying to outpace the end markets by an unreasonable amount, and so that the goals are actually achievable?

For sure. So when we think about the growth potential of our markets, you're right, we have a market that grows slower, we have a market that grows faster and then we have a market that's close to that average of about 6%. So Academia & Government globally, we think is about a 4% grower. This is a space we're continuing to invest in digital content and the software to augment and enhance the research process, has a growth rate that's in that range. We believe we can come up to speed there, and I'll touch on the areas of focus in just a moment. Our highest-growing market, we believe to be the Life Science & Healthcare market. We think that's about a 10% growing business. It is our smallest segment, but it does help to pull up that overall average in terms of our potential. We've had products there that grow at those levels in segments that clearly deliver that, and we think there are some others we can bring into that range. And then finally, we believe the IP ecosystem and the information we provide is about a 6% grower. So on the blend, the 4%, the 10% and the 6% for those respective businesses get us to about the 6% overall. And when we think about what we need to do to close that gap, we've been growing about at the 3% range, about half of that. At our Investor Day back in March, we identified 3 key areas that need to accelerate growth in order for us to be able to be growing at market or effectively maintaining share in all of our spaces. Within academia, it's that first category that was highlighted on the slide, that's research and analytics. This is an area where we allowed the product to be underinvested in for a period of time, and we needed to invest in a new user interface and some innovation around the analytics to help enhance the growth. And we are so encouraged by the performance of this area early on in 2023 to demonstrate that we're going to make progress in this regard. So this is the area we're starting investing in first. Late in 2021, we made a meaningful investment to completely overhaul the user interface for our Web of Science product. The first major renewal cycle after that was in market was early this year. We saw a 4 percentage point improvement in our renewal rate within that category. We saw double-digit new subscription growth, and that was on the heels of almost an 80% increase in monthly active usage in the prior year that we were able to monetize through that renewal cycle. So really encouraged on the progress we're making there. We believe that the Academic & Government business will be the first one to get quite close to its market growth rate over the course of the next year or so here. The second area in life sciences that we have to focus on is commercialization. So this is the area where we help companies monetize the innovation that they've made around drugs or therapeutics. And this is an area where we're going to make a meaningful investment to deliver an analytics layer on top of our real-world data, combined with all of the research that we do around disease reporting, to deliver a package that's really attractive for those customers. Right now, we're largely selling the data. We're moving up the value chain. We're going to have the first major solution in market towards the end of this year. The second will be early next year. And that's going to be the way that we help to close that gap in life sciences to move towards that double-digit growth rate. The final area that we had to focus on is within the IP segment, and this is in the patent intelligence space. So the primary product here is Derwent, but we also have Innography and IncoPat. And this is a product that had just been underinvested in. And very similar to Web of Science here. It actually came from the same legacy business. It has the best data in the market, we believe, for the solution set to be able to really understand prior [ art ], really understand where there are opportunities to create innovation that you can protect effectively. But it was underinvested in. So we've got a great team that's focused on that. We'll be bringing a series of solutions to market on top of that platform which will start to roll out towards the end of this year and help us to close that gap. It's been a product that's struggled from a renewal perspective, from a pricing perspective and from new sales. And as we see those solutions coming to the market, we're confident, with that strong data, we'll be able to close that and get closer to the 6% of IP.

So if I think about the timing, though, you're starting to see the encouraging signs in Web of Science now, right? And so the significant investment happened at the end of '21. So there seems to be like a little over a year lag before you start to see that. When did the investments really start for -- by the life sciences, some of the other sciences areas in IP? And should we expect that it will also take maybe like a 5-quarter kind of lag to really start to see more encouraging signs within those businesses?

Yes. I think that observation is very consistent with the time line that we outlined at the Investor Day for the growth acceleration. So we said, in 2023, we would start to see meaningful progress on Web of Science because we had invested in the prior year. The investments in those other areas started late last year, early this year and are really ramping up in earnest as we move to this year. So we do expect that there wasn't going to be a meaningful improvement in either of those areas in 2023. That's reflected in our guidance for this year. But as we move to next year, we indicated we thought we could get overall into the 4% to 5% organic growth rate, largely being driven by the Web of Science improvement, but also starting to see improvements in commercialization and in patent intelligence and continued progress into 2025 as we approach that 6% target.

Got it. And if you think about the different businesses and the efforts that you're making over there, are there some areas that you feel are going to be easier for you to close the gap in versus other ones that might be harder? In other words, I'm looking at your talking about Web of Science, is it inherently harder in Derwent or for whatever reason or one of the other areas? Or do you think that it's kind of a normal cadence that each should follow the same path? Are there nuances within the end markets that make one different than the other in terms of really getting -- being able to accelerate the growth?

Yes. It's a fair observation. I think what we're doing in Web of Science is going to be highly transferable, very similar to what's happening in Derwent. So taking a leading position in data that is unique, and analytics that are in the market, and enhancing those for specific personas within the organization. So I feel very comfortable that the Web of Science progress is going to be a great indicator of what we're going to be able to do in Derwent. We've got a great team there laser-focused on building out those new use cases for the corporate and the legal users. I think there are probably some nuances as it relates to the real-world data, combining that with our historical data and delivering the package of analytics. There will be some similarities to what we do, for example, on insights within our Web of Science platform, within academia, as we think about real-world data. But that's an area that, building out those use cases and delivering those to our life sciences customers, are going to have some unique applications and unique technology that are being leveraged compared to the others.

Okay. I'm going to take advantage of your being the CFO to ask you a more technical kind of question in terms of just modeling the company. In various quarters of last year, you had certain things that were stronger and certain things were weaker. And how should we expect the cadence to go through the year between both transaction and non-transactional revenue? Given that some quarters where it had tougher comps and some had worse -- easier comps? How should we expect kind of the acceleration of revenue growth to materialize in the second half of the year? And why should it materialize? Is there something particularly easier in the second half, or is it more kind of the momentum that you're starting to generate?

Absolutely. So the comments I'll make a summary of what we said about a month ago at Q1 earnings. No change to our outlook for this year as I sit here this morning. We indicated that we thought the growth in the first half of the year organically would be approaching 1%. And as we moved into the second half of the year, the growth would accelerate to get us to the 2.75%, 3.75% range for organic growth on a full year basis. Probably the most helpful way to think of this is our 3 revenue types. So that's subscription, reoccurring and transactional. And to your point, there are a few things going on in each. I would expect the subscription file to modestly improve from the first half to the second half. That really good momentum that we saw in the A&G segment with ACV is going to help put wind in our sails. So that growth will improve just a bit as we move from first half to second half, but we have really good line of sight into that, representing about 60% of our business. The next about 20% of our business is our reoccurring order type. This is exclusively renewals of patents at PTOs around the world for our IP customers. In 2022, we had some pull-aheads or accelerations that we did of patents from the second half to the first half that caused the growth rate to be very high in the first half and low in the second half. The -- by not doing those this year, we're going to see the exact opposite. So I would expect the first half of the year for reoccurring to be about flat and higher single-digit growth in the second half. On a full year basis, it's going to be mid-single-digit growth, just like it was last year. So that unique difference in the timing from year-to-year is what's causing that. The transactional type is the area where we saw some volatility last year and some differences. Generally speaking, there are 3 things that caused those differences last year that will affect this year. Two of them are in life sciences and one of them are in IP. The first is our real-world data business had very strong performance in the first half last year, some very large deals in the March and June time frame, fewer of those in the second half of the year. This year, we expect it to be more balanced, so that creates some tougher comps in the first half of the year and some much easier comps in the second half. One of the things that happened in this category that's helping us to be more stable this year is we have more backlog in this area than we did last year. So more deals that we sold that are sitting ready to be delivered when we start the year and when we start each quarter, and that's helping to even that out and help it be a bit less lumpy. But we'll lap some pretty challenging comps here at the end of the second quarter. The second area is in our consultancy within life sciences. So this is a part of our business where we saw revenues turn down in 2022. They were stronger earlier in the year, softer in the second half of the year. Some of these were more -- this challenge was more self-inflicted, we acknowledge this. We lost a lot of really key talent in that practice late in 2021. We've rebuilt that. We've rebuilt the pipeline. We're expecting that to progress modestly. But the real driver is the fact that we're going to have much more challenging comps in the first half. And then the final item in transactional is within our IP space. So here, we provide trademark search and [ watch ] services around the world. In the first half of last year, that was plugging along really well. It's the one part of our business that has some economic sensitivity, that as things started to soften or the outlook was more questionable in the second half of last year, that business softened. We lap those tougher comps when we get into the summer here, actually in the month of June. So be much easier in the second half of the year. So those are the real drivers that will cause the transactional business to be softer in the first half and stronger in the second.

So in general, it just seems like there's a lot of easier comps coming. Is that the way I should be thinking about that?

That's very fair, in the second half of the year.

And then just when I think about the transactional part of the business, the business seems to be weighted very much towards 4Q, and you end up with a kind of a make it or break it quarter for the year like every single year. Is there something that is under the company's control that, over a period of time, you can try and migrate that to become more even? Or is that just the buying nature of the clients? Like how should we think about that? Is this just going to be one of those hold your breath type of things situations every year?

So as we move into 2023 and ProQuest is now a part of the organic growth within Academic & Government that balances it some. It's worth noting that, within the academic market, particularly in North America, there's a higher concentration of transactional sales in the second quarter as they approach academic calendar year end. So that will help a little bit from an organic growth perspective. But our corporate customers and law firms, we certainly see year-end money being a meaningful part of it. Our high watermark from a profit margin perspective is usually the fourth quarter as a result of that. We have done some things. One of the examples that I highlighted before just a moment ago is the fact that we pushed for more longer-nature deals on the transactional side, where we will sell something in a year with commitments to deliver in future years as the data is available. That should help to space things out a little bit better. But I think as we move into this year, in the second half, things will be more normalized from a growth perspective just on the softer comps.

Okay. I don't know if there's any -- I want to make sure, if anyone has any questions, we get a chance to ask as well. Obviously, I have plenty of questions here. But if anyone wants to just signal with your hand or whenever, we're happy to take them. . In absence of that, I can continue over here. The company -- can you talk about the goals in terms of the leverage? In the current environment, leverage that is high is just not viewed positively. And what's the company's plan and goal for getting the leverage down to what investors would get and feel is more tolerable in the current environment?

We acknowledge that. We've taken the feedback, and we were very clear with our capital allocation priorities that we brought out a couple of months ago at the Investor Day, and that is the first thing we're going to do is get our leverage below 4x by the end of this year. So we're going to take the majority of our capital that we generate in the form of free cash flow and pay down the debt. That's going to have the benefit of bringing our leverage down below 4x. It's also going to allow us to continue to pay off the portion of our debt that's floating rate. So we're at about a 3/4:1/4 quarter split between fixed and floating. We'll be able to continue to improve that by the end of the year as we pay down on our Term Loan B, some of that debt that moves. And that will help to improve our overall interest rate, which is -- remains low by historical standards. So high priority for us. What we said though, as we turn the corner into next year and we're below 4x, we will continue to prosecute the plan to deleverage, but we can afford to be a bit more balanced. So we'll be able to continue to look at smaller bolt-on acquisitions that can give us the ability to augment or enhance our competitive position. Obviously, with the share price where it is, we would be a buyer of the stock. So once we get below 4x as we get to the end of this year and into next year, we'll have an opportunity to be a bit more balanced.

And does the -- do you feel that the company has the -- or next year, we'll be at the point that absorbing acquisitions will not be challenging because the company was basically put together with a lot of acquisitions, there's a lot of integration work in terms of getting ERP systems down to much fewer than they were. Like a lot of acquisitions had themselves made a lot of acquisitions beforehand. And so is that -- do you feel like there were -- going to have been enough of that kind of simplification work done by 2024, that you actually -- it's operationally prudent to be embarking on that, bolt-ons?

Yes. And I think it's important to note the scale that we're talking about. These would be smaller acquisitions, they would be tuck-in or bolt-on. We are laser-focused on enhancing product innovation. So we're going to make an investment over the next few years, about an incremental $100 million to $150 million that we highlighted at the Investor Day, that's largely in product innovation. So we want the team laser-focused on improving that research and analytics segment, bringing new innovation on top of the already world-class platforms, really building out that real-world data platform within the life sciences space and then ultimately making that strong investment in our patent intelligence space to grow there. So that is going to be the primary focus. Anything we do in the next couple of years there will be smaller, and we'll certainly have the capacity to adjust.

Given the need to really invest in product innovation and everything of that nature that -- you talked about an incremental kind of $100 million, $150 million. But realistically, most of the really good information services companies, there's just this continuous investment that they do to make sure that you don't fall behind and don't leave yourself exposed to smaller players that come out there and develop something cool. Are you going to have -- is it reasonable to expect that, hey, we're just in a permanently higher investment rate because that's what it's going to take to really move this company forward on a real -- on a good organic basis?

I think it's a fair observation on a dollar basis. But I think once our organic growth moves into the mid-single digits, so when we get into next year and the following, there's still going to be good opportunity for margin accretion beyond what we think we will deliver in the next couple of years. So you're right, there will always be incremental investments to make to stay ahead of the competition, also to make sure that we're leveraging the newest technology, and we talked about AI a lot. But there's really going to be an opportunity for us to continue to enhance margins. The model is just so great that, when you're delivering growth in that mid-single-digit range, there's a great opportunity to still add some margin as you invest in the products and solutions.

So think about it as kind of a onetime step-up and then not necessarily stepping up dollars-wise the same way. But investing at the same rate, dollars-wise, should be able to keep you going for a while?

I think so. And we made it very clear at the Investor Day that we think we can deliver about 50 bps of margin expansion this year, next year and the following, while we're making that step-up or that incremental $100 million to $150 million. But we also intimated, when we get beyond that, a business like this will have the capability at the 5% to 6% range, where we'll be late next year and in 2026, to be able to expand margins even further than that.

Okay. And then is the -- can you just talk about the cyclicality of the business just in general? Like look, I know that none of you guys were really there in 2008 or '09, but is there a way to think about how the business really performs in an economic down cycle? Like what's -- is the consulting most hit? Like if you were to look at the part of the business, I would think transactional is obviously the most susceptible. But can you talk about just percentage-wise of the business, and maybe 1 or 2 illustrations of what is the most cyclical, and what part is really more acyclical?

Sure. The headline here is our business is highly insulated from the economic downturn. At the Investor Day, we took the last 2 major downturns kind of the -- as you indicated, the Great Financial Crisis and the dot-com bust almost a decade before that, and looked at how the core aspects of our business performed, and they outperformed the market pretty significantly in both of those cases. When you think about the comportment of our business, sub file holds up very well, that's 60% of the business. The recurring part of the business, the next 20%, which is renewing patents, holds up very well. We found in both downturns, our products really are mission-critical, they don't get canceled at a higher rate. And our customers in the IP area want to protect their IP portfolio, that's not the place they go to cut costs. So it leaves the part of our business that's more exposed would be the transactional part of the business. So in both of those cases, as there's pressure on spending, some of the transactional business is less. But broadly speaking, our analysis and the evidence that we shared from the last 2 suggests that our business is going to do quite a bit better than the overall economy during the downturn. That's our view.

Great. Thank you very much. I want to thank you very much for participating and for going into those detailed answers.

Yes, thanks for having us. Thanks.