kneat.com, inc. (KSI) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by and welcome to the kneat.com Second Quarter 2021 Update and Results Conference Call. Please be advised that today's conference call is being recorded. Today's call will be hosted by Eddie Ryan, Kneat's CEO; and Hugh Kavanagh, CFO at Kneat. Before we begin, I would like to remind you that except for historical information, the comments in today's conference call contain forward-looking statements, including statements regarding Kneat's future financial outlook and financial performance, market growth, the release dates for and benefits from the use of Kneat Solutions, our strategies and our general business conditions. Any forward-looking statements contained in this presentation are based upon Kneat's historical performance and its current plans, estimates and expectations, and are not a representation that such plans, estimates or expectations will be achieved. These forward-looking statements represent Kneat's expectations as of today. Subsequent events may cause these expectations to change, and Kneat disclaims any obligation to update the forward-looking statements in future. These forward-looking statements are subject to known and unknown risks and uncertainties that may cause actual results to differ materially, including quarterly results and limited operating history, which make it difficult to predict future results. Our expectation for future growth of our revenues; unauthorized access to our customers' data; dependence on revenues from new customers; rate of adoption of our SaaS model; acceptance of our applications and services by customers; loss of one or more key customers; adverse changes in general, economic or market conditions, particularly in the life sciences industry; delays or reductions in information technology spending, particularly in the life sciences industry, including as a result of mergers in the life sciences industry; the development of the market for enterprise cloud services, particularly in the life sciences industry; competitive factors, including, but not limited to, pricing pressures, industry consolidation, entry of new competitors and new applications and marketing initiatives by our competitors; our ability to manage our growth effectively; and changes in sales that may not be immediately reflected in our results due to the revenue recognition criteria under International Financial Reporting Standards. Further to these risks, these forward-looking statements do not include a full assessment or reflection of the unprecedented impacts of COVID-19 pandemic occurring since the first quarter of 2020 and the ongoing and developing situation resulting in direct global and regional economic impacts. This has resulted in significant economic uncertainty, and even though the company has to date experienced no significant impact to its operations, any potential impact on our future is difficult to understand or measure at this time. Further information on potential risks that could affect actual results will be included in other filings Kneat makes on www.sedar.com. The press release, the MD&A and the audited consolidated financial statements are all posted on our website. And if you wish to receive a copy of any of these documents, please do not hesitate to contact us. Eddie Ryan will now start with his comments.

Thank you, Shanit. Good morning, everyone, and thank you for taking time to participate on today's call. I'll begin with some high-level comments before passing the call to Hugh to provide a detailed financial update. At the end we will open the call for questions. I'm extremely pleased to report progress that our team has made during the second quarter of 2021. In addition to achieving record revenues, we also delivered significant gross margin expansion, reflecting the impact of the scaling of our SaaS business. During the second quarter, total revenues grew 104% year-over-year and SaaS license revenues grew 170%. Additionally, we continue to see strong growth in our overall annual recurring revenue which was up 141% year-over-year. During the quarter we were successful in signing additional top tier companies. In June we announced the signing of a 3-year master service agreement with one of the world's leading engineering consultancy and design firms. They will use our technology to digitize commissioning, qualification and validation services to their life sciences clients. This European headquartered company employs over 15,000 people and delivers large capital engineering projects to multiple industry verticals across more than 90 countries. Our platform has applications in many different segments and we are excited to be expanding deeper into the life sciences supply chain. This demonstrates the flexibility of our platform in addition to expanding our total addressable market. Subsequent to quarter-end, we announced a 3-year master service agreement to be the corporate enterprise e-validation solution for one of the world's leading health care brands. This U.S. headquartered company employs over 10,000 people and has manufacturing facilities spanning the globe. After an extensive evaluation process, the company selected Kneat as their corporate e-validation platform to scale to all sites across their life sciences division. This customer win is further evidence that the Kneat Gx platform is the leading validation solution on the market, replacing legacy solutions that are inefficient and error-prone with one that delivers speed, data integrity and compliance. We continue to see strong tailwinds in our core market as growth in data management and greater regulation is driving companies to digitize their paper-based validation processes. In addition to growing revenues, we continue to strengthen our corporate structure and build out our management teams. In May, we announced the appointment of accomplished executive Nutan Behki to our Board of Directors. We also recently appointed experienced Marketing Executive Laura Sweet to serve as our VP of Marketing. Kneat will benefit from Nutan and Laura's considerable experience as we expand our global operations. In April, the company closed a short-form prospectus offering and a parallel non-brokered private placement, leading to total proceeds of $22.1 million. This further strengthens the company's balance sheet, and we will use the proceeds to invest in our go-to-market strategy as well as increasing head count within our operational and management teams. With a strong balance sheet, our team is focused on executing to plan across all areas of the business, ensuring customer success and ongoing growth and value creation for our shareholders. On the R&D front, our team is making great progress on building out our platform in close collaboration with our customers to drive faster time to customer value and to increase our addressable market. Over the past 16 months, the COVID-19 pandemic has caused disruptions across many industries in the global economy. Despite the challenges presented by the pandemic, we are experiencing no significant adverse effects on our business across customer acquisition, fulfillment and operations. Our customers have told us that our technology has aided their business continuity efforts during the pandemic, because it allows them to manage a large proportion of their validation process remotely. Kneat is ideally positioned to capitalize on this trend as the digital transformation of the validation market is accelerating. In addition, we are proud to be supporting several customers in the manufacture of COVID-19 vaccines. Our plan for the remainder of 2021 is to continue to add and deploy new SaaS customers, to expand to new work processes and new sites within our existing customer base to further develop the Kneat Gx platform, to build out our company structure and to leverage our partner relationships to expand our global reach. I will now hand the call over to Hugh for a review of the financial results.

Thanks, Eddie. For the financial review, please keep in mind that all the numbers I will be discussing are in Canadian dollars. I am happy to report that we have seen a strong revenue growth trajectory from previous quarters continue into the current quarter. Revenue for the 3 months ended June 30, 2021, was $3.15 million. This was an increase of 104% from $1.55 million in the same quarter in 2020. SaaS license fees are a key metric for Kneat. Compared with the second quarter of 2020, SaaS license fees of $1.72 million increased by 170%. The increase in revenue is driven primarily by new customers going live on the platform, existing customers scaling their use of Kneat Gx due to purchase of additional licenses, and the growth of professional services revenue associated with services provided to customers by our larger professional services team. Cost of revenues of $1.39 million for the 3 months ended June 30, 2021, increased from $1.04 million for the second quarter of 2020. The increase reflects additional salaries and benefits related to higher head count in the product delivery and support teams and increased hosting costs associated with the SaaS platform. Gross margin for the 3 months ended June 30, 2021, was $1.75 million. This is an increase in gross margin from $0.51 million in the same quarter in 2020. Gross margin percentage has also increased to 56% compared with 33% for the second quarter of 2020. The increase in gross margin reflects the increase in revenues over Q2 2020, offset by a smaller increase in related cost of revenue. Although there has been some volatility in gross margin, the underlying trend since the second quarter of 2020 has been on an upward trajectory. Annual recurring revenue, ARR is a key performance metric for Kneat. ARR includes vast license fees and maintenance fees. The promotion of our SaaS offering is adding to Kneat's annual recurring revenue base. Progress on this front continues to be reflected into growth in ARR at June 30, 2021, to $7.98 million, a 141% increase compared to June 30, 2020. More specifically, ARR from SaaS license fees increased by 186% to $7.29 million and ARR from maintenance fees decreased by 10% from June 30, 2020. Finally, as Eddie mentioned earlier, we completed an equity financing in April this year, and the company had a cash balance of $26.1 million on June 30, 2021. As a reminder, we have filed our unaudited condensed interim consolidated financial statements and MD&A on SEDAR, and they are also available on our website. We are now ready to take questions.

[Operator Instructions] So the first question comes from the line of Gavin Fairweather.

It's Gavin here from Cormark. Just to start off, congrats on the really strong results, really great to see. I thought I'd start on the SaaS ARR. It grew by, call it, $2.5 million in the quarter. If I look at what it had grown out over the previous 4 quarters, it was kind of $750,000. So a pretty material step-up there, and you referenced some of the drivers there in your prepared remarks. I was curious if you could just go maybe one level deeper and if you could provide some additional insight into that performance. Was there any kind of onetime bulk seat buys by some of your customers that maybe drove some upside there? Or is this just a factor of some of your bigger clients scaling and rolling out quite aggressively? Just curious for any commentary there.

Okay, Gavin. Eddie, do you want me to take that? Or...

Oh, you go ahead and take that Hugh. Yes.

Yes. Okay. So yes, thanks for your question, Gavin. I have to say we were very happy with the progress in Q2 and the growth in revenue. I mean, we've been growing steadily over previous quarters, and this quarter has continued in that vein. So I suppose, getting on the numbers a little bit, the growth in ARR is -- it's actually a mix of both new customers and of expansions of existing customers. So it's actually pretty evenly split between the 2 if you -- from Q2 2020 to Q2 2021. And so within that, I mean, there are -- obviously, we have a number of big customers. And some of those are contributing significantly to that. Particularly on the expansion side, we have customers who are expanding at a rapid rate or a couple in there. But then also, as I mentioned, the growth is also driven by a significant number of new customers who are coming in there since the same quarter last year. I don't know if that addresses I guess the point you're getting to?

Yes. So it sounds like it was pretty broad-based, and obviously, some bigger contributions from some big customers. But I mean, I guess the key question is, is this kind of performance repeatable? And given that it's broad-based, I mean, it sounds like if the stars align, you could repeat these kind of things in the quarter in the future?

Yes. So the important thing to remember there, Gavin, is that our -- a proportion of the [ TAM ] that we already have in our customer base, we've always said these customers take -- these larger customers take between 2 to 5 years to get them scaled. So we are seeing those customers moving steadily along now. And that is the key thing here. So as Hugh said, there's a 50-50 type proportion from existing expansions and new customers, but we are seeing those customers moving along in the expansion route that we would have predicted a couple of years ago. So it is a land and expand product. We get in early. It's a small ARR with them. That ARR can grow very significantly over 3 to 5 years. And we're seeing that moving steadily along. Plus, I would say that we're probably seeing with the impact of digitization and the maturity of Kneat and its technology in the marketplace, we're seeing that even going better than we would have expected in some cases. But it is a mix, just to summarize on that.

That's very helpful. And then just the second one for me. I wanted to touch on the sales pipeline. I guess I'm kind of curious on the composition of it today. If I think about your announced wins that you put out in 2018, 2019, 2020, most of the announced wins were tier 1 biopharma. If we look at some of the wins that you've been announcing in 2021, you still have some of those Tier 1 biopharmas coming through, but it's a bit more of a broader mix in terms of contract manufacturers, supply chain, health care, and I'm sure there's some tier 2s coming through in the background as well. So curious how does the pipe kind of overall stock up? Do you still have some pharma tier 1s in sales processes? And then which of those kind of additional areas like contract manufacturers, supply chain or tier 2 are you seeing some fast growth in your sales pipeline?

Yes. The pipeline is robust, Gavin, and we're pushing hard in that area from a go-to-market perspective as well to build that stronger and stronger into the future. And we are engaged with tier 1s. When we talk about tier 1s, we're probably talking about at this point in time, within the top 50 or top 20, top 30 I think. And then as you well said top 50, we're probably looking at tier 2s and beyond. And we're working across all segments now, and we're winning on all fronts. And there is a mix in the pipeline going forward is probably the best way to summarize this, tier 1s and tier 2s and smaller.

Great. And then just lastly before I re-queue. I was hoping for an update on the channel. What I thought was kind of interesting in Q1 and Q2 numbers is that the professional services revenue has kind of been bumping around between $700,000 and $1 million a quarter. But we've been seeing the SaaS ARR really kind of jumping. So it's clear there's a lot of project work going on while the pro serve line is fairly flat. Do you have a sense like how much of the pro serve load is currently being taken up by the channel or the internal teams at your clients versus the Kneat personnel?

Yes. So I think we are spending quite some time now enabling channels and working with channels and looking to let channels be the lead in some of the customers and in some of the scalings in that. So that is happening. We are also -- we don't see our professional services growing significantly over the short to medium term, but that they become also enablers of channels as we go forward and we support the channel in them being successful in the marketplace. And ultimately that then leads to greater license revenues from these. So -- yes. So does that answer the question, Gavin? Or did I get that fully right for you?

Yes. I mean, it sounds like it's -- the channel is doing more and more effectively. It's working with clients more and more, which just speaks to the scalability of the platform which is great.

The channel is improving. The channel is improving considerably as we go along. And we are -- some of our internal resources are enabling that.

And the other comment I was going to make, Gavin, is that the professional services, probably there was a little bit of slippage of projects, which we probably would have anticipated coming in Q2 into Q3. So I suppose the underlying run rate is probably fractionally higher than we're seeing in the quarter, but just due to that slippage. And the next question coming from the line of Christian Sgro. Christian, if you want to go ahead and just introduce your organization as well?

This is Christian from Eight Capital. Again, congrats on the strong quarter, the good ARR growth. The first question I'll ask sort of feeds off of Gavin's last question. If I remember right, you filled out the professional services team through last year, and the revenues have sort of been flat. And that's good color that we could expect the run rate increase. But beyond that, would you say the team's hitting an inflection where they're more productive now, which could drive strength in revenue or margins there?

Thanks for that. Yes, you're correct. We are -- our professional servicing is becoming more productive. And they are -- we are not hiring many more in that area at this point in time. The one thing to say is that, again, they are, at this point in time, spending some more time with the channels, enabling channels. So the channels will be stronger on their own in the future. But you're correct in that assessment, yes.

That's helpful. There's one mechanical question I wanted to ask quick before I forget. Could you remind us with a lot of companies are reporting Canadian foreign exchange considerations are becoming more impactful, how much of the billing is in U.S. dollars? How should I think of FX at Kneat? And was it an impact? And I was sort of -- was there any impact in the quarter? And would you advise you look out for any impact?

Sorry, Christian, I just missed part of question. Could you just repeat a little bit there? Just went a bit broke up on me.