Kornit Digital Ltd. (KRNT) Earnings Call Transcript & Summary

Good morning, everyone. I'm Tavy Rosner from Barclays Research and I'm pleased to present today Kornit Digital represented by the entire management crew. We have Ronen Samuel, CEO; Alon Rozner, CFO; Amir Shaked, EVP Corporate Development; and Andy Backman, Head of IR. Thanks, everyone, for joining this morning.

Thank you very much. Pleasure to be here.

Great. Before we begin, I just want to remind investors they can feel free to e-mail me questions that I'll pass on to management. And so guys, I mean we only have half hour, it goes very fast. But I thought that for people who don't know Kornit, if you can spend 3 minutes describing what it is that you guys are doing and I'm also under the impression that you guys are going to share a video. So take it away.

Yes. So again, good morning, everyone. Pleasure to be here. We will share a short video in a few minutes. I'll just give a short introduction of Kornit. A fast growing company. In the last 2 years we were growing at a rate of 34%. For the last 10 years at the rate of 24% CAGR. We have about 850 employees. And we are working in the space of fashion, of textile; we are developing solution, printing systems, inks, services, software solution to enable embellishment printing, production of textile on demand in sustainable way everywhere around the globe. We have more than 1,300 customers. Within them, the biggest companies of the world like Amazon, like Aveda, like Synaptics, using many, many of our systems. When we're looking at Kornit, actually what we are doing is connecting the virtual world, which is all the marketplaces into the physical world, which are the systems. This is our technology, systems and ink and enabling on-demand production of fashion, of apparel, of home decor using our technology everywhere around the world and making it and doing it in a sustainable way. I'm sure we'll talk later on about sustainability and the impact on the world -- of the impact of textile on the world. Why don't we start with a short video clip? Actually this video clip is a summary of a big event that we had 3 weeks ago in L.A. where we've done an alternative fashion show together with more than 20 designers from all over the world that designed the entire collection in less than 3 weeks before the show. So each one of them had 3 weeks to prepare a collection. The messages is about on demand, unleashing creativity because you can take anything you want and produce it immediately. You're also going to see some message about inclusion and diversity. You will see there on the runway ladies of 85 years old walking there, any size, any gender, very impressive about the trends of this market. So let's watch the video and later on we'll start talking about really the changes in the business. [Presentation]

Yes. Thank you for that. So let's open for words with you with Q&A.

Thanks for that. So I first wanted to talk about the mega trends. We've been covering Kornit since the IPO, but looking back the last 2 years have definitely been unusual and eventful. And you started 2020 strong, then we saw some orders being delayed at the early stages of the pandemic and then very quickly you initiated like a massive V-shaped recovery driven by e-commerce, the move to on-demand production. I'm not even talking about your market cap, which went through the roof. I think we were at sub $1 billion, now we're close to $8 billion. So it's definitely been an incredible journey. Can you talk about these mega trends that you touched on during the introductory movie and that have been accelerated by COVID?

The nice thing is that the trend didn't change. We're calling them from the beginning mega trends and they are continuing and actually accelerating. They accelerated doing the COVID, but they're accelerating now post COVID as well. So the acceleration is huge. And one of them is really about the type of people, the consumers today are different than the consumer of few years ago generations. They would like to be unique. They would like to choose the product that they want. They would like to show that they're different like I'm showing my unique shirt and they want it immediately. They want immediate recognition is very, very important. So this is massive change in terms of the consumer behavior. E-commerce is a main vehicle today. 30% of all purchases going through the e-commerce, forecast by 2025 that it will be 60%. And we see that all the mega brands and the retail going online of course, but the online become smarter. If in the past it was just a reflection of what they have in the shop, now they are showing much wider variety. And another trend is sustainability. As we all know, this market is the second most polluted market in the world. 30% of all being -- or everything being produced is being thrown away, is a waste. We generate tons of water waste, of material waste and doing it on demand actually reducing. So the supply chain is totally broken in this market and we can see a move for onshore production next to the consumer. This trend is accelerating now with also the clashes between kind of the China and the U.S. and definitely the COVID accelerating all this move. So the solution for all those market trends is really moving into on-demand production meaning production into other versus production to forecast. We're eliminating all the excess inventories that you are carrying, producing it next to the consumer; if the consumer is in the U.S. producing in the U.S., if it is in Europe in Europe; in a fully sustainable way using our technology. So our technology is using a pigmenting that is fully sustainable. There is no water used at all and it's fully green. So it's a major, major shift that we see in the market and we have the right solution to solve these market issues.

And looking at your customer base, if you look at the analog world fulfillers, they have an important role. And I'm wondering is it the same in the digital world and as a follow-up, perhaps we can go over the evolution of your top customers over time.

Yes. So we have today more than 1,300 customers all around the world using our technology, using our systems and ink. Of course over time, the type of customers that's using our technology is changed. In the beginning it was more fulfillers that used screen printers and also next to it our digital technology, digital systems. But more and more we can see the shift into mega brands that's starting to use our technology, marketplaces like the Amazon of the world that are using this -- our solution. We were focusing in the past a lot on DTG. Now we have also DTF, direct to fabric, and getting to new type of customers. So while the Top 10 customers represent about 60% of our revenue, we see massive growth coming also from net new customers that's adopting our technology across the world. We see major growth now coming also from Eastern Europe, but also Asia started to play much stronger again in our overall mix.

And specifically on Amazon, it's a question that I get often from investors. You recently started disclosing the exact breakdown at least on annual basis. So 2020 they accounted for 11% of sales, growing at a high pace on a dollar basis. So I know there are confidentiality agreements when it comes to Amazon in general. But specifically for you, it's kind of a special type of relationship given the purchase agreements and the warrants. So I guess when you look ahead, how do you see the relationship evolving? And beyond the current purchase agreement, which if I'm not mistaken has like a $400 million quote, do you see yourself continuing to issue warrants or you see Amazon kind of becoming more of a traditional customer down the road?

Yes. So the relationship with Amazon is better than ever. Actually it's so strategically that they're sharing with us their 3 years plan. Of course I cannot share with you their 3 years plan. They are growing very fast and very successful. They have multiple sites not only in the U.S. but across Europe and now in Asia as well and in every site they have many, many systems. We are working today mainly with Merch by Amazon, but Amazon is much bigger than Merch and I'm going to talk about it in a minute. Of course we saw in Q3 for example, the result of Q3 and the impact of the world, you can see that the growth that's coming from Amazon is very fast. We expect that the growth will continue not only in Q4, but for next year. We know what's going to happen in next year because we have the plans and the orders for some of the expansion for next year. So it's a big expansion and a big goal. So Amazon will continue to be our #1 customer in terms of growth and size moving forward as well. But Amazon -- Merch by Amazon is only one part. While Merch for Amazon is a big business within Amazon and is a fast growing business and one of the most profitable business for Amazon, the other part is Amazon Fashion which is much bigger. And we see a huge opportunity to work with Amazon Fashion both on the system perspective, but also on KornitX to enable them to produce anywhere around the world using KornitX on Amazon Fashion. So we see big, big opportunity ahead of us with Amazon, but also with other marketplaces if it's in the East side of the world or also in the West side of the world.

And just a technicality, but with regards to use of warrants. I mean this is just a way of doing business with Amazon, right? So it's something that no matter how the situation evolves over time, it will come typically with warrants?

Not necessarily. I think that of course it's a unique structure that was -- that we got into agreement with Amazon. This is the second tranche already. The first tranche was $150 million. The second tranche is much bigger than that, which we started already. But we are looking at -- we don't have to do that. There's a benefit to do that to Kornit and to our investors. Of course once Amazon is saying we are able to invest $400 million or even more in your solution, we know that we have certain revenue coming. We are learning a lot from Amazon by this cooperation and influenced many, many others. Amazon chose our technology as the leading technology is a very strong statement to the entire market and we are enjoying it. Of course there is the impact of the warrants on the dilution, but we believe that the benefit that our investors are getting out of this agreement is much bigger than the dilution that they were suffering.

And I wanted to jump into kind of your strategy and the guidance. You have $500 million run rate by '23, $1 billion by '26. Can we go over the different components of the top line growth, kind of the pillars of the growth strategy? And correct me if I'm wrong, but I recall that the guidance gives you a credit for the DTF. So I guess why is that? And when we bake that altogether, doesn't it seem kind of overly conservative given the addressable market?

Yes. So a few years back -- 3 years back, a bit more than that, we said in 2023 we will reach a run rate of $500 million, which means in Q4 of 2023, we will deliver $125 million. By then, many of the investor was looking at the management and saying well, are you aggressive? So I like your question that you are telling us that now we are conservative. So in terms of the $500 million, we already mentioned that we'll bring it much earlier so expect to get news when are we going to bring it, but it will be much earlier than Q4 2023 in terms of the run rate of $125 million. In terms of the $1 billion, we believe that we can -- we will be $1 billion in 2026. It's not a run rate. It's the full year $1 billion. This $1 billion will be built out of $400 million of systems, $400 million of ink, $100 million of services and $100 million of KornitX. Within the systems, we expect within the businesses, the $1 billion, we expect that DTF, which you were asking specifically, will be around $200 million out of the $1 billion. You're right, all of them are potentially to be bigger and faster. Most KornitX can go much faster and much bigger and definitely also the DTF, but this is currently how we build the plan and the plan is built on around CAGR of between 25% to 30% year-over-year. We also said that you will see expansion on the gross margin all the way. Today, we're at around 50% gross margin. You will see the expansion to around 54%. And we said that on the bottom line on the operating margin, you will see as well expansion of above the 20%. So this is how we define our management goal for 2026.

And then I think you pointed to me once that it's much easier for me as an analyst to throw the numbers in the next sale when you have to execute on your end and sign contracts. So I fully appreciate the challenge of the CAGR. No disrespect and lots of admiration. Moving on to your balance sheet. So you did a follow-on offering about 2 weeks ago if I'm not mistaken so now you have nearly $800 million on the balance sheet. And you talked about M&A during your follow-on offering. So what are the uses and what technology you see that are missing?

Yes. So we are going to use this balance sheet mainly for M&A activities you mentioned in 3 main area and Amir can get into more detail on that. One area is in digitizing the production flow. This is the tradition of where Kornit were focusing on developing new solution on the production floor; if it's more automation, more software, more applications. So we are looking in this area some partnership and M&A activities. We have the pillar of KornitX, which is a very fast growing dealer, which we are investing a lot. KornitX is the part connecting the virtual world into the physical world. This is kind of the Uber model and are really unique because we are the only one that really can connect to the physical world and doing everything on demand anywhere around the world in the same quality. So there we have some interesting M&A activities that we are looking into strengthening this solution, bringing some solutions of managing quality, managing data. There is a lot of datas flowing there and we can do a lot of things with the data. And there is another pillar and this is more a futuristic pillar that we are looking into really the digital world to the Metaverse. There's a lot of things that you can do in fashion. Fashion is leading in terms of the playing the Metaverse. You will have your own meta human, also you would choose your clothing or the meta human will tell you what to wear and then you can take from the virtual world to the physical world and also vice versa. If you look at something in the physical wall and you want to use it in the Metaverse, we will look in technology to convert it automatically and you will be able to buy it also in the digital world. This is just an example. Another example is how do you -- NFT would be a major tool to leverage there. So if you're creating something, managing the activity and enabling design very important. But NFT can be a very, very strong tool as well to use from the virtual world to the physical world. Amir, do you want to add on top of that?

Maybe just a couple of words. So on the production floor, Tavy, as you know we're aiming to automate and digitize that production floor. There's 2 different floors obviously where something goes through a DTG type of production environment or through a DTF. Clearly we're not looking to own every piece in the process. We're looking to automate and manage the software workflow. But around the print process and the print engine, if you've seen the acquisition we've done of Voxel8 for example, there are complementary technologies that we feel like we can embed into the platform, into the application. There are ancillaries around the print process on the production floor that we believe is important to embed them into our solution and automate, those could be hardware or software. So you should see, without getting too specific, some of the capital deployed in those areas. And like Ronen touched, we are looking to accelerate, beef up KornitX the network and the marketplace environment. But also in where when Ronen was addressing the virtual world, that's basically where things are created, right, where the content is created, where it's designed, where the catalog are managed. There's going to be different channels for selling those garments on demand. So in those environments, we're looking at some very interesting M&A opportunities.

Great. Last one for me. We're running late and I'm told there are already investors waiting for the next meeting. So the one I really wanted to ask is really about the barricades and that's something that investors often ask me. It's clear you have solid technology differentiated, massive addressable market. So what are your biggest concerns, the challenges, what keeps you up at night if anything? What should we be worried about?

Great question. I can tell you that luckily we are not worried about market trends and market size. We're not worried about competition. We are a market leader. We are by far the best technology. We are by far faster and innovative versus any other companies out there. We are really managing the production floor, which is really unique versus any other competitor out there. And in terms of the vision, we have also very unique vision and very strong vision. What I'm worried about and what makes me go to sleep late or won't sleep very well is really about scalability. There's so many things that we need to do to take this company from it was a start-up mid -- small size, midsize and getting now to a large size; things like we are changing our ERP system, things like we're opening another manufacturing plant in North America. Really recruitment is a big issue. We all know retaining people. People is the main thing that we need all the time to consider the new way of working. All of the things that are really the scalability in every aspects of the business. This is what the entire management working very, very hard to really make sure that we are meeting the $1 billion hopefully before the time.

Great. Thank you so much, Ronen and team. Thanks for taking the time to grace the chat.

Thank you very much. Thank you.

Thank you for having us, Tavy.

Bye Tavy. Thank you.