Modelon AB (publ) (MODEL) Earnings Call Transcript & Summary

So a warm welcome to Modelon presentation of the third quarter financial results as well as the first 9 months. And my name is Jenny, and I will moderate the Q&A session at the end. This presentation will be recorded and of course, put up on the website after this presentation. [Operator Instructions] So with that introduction and without further ado, I would like to hand over to Magnus.

Thank you, Jenny. And again, welcome, everyone, to this presentation of Modelon's interim report for the third quarter. My name is Magnus Gafvert, I'm the CEO of the company and also 1 of the Co-Founders. And with me today, I have my colleague, Jonas Eborn, CFO; and also Co-Founder and sitting in the next room to me. So today, after presenting the bullet highlights of the quarter and to a quick introduction overview of the company and then elaborate a bit on the business highlights of Q3. And after that, I'll hand over to Jonas, who will present you with a financial update of the period. And after that, as Jenny mentioned, we'll go into Q&A, where you are very welcome to submit your questions. So bullet highlights of the quarter. We are pleased to see revenue growth amounting to 19%, which is at the same level as the year-to-date growth of the previous quarter. We're seeing ARR growth at 10%, which as we have previously described, is a bit -- the growth is a bit slowed down by the strategic cloud transition that we are conducting during this period. And also, I should -- we can report that this transition is proceeding at high pace in the quarter and that we have substantial new capabilities coming up from that and ready for rollout at the end of the quarter. We're also seeing an improvement -- continued improvement on our EBIT with SEK 4.4 million compared to last year Q3, driven mostly by revenue growth and also, to some extent by cost reductions. So a quick overview of the company, Modelon. We are a business-to-business software company in the system simulation sector. That means we're helping technology enterprises across industries and around the world in digitizing engineering workflows related to the innovation development and operation of high-technology products and systems. And that could be anything from a car to an aircraft, to power plant in whole or in part. And in digitizing those engineering workflows, you need to have at hand a digital representation of your product, digital model. And that's precisely what we provide -- software tools to create such models and to use them for these purposes. And this brings tremendous benefits to our clients. It means that they can develop their products faster at lower cost and arrive at both higher performance and higher quality in the end. Our flagship product, Modelon Impact is pioneering, the simulation industry being the first cloud-native SaaS platform for system simulation. It is based on proven high threshold technology that we have been developing over more than 15 years. It was first released in the third quarter of 2020. So that is precisely 3 years from now. And we're investing in this platform to accelerate and grow our annual recurring revenue business. We are pleased to see also that since we put Modelon Impact on the market, we have grown our annual recurring revenues consistently quarter-by-quarter with the deviation in the previous quarter, as we discussed then, which we are now recovering in Q3. We are highly internationalized for our sites. We are around 100 people distributed over offices in North America, Europe and Asia, headquartered here in Lund, Sweden, where me and Jonas sit. The global simulation and analysis market is very big. It's growing consistently, and we'll continue to do so for a foreseeable future. That in combination with our very strong product positioning, our geographical international presence makes us set ambitious financial goals for our business to reach an ARR growth of 35% in the medium term, to turn cash flow positive in the short term and to -- in the long term, approach and exceed EBIT margins up 20%. And with that, let's move into some specifics of the quarter. Again, the ARR growth is our key performance metrics. So the growth in the third quarter was 10% and taking us to SEK 48 million. The Modelon Impact flagship product is the strategic growth driver for our business. And with that, we saw a growth of 19% during the third quarter. And as mentioned, this growth is temporarily slowed down by extended sales cycles resulting from this transition that we are conducting for the cloud. And the purpose of that transition is to make this product more streamlined to deploy and also more scalable so that we can support a stronger scaling of our business. And we expect that this transition will continue throughout this year and then gradually we will see that the sales cycles come down and that the growth accelerates as a result of that. As a consequence of this also, we're seeing a larger share in Q3 of our entry product, the Library Suit in the product mix. And the Library Suit is -- suit is a subset of Modelon Impact with a migration path towards the full platform. And looking at more details on the activity in the quarter. I'll start by introducing the key market segments that we are working in, the energy process, industrial equipment, automotive and aerospace sectors, and also showing here examples of the type of customers that we have in these segments and I believe you can all see that this very strong brands. They represent leading global innovation-driven technology companies that have the highest possible demands on their suppliers. So we're very proud to have these type of customers in our customer portfolio. And also, of course, these are -- many of these are really large companies and constitute a very strong platform for future growth as well. And in the quarter, we have 1 business, new customers and also upsell business on the existing. The first I mentioned here is a U.S. National Energy Research Lab. U.S. National Labs, you -- at least me, I typically think of the very -- almost science fiction like technology, nuclear fusion power and things like that. The application here is a bit -- it's quite a bit more mundane. It's just the case that in the U.S., dryers, domestic dryers, where you dry your clothes, consume about 4% of the total residential electric power. So it's -- and they are not very energy efficient. So here is an initiative, research and development to make dryers more efficient by sophisticated use of heat pump technology, and this is then being done with support of Modelon Impact. So it's a great example of a use case where we're helping, in this case, at the national level, really initiatives to drive energy efficiency for sustainability. Also in the energy sector, we have a Chinese Thermal Power Research Institute, and they are working with what's called upgrade engineering of existing power plants, typically coal-fired -- and that usually means -- may include things such as adapting these power plants for transient operation, and that means that the plants can coexist with renewable energy sources such as solar and wind on the electrical grids. It can also mean retrofitting technology -- intact technologies such as, for example, carbon capture systems and so on. Moving to the industrial equipment. We have an Indian multinational engineering consulting company. They are using Modelon Impact to create web apps for sizing of domestic water heating systems for a U.S. client. So again, we're looking -- it's a context where we're supporting the efficiency initiatives on domestic or residential electrical consumers. Again, very nice use case. We also have a Spanish provider of marine vessels and systems. They are working quite a bit in the defense sector. So we don't have that much insight in what they are actually doing with our solutions. We have a Korean multinational automotive manufacturer. They are -- this is an upsell. So they are using our solutions in the context of vehicle dynamics, design and testing for cars. We have a French multinational moved to their aerospace -- French multinational aerospace company, they are in both civil and defense sectors, and they are using our solutions for fuel system design and for hydraulic aircraft systems. We also have a European multinational commercial aircraft manufacturer. And this is also very exciting. This is in the -- there is a -- we're all aware that aviation -- Civil Aviation has a fairly substantial environmental footprint. So there is a big trend in that industry to look at new technology that will make the environmental impact softer. And 1 path there is looking at hydrogen as the fuel or energy carrier. And that means you use hydrogen either to burn in a jet engine, but you can also use it in fuel cells to get electrical energy for propulsion or other systems. So currently, in that sector, there's a lot of exploration related to hydrogen. And that -- I mean, there are many, many challenges that needs to be met. We actually have other customers in that sector that are reducing our solutions for these purposes. I think McKinsey is estimating or they are forecasting that the first hydrogen-powered aircraft will hit the market in 2030 and that by 2050, 1/3 of the civil aviation will be hydrogen-powered. So it's a long-term and very large trends that we are working in. Overall, in Q3, I should say also, yes, among these wins, we also see some with specific short-term growth potential, which is nice. Many of them have also the long-term growth potentials. But in some cases, like now, we also see it in shorter term. Overall, the pipeline activity has been steady across regions and industry sectors, and we see a stable lead generation from our marketing activities. And the reason that customers choose to work with us, use our solutions, Modelon Impact, is that we are so very well positioned in relation with the big trends in technology industries and the big trends that are driving requirements that is also driving the growth of the simulation sector as such. And the first is, again, as I mentioned initially, the digitalization of engineering work leads to cost savings, better products, shorter times and so on. And a lot of this digitalization requires precisely the type of modeling and simulation that we provide with Modelon Impact. Then we have the sustainability clean tech trends where we are extremely well positioned. We have built into Modelon Impact thousands of models, model components that represent the technology that is typically used in these applications. And we are very proud to see that majority of our customers are using our solution for these purposes and in this context as was also exemplified on the previous slide. And also SaaS cloud, we are, again, it's a very strong position to be pioneering our sector with a cloud-native SaaS solution to meet the needs of companies to have strong tools for collaboration, information sharing and data integrity and so on. So this is a trend that we all know also has been accelerated by the pandemic. This slide, I will walk you through it. It's not as complex at this as it might appear. It's basically illustrating the Modelon Impact product business structure and also be overlaid with the activity -- the focus activity we've done in the third quarter. So at the bottom here, you see the industries that we serve and where we can using our Modelon Impact, our [ Modelon risk ] build digital models of these different types of industrial systems. These models are then used in to perform engineering tasks across the product life cycle of our customers. And that's often illustrated by this -- it's called V-Cycle. So to the left, you have the early research and innovation phase from that to go into a more requirements phase, and we set the architecture for a product or system from that to start to design the parts in detail of the system, you test and integrates the parts to the total product, you verify, validate the system and then you deploy it into operation when it's ready. And in all these phases, there are task and workflows where you strongly benefit for working with our type of simulation technology. So we support workflows and tasks across this life cycle. I should say that we have also a particular strength in the early phases here in innovation and research basis. But we are -- as we will see on the next slide, also delivering across the full cycle there. And then these capabilities, we package and deliver on the cloud, on-premise or managed cloud. And then we monetize the value our customers get out of this by a per user subscription model and also we monetize on the amount of work our customers are doing, how much simulation analysis you do, and we also monetize on what we call the deploy dimension. That means if you build web apps that you deployed broadly to many users, that's another type of monetization we have. And in the quarter, as mentioned, we're in a transition, and that means that until recently we have had the on-premise installations, on-premise cloud installations with our customers as our primary delivery method. About a year ago, we launched our managed cloud service, SaaS service. And we soon discovered we had -- the initial plan was to have like a step-by-step gradual shift from the on-premise towards the managed cloud service. We quite soon saw that there is strong reasons to accelerate that transition and move our business faster towards the managed cloud. And that meant that there are some corresponding developments we need to do on the product, mainly on the back end side, and that's what we're working on right now. We do still see that we need both options. We need -- there are some sectors where we need to deliver an on-premise solution. So we're also working to make that on-premise solution more streamlined to deliver and for our customers to operate. So these are the type of activities we're doing in this transition. And also based on -- driven by the sad state of matters in the world, really, information security is in everyone's minds, including our customers. So we see that the demands, the requirements and expectations related to information security is increasing. And of course, we need to meet that. So we also have initiatives to make sure that we demonstrate how we meet the necessary standards. And of course, also, we're doing improvements in our modeling and engineering workflow capabilities at the same time. Some of this is released on a more continuous basis to our managed cloud customers, and we're also looking forward to more major release in the first quarter next year where more capabilities will appear. So overall, lots of things happening on the product side, lots of great things, and we are -- we look with confidence to putting these in the hands of our customers. And I'll conclude with a couple of customer stories or testimonials. That actually represents the 2 different extreme ends of this V-Cycle, early innovation one and the other is on the operations side. These were recorded at our first international user conference that we held actually a year ago, and we recorded a total of 10 different very good great testimonials even, I would say. The thing is it doesn't take quite some time to get these testimonials approved with our customers in the company. So these are the last 2 that we published and they were published now in Q3. And I should also mention that we are -- we decided to make this international user conference a biannual event, which means that we are now in the planning of the next coming up in 2024. So stay tuned for more information about that. And the testimonial share, the first is Italian multinational innovation company, R2M Solution, and they are specializing in taking disruptive sustainability technology coming out from European research collaboration and commercialized that into products or services. And the context here is technology for the optimization of building energy systems. And we are pleased -- very happy to hear how R2M Solution testifies that Modelon Impact is easy to use. They can quickly onboard new users and get productive and start to produce meaningful engineering results and decision. And this is precisely the aim we have with the platform. And more precisely, the context here is work in the area, what's called demand response systems and it's -- you have on the electrical grid, you have producers that is power plants of various forms, the nuclear, renewables and so on. And then you have consumers. You have some very large consumers like factories and so on, and they typically plan their operation based on the availability of electricity. Then there are millions of consuming devices in homes, residential appliances and so on. And they are -- there's a very big potential in making them more intelligent to respond to the availability of energy on the grid. So there's a lot of work going on worldwide in research, in energy companies and start-ups in making solutions where ICT solutions -- where appliances can become more intelligent, communicate with the grid, with the producers, so that the total credit system is run more efficiently and optimal. So this is what's going on here. The other is ENGIE. And this we actually had a prior story from them as well. So it's not a new name that we drop here. So it's a digital twin application. So the ENGIE is a very large multinational French energy company. They run lots of different energy power plants. In this case, it's solar power farms. Solar power farm typically include thousands of solar panels and a lot of other equipment inverters and so on and this is located typically at a remote location in a desert or somewhere where the sun shines a lot. And there is complexity and cost associated with the maintenance of such plants. So there is a strong benefit of using digital twins as an instrument, as a method to diagnosis, online diagnosis where you can not only using this technology immediately detect when some anomaly occur and then analyze what the actual fault behind this is, the location of this fault in this large plant, and you can send out your technicians or service staff to the right place in an effective way. So lots of value in that. And also with the possibilities to also do maintenance predictions where you not only respond to faults, anomalies that have happened, but you can anticipate faults and proactively service your plants. So again, digital twins, it's an emerging market. So not so interesting activities going on. In many cases, it's still in pilot phases, but there is a promise that this will actually contribute with a lot of value to a range of industries looking forward. And again, the type of models that you have in these digital twins is often precisely of the sort that we provide with Modelon Impact. So with that, I hand over to Jonas to talk about the financial developments. Please, Jonas.

Thank you, Magnus. So you can move to the first -- to the ARR slide, not this one. Move back one. Thank you. So just a few points then on our finances. First, of course, ARR is our main KPI. And I'll point out that we are reporting our ARR at constant currency, which means that the historical data here is adjusted to the current exchange rates, which are at a high point. Everyone knows about the high dollar exchange rate. So there are adjustments on the history to show the sort of volume growth with correct pace. And we are reporting a software ARR at SEK 48 million, growing by 10%, just like Magnus said. And this is slower temporarily because of this dip that we had saw in Q2, but also the current transition period with the managed cloud -- transition into managed cloud. And also the Modelon Impact ARR is increasing by 19% on an annual basis here. This is also affected by the same trends that we've seen. So we expect these to continue growing and growing at a higher pace going forward. We can move forward to the revenues. This is increasing to $19.1 million in Q3, annual increase of 19%. It was higher in the second quarter due to a paid-up win that we reported then an Asian deal, roughly SEK 3 million -- and those types of deals, they typically come from time to time, not every quarter, but at least once or twice a year. So it's not unusual, and we do see that in our history also that sort of certain quarters, you see a higher softer revenue because of paid-up deals. The software revenue is increasing by 13% on an annual basis, recurring at roughly the same, 14%. You can see the difference between the recurring revenue growth and the ARR, which is due to the exchange rates, the constant currency. So here we see 14%, ARR we see 10%. The difference there is exactly the FX effect. Service revenues are also growing 32% to SEK 6.8 million in the quarter. We have a good pace in delivery. We've previously reported that we've also seen a good inflow of new service orders and a good pipeline. So it's very good to see that we can continue to deliver on this. And particularly in the third quarter, it's usually a soft quarter for services because of the summer period. But of course, we are a global company. So we are delivering at a high pace, for example, in the U.S., which typically does not take any summer vacation like we do here in the Nordics and Europe. If we look at the development costs, they are decreasing by 13% in the quarter and also decreasing on a rolling 12 months basis. This is SEK 11.4 million in the quarter here. We do take the costs -- development costs directly as operating expenses, which translates into a negative EBIT that we see here minus SEK 11.5 million. So just by chance, they are very close in this quarter. That's not by design or anything else. But we do expect our development costs to roughly stay at this level. We do need to continue our investments, but at the same time, we are careful, of course. We had some savings -- took some savings because of the high inflation rates that we see, and this is showing both in our operating expenses and in our development costs. On sort of mid- to long term, we expect to continue investing in development but at a slower pace than the growth of revenue, of course. So we can move to the next part here where the -- where we see the OpEx is decreasing. Also the personnel costs are decreasing by 5%, 3% compared to the previous period. This is due to the savings that we took earlier this year. And I'm very happy that we can continue this despite the sort of high inflation markets that we are in. But I do expect that we're not continuing to decrease the cost. We are affected by the high inflation, and we should see some sort of a ligitable limited cost growth going forward, roughly on the same level as the index -- cost index. Cash, we see cash liquidity at SEK 78 million compared with SEK 127 million at 1 year ago. So we are continuing our investments. The cash flow is improving -- in the quarter, it's minus 12% roughly, which is improving a lot compared with last year. Year-to-date cash flow is also improving minus SEK 33 million. And this is because we are continuously improving our business, of course, we're growing our revenue. We do expect that we will continue to improve this towards our short-term goal, the cash flow positive in 1 to 3 years. And we are confident that we will achieve this. The main reason that we're expecting this positive development is, of course, we're growing our software sales. We have a business model with paid up licenses. So the customers, they pay cash at the beginning of the purchase of a new license and with a growing software business that sort of gives us leverage into the cash flow position also. And those were the main points that I wanted to make. Magnus, so we can move on.

Yes. So let's see. That takes us to the Q&A. Jenny, I'm handing the word over to you to lead this ceremony.

Thank you, Magnus. And I can see that we have our analysts with us both from Pareto and Redeye. So I'm going to put you on first. [Operator Instructions] And let's start with Stefan Ward from Pareto.

Congratulations on a good quarter. My question is a little bit related to -- things are moving in the right direction, but we're still -- I mean, if you look on the past 12 months, you consumed about SEK 50 million in cash flow. And I'm little bit -- I would like some more clarity on your financing situation and this guidance to be cash flow positive from operations within 1 to 3 years. I mean if it's 3 years, it looks like you want to really -- can you help me bridge this so that we can see that you are -- don't need to bring in any more capital until you reach profitability basically.

So I can take that question. So we do not see a need for additional cash -- additional capital. We are confident in the financial target, as you said, this was communicated almost exactly a year ago. We set these targets with the 1- to 3-year short-term cash flow positive. So you can interpret that into sort of a time period going forward. We also, as I mentioned in the presentation, we do see sort of an acceleration and the leverage in our business model that we can continuously improve our cash flow. So we see some improvements in this period, and we continue to improve that going forward. So we do not see any need for additional capital at this moment.

Okay. Thank you, Jonas. But just I think it would help the company, if you could add a little bit more clarity and perhaps can you give any indications on the timing of when you will be operating cash flow breakeven. It doesn't have to be on an annual basis.

So as I mentioned, the 1 direction I can give is that this goal was communicated a year ago, short-term means 1 to 3 years, and we are confident that we can meet this financial target.

Okay. Then maybe we can take a couple of questions on the customer segments. Are there any specific areas where you see particular strength in terms of customer segments and perhaps also some comments on how sales are performing in the different geographical areas?

Yes. So good question. We continue to see not really a change compared to previous quarters. So we continue to see activity in all areas related to different type of clean tech sustainability solutions and so on, energy. We have customers -- so we are good, a particular type of systems that we are good at is what's called thermofluid systems. And that means the type of systems where you have a refrigerant or cooling media, some sorts that run through heat exchanges and compressors and so on -- the type of technology you find in air conditioning, [ climatic ] systems, heat pumps and so on. So it's a fundamental technology that's involved in a lot of sustainability or energy type of equipment. So these sectors, I would say, it gives us activity and strength in -- from aerospace to automotive to energy systems, and it's basically the same type of technology that we can provide. So that continues to be an area where we see good activity and good potential for growth. There was a second part also...

The second part was related more to geographies. I'm also usually interested in demand situations in U.S. versus Europe, but also on your progress in Asia.

Yes. So we continue to see U.S. leading in terms of activity. I mean it's a huge market. And in many respects, they are also -- have been a bit slower than Europe in adopting the type of simulation technology we are presenting. So there we see a lot of potential there, a lot of activity continue also in this quarter in the pipeline. So it's -- we look ahead with confidence for the -- on the U.S. side. Europe is stable also. The dynamics are different. So in the U.S., it is more likely that you gets larger initial deals, the size of everything is a bit bigger. In Europe, it may take a bit more time and you start more carefully with new customers and then grow over time. Nothing is changing in this quarter. So it's what we usually see. Asia, again, different type of markets. So we were -- as you know, we're working more with relying on indirect channels because long-term relations are of great importance. And if we can benefit from relations that are built up with our channel partners, that's great. That's specifically -- particularly true for Japan to also other regions there. And as we reported in the previous quarter, we onboarded 2 new reselling partners in Q2 in Japan and Korea. And it's still early days. We're working actively with onboarding, educating them, and we -- as we speak, pretty much, we have people traveling over to Korea to work with our new reseller there, meet customers and so on. So activities are good. We are, of course, impatient to see the -- to start to see the output coming from this, but we're confident it will.

And perhaps a final question, if I may. When do you expect to reach the ARR growth target of 35% per annum.

I will have to answer in line with what Jonas did on your previous question that we -- the specifics we can give there is what we communicate in the financial targets.

And then we're going to put [ Marques Jon ] from Redeye.