Clarivate Plc (CLVT) Earnings Call Transcript & Summary

[Audio Gap] Business and information services companies. I'm excited to host Jonathan Gear, CEO of Clarivate. Jonathan, thanks for giving us this opportunity.

Thanks for hosting us here today, Ashish. Great to be here with you again. Thank you.

Thank you. Thanks. I'll start off with a question that we are asking all the companies at our conference about macro. What are you seeing on the macro front? Is it getting better, stable or softening?

It's -- I mean, it's a tough question. I wish I had the crystal ball that would answer that question for you. Our view, it's been tough for a while. So if you know our business, Ashish, as you'd know it, 1/2 our business is Academia & Government, which really is not impacted by macro whatsoever on either on the upside or the downside. And we've seen that consistently through our demand this year. But the other 2 parts of our business are a little bit. So in Life Sciences & Healthcare, we've certainly seen the macro impact spend within pharmaceutical companies, particularly on the commercial side of their budgets as they pull back a little bit, tighten the belt in terms of spend behind that support and go-to-market efforts on drug launches. But the one part of our business which is most susceptible to the macro is within our IP business, our trademark business and that's something we saw. About second half of last year, we saw it beginning to slow down and really almost fell off a cliff second half of last year. And with -- trademarks are, in a sense, a great canary in a coal mine because trademarks are tied towards product launches. If you launch a new product, you want to trademark that new product, that new image, the new name of that product. And as a result, when macro slows down, companies pull back on product launches, and hence, we feel that in our business. So we began seeing that second half of last year. We certainly shared that with you and others on it. And this year, it continues to bounce around the bottom. There's been no recovery we're seeing on our trademark business. And so what we're looking forward to when that begins to tick up, will be a sign to us that the economy's beginning to come back. And qualitatively, as I speak to clients, there's not a lot of optimism right now. I think we're waiting to see what happens next year.

That's very helpful color. Maybe we'll drill down further on the organic growth. If you think about the organic growth guidance for this year of 0% to 2%, that's below your midterm target of 6% growth. Can you talk about some of the headwinds that you're facing? So you talked about some of the macro headwinds, particularly on the trademark side. But I was just wondering if you could talk about some of the headwinds that you're facing in this year, and how should we think about those turning around?

Sure, Ashish. So to get to the 6% growth, we said our target growth rate with our blend of segments is we've -- 1/2 of our business is Academia & Government. And that, at a survival point, should be growing around 4%. And today, we're approaching 3%. We're getting very, very close there. As you know from our Investor Day earlier in this year, as we talked about that business, it's made up of a software workflow platform business, which is performing well. It's a collection of the legacy ProQuest business around content, both books and academic journals, which is kind of a low single-digit grower. And then third element is our citation database, Web of Science, our research solutions there, which has been underperforming for a number of years. And our focus this year was on beginning to turn that curve, and we saw that in Q1. We saw it initially with sales, with retention rate, with usage rates amongst our clients. And so that has begun to tick up. As that has lifted, that has lifted the entire segment. So we're well on the path right now for A&G, again 1/2 our business, to get to where we need to be. Second-largest segment is IP or Intellectual Property. Again, as you know, Ashish, really 2 solutions we offer there. The larger part of our business is around patents and supporting both corporates and law firms in searching, supporting, running the docketing for patents, maintaining the patents. And then also a smaller part of our business is, as I just mentioned, around trademarks around supporting brand. And that is a business which has really 2 legacy homes where it came from. The old CPA Global business, which has traditionally grown in that about 5% rate, and then portions that came from legacy Thomson Scientific, which was the original Clarivate, which included our CompuMark business as well as our Derwent or patent intelligence. And those have underperformed, and in particular, the Derwent has underperformed. That has been -- it's been multi, multiyear, 6-plus years of a declining product line despite the fact that we have the best underlying database with the Derwent patent intelligence database. It's really been an issue of updated and dusty software tools. So we've been very focused on lifting that. This is a year of investing behind that product as we have been. We're going to be launching our first beta version of the latest -- of the search portion of that collection end of this quarter and beginning a progressive rollout next year. We do expect that the lift, the revenue lift, will fall behind that. This is a subscription product for us. So as we begin to sell it throughout next year, the revenue will tail behind that. But certainly, we'll be sharing with you and investors in Q1 and Q2 what we're seeing there. Now what has impacted us this year, which has been a surprise, is the macro impact on our annuity business. Our annuity business is the renewal that we do for our patent customers. And we began to see at the very end of Q2 a trail off, particularly with the clients that we serve through our law firm partners, those are more small- and medium-sized businesses, a trail off in volumes around the world, particularly Asia and Europe. As we've dug into this, we attribute it entirely to macro pressures we're seeing, various pressures I've talked about on prior calls. And it lowered our guidance for the remainder of the year. So we're seeing a very low growth rate, in fact, flat organic growth rate, from that annuities portion. We do believe that it's a temporary issue, it's a macro issue. Once we lap that, it will begin to lift up. And so with IP, again, we need to get that to kind of the 5%, 6% to get to the midpoint for the company. We have a temporary issue with the annuities business, but we're on plan with the Derwent refresh. And so we expect once we get out of the macro, that'd get back to the levels we expect it to get to. Then that leaves our third segment, which is Life Sciences & Healthcare. And there, we support the entire drug development process, all the way from, as you know, strategy through to the molecular, the creation of the drugs, to supporting clients through clinical trials to market access and then post-FDA approval and to launch. And we've been investing heavily on the Real-World Data platform. That is a set of -- that's a tremendous asset that we have. That's a leading asset that we have traditionally sold on a transactional basis. And we've been moving that to a -- create a true platform into a subscription-type model where we actually build analytics into our own solution and sell therapeutic solutions directly to pharma and big biotech companies. That's a multi-quarter process, and we're partially way down that path right now. The first product we expect to launch end of this quarter. And in that, so there's a bit of work we need to do with our own products in terms of lifting that up. We need that segment to be growing at high single digits to support the blended rate of 6%. It's not performing well this year, both partly because of the investments we're doing with products right now. And then secondarily, it is a tough market on the commercial side of pharma right now. Us and our peer group, we're seeing a challenging budget environment. We do -- we don't know exactly when that will turn around. But as that tips the corner, that should be some tailwinds that help the business.

Thanks for that color. That was very detailed. Maybe if we can drill down further on each one of those segments, and we'll start with A&G. On the recent earning call, you announced several new wins. And so the question there is what's driving this new win momentum in the business? Obviously, Web of Science was always a great product, but what's driving this incremental new win momentum in the business?

Yes, so the wins -- so we announced -- and I'll even go back one. End of Q2, we announced the win of Duke, which we then signed in Q3. And then we announced the win of Yale University and OhioLINK's consortium of universities and libraries in the State of Ohio. And each one is a slightly different story. All 3 of these are tied towards our workflow solutions. So they're moving on to our leading Alma solution, which is the library software system. Duke was a very important one. The reason I want to highlight that one is we have won -- we have a significant competitor in the marketplace, and Duke was a foundational development partner of that competitor. And the fact they left them and came to us was a pretty seismic show in the marketplace that Alma, our solution, is a tremendous market-leading solution. So we felt we couldn't be more excited about that win from Duke. Both Yale and OhioLINK were existing customers on legacy platforms, both in a competitive bid, and again we won those. And you asked why. It's because I think the market is speaking. It's because we have, by far, the best solution, a SaaS-based solution, linked and built over decades to really understand the workflow of a library. We have one set for academic libraries, a different set for public libraries, different workflows. Both of them are leading and tied towards intimacy and closeness to customer workflows.

That's great. I was wondering if you can also talk about the pipeline for A&G in general. Like what are you seeing from a pipeline perspective? How are your conversations with customers? Any color on that front?

It's good. I was actually with a customer on Saturday in Colorado and chatting with him what he's seeing. It's -- so the part -- this is a very stable business.

Oh, yes.

It is a ocean liner cruising down the ocean. It's kind of it's not going to move too much high, too much low. So it's...

Very high retention as well.

Incredibly high, yes. I think you're absolutely right, Ashish. And given the nature of who we sell into, the universities, they don't have acquisitions, they don't have going out of business, they don't have mergers. So it's a very stable customer base with stable budgets. So on the subscription side, we have a very long line of sight into it. Transactions we sell, it's our biggest transaction business primarily tied towards end of academic year in June and end of calendar year in December, purchases of books and back files as they supplement the content in their libraries. So in general, we have very good line of sight on that business. It's a great sector. We have incredible relationships around the world with the leading research institutions, and we're honored to have those relationships.

That's great. That's fantastic. Just switching gears, moving on to the IP segment. You've talked about some of the challenges there. Can we just talk about some of the growth opportunities? You've obviously highlighted the -- sorry, yes, the USPTO win. There's also another lawyer win that's going to ramp up in 2024. Again, what's driving the strength there going into '24? What's driving this new win momentum? And then any color on the pipeline?

Sure. Will do, Ashish. So we have to take a step back and talk about that business and compartmentalize it a little bit. So we have one section of our business in IP is focused on patent search and intelligence, including Derwent. As I've mentioned previously, there, we're investing heavily behind a new set of tool sets that will elevate the workflow and user interface with our leading patent intelligence database. So we feel very good about our future there even though it has not performed well in the past. Second element is our IP management systems. And those are systems that are used both by corporate and by law firms, think of them as 2 different workflows, to manage the portfolio of IP, be it patents or brand. And there, we have a set of leading platforms there. They perform very well, good kind of mid-plus organic growth rate, all throughout the last few years, and we see that continuing to take place there. So good performance there. A third element is the annuities portion that's specific to patents. In patents, part of the U.S., patents have to be renewed yearly around the world in every single national patent trade office. U.S. is every 2.5 years for some reason. And so we renew that on behalf of it. Now why do clients come to us? They come to us because of our deep relationships with the PTOs, our knowledge of the idiosyncrasy. Every PTO is a little different in terms of how you have to renew it. And renewing it is all about protecting the invested R&D that's taken place for decades. And so the protection is significant. As a result, we're the only service provider out there who guarantees that protection will be put in place. And that guarantee is backed on the intelligence and experience we have again on working through every single PTO in the world. So clients come to us because they know it's the quality. They know we stand behind our service that no one else does. Again, this year, the macro is squeezing that market a little bit. But as it rebounds, we expect to rebound with that market. And the final piece of our IP is around brand. And as I mentioned, we both serve it through our IPMS systems. We also provide it with both a search and watch function. That certainly feels the macro pressure right now. And historically, what we've seen is it goes down when the economy goes down. It bounces back up when the economy bounces back up also.

Yes. That's helpful color. And maybe just on those 2 wins, which I think USPTO got pushed out to '24, but there's also another new win coming. So how should we think about the contribution there? Or just how should we think about the growth momentum going forward over the midterm as you get these new wins?

Sure, Ashish. So both of those wins you mentioned will affect our annuity business, so show up in our annuity revenue line. USPTO is one of our largest clients. We've had a multi, multi, I'm going to say decade, I think that's true, relationship with the USPTO, where we assist them. And the service they're providing is as people apply for patents, they need to do the prior art research or hit on service to do that, and we help support them in that process. In this multi-period relationship with them, they've come up to an RFP last year. We were one of 3 providers. It went -- they lowered it down to 2. So the volume went up with us and the other provider who won. That was awarded in the second half. And Q3 was -- they provided -- we did not win it, protested it. It's part of the normal government process. They went through the review. They got comfortable. And in fact, Monday of last week, they came down and said they finished review, stood by the award. And that's, I say, 100-day transition. So the new elevated levels will begin sometime in February period with the USPTO. So again, we're honored to have that relationship. We view it as kind of our supporting them in their mission to support innovation in the U.S. On the law firm, and we announced at the tail end of Q2, I believe, on our Q2 call, this was our most significant new law firm win. Now the way our relationships work with law firms is we contract with them, and we're supporting the volume of renewals that they have with their clients. So this law firm, again, that came to us for the reasons we just discussed, Ashish, in terms of the quality and we stand by our services, it was the biggest new business partner win in memory. I can't say ever because we haven't been around as long as CPA but in memory. We will begin onboarding those volumes in Q1 of next year.

That's great. That's great. And then just moving on to the third segment, Life Sciences segment. You talked about some of the pressure on commercialization. There was also some pressure on the data sales, and that's where you're doing this transitioning, moving from data sales to the platform approach. Can you just provide some background on what does it take in order to build the platform, deploy the platform? And then how do you think about the momentum as we get the platform out there?

Sure. So this involves what we call our Real-World Data solution. Let me just walk through kind of what we do and what the solution is. So real-world data is what the industry calls longitudinal information. And that means that for everyone in this room, if you're in the U.S., we have a history of your health records all anonymized. We don't know who has what. We never see your names. But we're able to then pull those records together and build a view on a person to over time know they had this health condition; they took this pharmaceutical solution; it had this result; these were perhaps the side effects, so on and so forth. That record on an individual basis is gold to a pharmaceutical company. They can use it to help know where to target their go-to-market efforts with the pharmaceutical solutions that they have. They can use it to mine and increasingly are mining on the research and development side to find connections between drugs to know how to develop new therapeutic solutions. It's a -- in the world of pharmaceutical, it's a relatively new data source that's really just taken off the last decade or so, and we're one of the leading providers of it. Now what we have historically done is we've collected the content, the data in its raw form at the source. We've pulled together, we've collated, we've cleansed it, but we've never gotten the path of having enhanced data. And what we've done is historically is take that enhanced data, we've sold it to other firms, other technology firms who build analytics on top of it, and then sell what's called pharma-grade solutions directly to pharma. In my mind, it was a very flawed strategy, one focused on expediting near-term revenue over building a long-term growing subscription model. So we made the decision this year to pivot and move upstream and build a platform so that we can then build those analytic-based therapeutic solutions ourselves and sell directly into pharma. It has, from a revenue perspective, 2 massive benefits. One is you switch what is today a primarily transaction-based business, very episodic and problematic, into one which is primarily subscription. You almost invert the type of revenue. That's number one. Number two, you're moving up the value chain. So you're capturing more revenue because you're driving more value into our pharmaceutical clients. And third, you can develop many, many more products once you develop the platform. It becomes a flywheel for specific therapeutic areas that we can develop based upon client needs. So that lift is kind of twofold. There's a data lift of cleansing the data. It's -- it sounds easy. It's a challenging thing to do that only a few of us in the industry know how to do is cleanse those data to make sure it accurately portrays the population. And the second thing, there is an element of building technology, so it can become that flywheel for developing new products. That's going to be a multi-quarter build. The good news is the nirvana is that platform, which is scalable that you can then kick off new products, but we can develop and we will launch new products prior to having the platform built. We expect to have our first product in the marketplace end of this quarter.

That's great. That's good. And maybe just building on the topic of platform and technology, can you just talk about what you've been doing on the AI machine learning front? And then the next follow-up there would be just on the gen AI and how do you think about the gen AI being disruptor for -- particularly for your end markets as well?

Okay, sure. So we -- I mean us and our peer companies in information, we've been using AI for 15-plus years. We couldn't produce the product suite that you have today without machine learning, AI and various tools. So it's embedded in all the solutions that we take to market and have taken to market. Now you mentioned gen AI. Gen AI is a game changer. It is the ability to leverage large language models on top of large data and content sets similar to the types we have in Clarivate, really can elevate the user experience and create new solutions that we just couldn't create in an economic way before. The -- so I'd say 2 broad use cases internally is how I think about it. One, it becomes a massive efficiency tool in terms of how we develop our -- and create our own products, both in the content and the software development side. Particularly true for developing new products. You can just move so much faster as you're able to create code so much faster on that element. So the efficiency on new product creation is significant. I think the industry is still getting its arms around how significant that is, but it will be material. The second piece is on driving innovative solutions for our clients. The one common thread is on guided search. So gen AI allows you to search in a far more intelligent fashion than you did before. And that is true in academic search. It's true in patent search. It's true in pharmaceutical, molecular search, all these various pieces. So I certainly expect that search 3 years out -- make up a number, 3 years from now is just this is going to become table stakes. Everyone is going to have this bespoke search capability based upon using gen AI. And then you can also use gen AI and other advanced AI tools to create new analytical solutions on top of it. Pharmaceutical is going to be dramatic there and how we do it. I'll even speak to how kids learn. I have 2 college-aged students right now. Chatting with one of them is at CU Boulder. Go Coach Brian at CU Boulder. And he uses one of the gen AI tools as a tutor. And it's this -- when he's doing computer science right now, and as he's working through problems, he'll toss it into it. He'll have this thing test him. When he gets something wrong, he'll have this tool then give additional questions to test if he now understand it. And it's remarkable how it's changing the way humans learn, and it's happening incredibly quickly. So we're very bullish on it. The one near-term challenge is it's all very expensive. These LLMs are crazy expensive. The fees being charged by cloud providers and computational capacity is very expensive. We're early in on that curve. I expect that cost curve to come down, and that'll unlock even more opportunities going forward.

That's great. And as you mentioned, search is going to be table stakes. How does that help you from a discovery perspective or cross-selling? Because one of the key themes here of having all these different businesses together was cross-selling. So I was wondering if does that, gen AI, also help you in that process?

It does. It does. And if you remember one slide from our Investor Day and I called it my favorite spaghetti slide because it shows how our content flows into different workflows, the same original data set flows into academic workflows, shows into IP and flows into pharmaceutical. And so you've -- I said, number one is you have to make the content accessible through data lakes, which we have done. The second thing is to make it discoverable in an easy way and in a way that can always identify the source. Because the one challenge that we all know for gen AI right now is one of the challenges is it produces hallucinations. So you can get an answer said with confidence that is completely incorrect, completely wrong. And so when you have content discovery using our content, it allows it to search. If you're a researcher from Life Sciences, for example, and let's say you want to do a search across all of our content, our solutions about a new research area you're doing, it will pull back the answers, results from our Cortellis products. It will pull back research that was coming out of our citations database from Academia & Government. It will pull back what's currently protected from competing firms from our patent database. And as you pull it open, it will then tell you exactly what the source is. You can go back and get that verification of the accuracy of the source, which you don't get out of the 4 walls for perimeter-based gen AI search.

That's fantastic. So you're able to link back to the source document. That's good. One of the things that you mentioned is also the LLMs are pretty expensive right now. And also, what we've heard from a lot of companies that have gone through the cloud journey, earlier, the vision was to be fully on the public cloud. And then now we've seen most companies go more to a hybrid cloud strategy. And I was just wondering if you could talk about your cloud strategy as well. And how do you think about cloud cost and rationalization over the next several years.

So on the cloud side, we're a hybrid. We have some managed and some public cloud. We manage those costs very carefully because if you don't manage it almost on a daily basis, it can skyrocket out of control. When we look at the private versus public, to us, it's more about protecting our content and protecting our clients' content and not having it leak out. Our main concern's around security when it comes to that. But we've managed a hybrid approach based upon just the economic viability of public versus private and on-prem.

That's great. And maybe just a follow-up question there on margins would be, look, your margins are pretty robust, 42%, 42.5% margin guidance for this year. And you've guided to margin expansion going forward. How should we think about what are the key drivers for margin expansion over the midterm?

So I mean the key margin is the tide lifts all boats, which is revenue growth. So the way our model works is actually very simple. Most of my cost base are people. My people cost, unless there's a reduction underway, is going to grow about 3% a year. So if my revenue is not growing 3% a year, I'm going to have pressure on margin compression. Anywhere at growth rate between 3% to 4%-ish, you get kind of flattish or incremental growth. Anything over 4%, that's where you get significant expansion of margins. That's just the economic model that I look at. This year, you look at this year, and we obviously have had a disappointing organic growth rate year. Our margins have increased. Why is that the case? We're benefiting this year from the last portion of the ProQuest integration savings. Absent those, we would have had margin compression. And so when we look forward next year and years after, I mean, key on the margin growth, it's going to be driven by organic. And one thing that myself and the Board firmly believe is we have to continue to invest behind the products as we've done at an elevated rate this year.

That's very helpful color. If there are any questions, please raise your hands. Maybe I'll go ahead with a question until you get the mic. So a question on free cash flow. The ability to deliver 50%-plus free cash flow, the guidance for over the midterm, as well as almost $1.8 billion of free cash flow over the next 3 years. Can you just talk about -- we've seen a significant improvement in free cash flow from last year to this year. How should we think about the free cash flow cadence going forward?

Yes. A lot of the noise in our free cash flow has been fleshed out the last couple of years. It was impacted last year by some of the integration costs coming on the back of the ProQuest acquisition. We have a pref with only 2 more coupon payments next year, and then that flushes out and there's extra $75 million of cash flow a year. So it becomes at that point -- I mean, our model is pretty darn predictable, right? We have X amount of revenue. We have an EBITDA, and then we convert approximately 50% of that adjusted EBITDA into cash. And so then that flows into use of balance sheet for debt pay-down or buybacks or anything else.

That's great.

About this time last year at another meeting, you talked about a need to rationalize all the acquisitions, and I think you were making a pretty significant effort in your ERP integrations. Can you talk about what's going on there and the benefits that can derive from the progress you've made in ERP integrations? And then the year before that, I know the previous CEO talked about a rather significant investment in the portfolio of products. I think like 95 products had been added in almost 1 year. Could you talk about -- is that -- are all those products still viable and being utilized? Or what's the status of the portfolio today?

Sure. Great. So first, on the system side -- and great memory. And I even brought it up. It was on ERP systems, it was around CRM systems, around order management systems. When I -- I joined the company a little over a year ago. And the systems were under, I felt, tremendous pressure as we had a different operating model back then of a single sales force, very focused on vertical markets, so on and so forth. One thing that has relieved the pressure is as I pivoted back to an org model focused on end segments, I'm allowed to make sure we at least have critical mass in each one of those 3 segments. So that has first relieved the pressure that I felt particularly from my sales reps. Before, I had the sales reps selling into a pharmaceutical company. They had to have access, in theory, to all the products, multiple sales force systems, multiple CRM systems, et cetera. By moving to the segment, we've relieved that pressure. Now within those segments, we're rapidly getting to one ERP system, one CRM instance and whatnot. We've done some consolidation. The arrival point's a couple of years away. But what I will say is on the system side, I think we've relieved the immediate -- the new org model has relieved that immediate pressure that I felt when I first arrived here. On the second point on new products, and I wasn't here when that comment was made, but we -- I can only speak to what we've done here. I've been very focused. When I looked at the portfolio we had across 3 segments, there were a couple of areas of significant underinvestment. One was in Web of Science within Academia & Government. We made investments there. We still continue to, but we've done the lion's work on that piece. Second was in IP with our patent intelligence software, which includes Derwent primarily, Innography and IncoPat, those 3 systems. That work is being done this year. So we invested in a new product leadership team. I should say, we hired a new product leadership team. We've invested behind that, behind what they've done. It's probably been -- well, along with the one I'm about to mention, the 2 big investments this year. And those are the ones which we're taking to beta end of this quarter, the first element to that. Take it to launch next year, and we feel very good about that progress. The third big area was Life Sciences & Healthcare, this Real-World Data platform that Ashish and I just discussed. So again, I can't speak to what my predecessor said. I've been focused on our investments, and we're feeling good about the path. Thank you.

We're almost on the top of the 30 minutes, but there are 2 quick business questions if I can ask. What is the biggest decision your management team will have to make over the next 3 years? And then in closing, what is something -- what is the one thing that you're most excited about for the future of the company? Thanks.

Okay. So the biggest decision, that's a good question, Ashish. I don't know if there's a big decision. We just need to execute. The management team is heavily focused on execution. I brought in a few very good strong leaders from outside, who are now executing and running against the plans they developed right now. So to me, it's less against decisions, more around executing and getting back to that mid-single organic growth rate that you kicked off this session with. And what am I most excited about? Getting out of 2023. It's been a terrible year, and so I'm looking forward to having this year behind us, where we have some good tailwinds in all 3 of our businesses. I'm just looking forward to fruits of the labor that the team has put behind this and see some of those results.

That's great. Thanks again.

All right.

Thank you, everyone, for joining.