Pexip Holding ASA (PEXIP) Earnings Call Transcript & Summary

Good morning, and welcome to this presentation of Pexip's second quarter results. My name is Trond Johannessen, and I'm the CEO. Together with me here today at Lysaker, I have our CFO, Oystein Hem; and our Chief Revenue Officer, Åsmund Fodstad. Together, we will take you through the highlights of the past quarter and our focus going forward. The standard disclaimers apply as usual. First, for new viewers, a brief overview of Pexip. Pexip was founded in 2012, and currently, we operate in 25 countries across the globe. We are a specialist video conferencing and infrastructure company, focusing on interoperability and Secure and Custom meetings. We do software only, delivered as a software or Software as a Service. Pexip has unique and established partnerships with the leading companies in our industry. We complement and enhance their solutions and do not generally directly compete with them. Our customers are mainly large organizations in both the public and private sectors that have very complex needs when it comes to video collaboration. The financial performance is strong and has been improving over the last quarters. Now to the highlights of the past quarter. Our annual recurring revenues, ARR base grew with USD 3.5 million during the quarter, and this leaves us with an ARR base of $119 million leaving Q2. In the quarter, we had particularly strong performance in our Secure and Custom business area, and the development here is supported by increased public awareness around the need for secure and sovereign IT solutions, including video communication. We also see that our new interop solution for Zoom Rooms continues to do very well in the market. In Q2, we also renewed a partnership agreement with an important partner in Connected Spaces. And this underlines the importance of interoperability for this key player in the industry. EBITDA came in at NOK 57 million and cash flow ended at NOK 32 million for the quarter. If we look at our Q2 performance in the context of the last 12 months, we see that the positive trend from the last quarters continues. Our total ARR continues to grow and is at an all-time high. Year-over-year, the growth rate is 11%. Our 12-month rolling EBITDA reached NOK 276 million, which corresponds to a 23% EBITDA margin. And finally, our free cash flow in the last 12 months was NOK 281 million. We take this performance as evidence that we are operating in attractive markets with relevant products and a strong market position. Now a bit more detail on the 2 business areas. Pexip's mission is to make seamless video communication available to all organizations, regardless of technology platforms and security requirements. Our 2 business areas, the first one being Pexip Secure and Custom Spaces is about privately hosted video meetings that give complete privacy and data control with the desired level of customization. The second business area, Pexip Connected Spaces is about video meeting interoperability by enabling any meeting room to connect to any meeting platform. First, a few words about Secure and Custom Spaces. Here, Pexip provides a video meeting platform that can be used exclusively or alongside, for example, Teams or Zoom in those situations when you need to close the door and have a secure meeting. Our solution includes security features such as tailored user authentication, clear meeting classification labeling and complete control over what data is stored and where. Integrated chat is also an option. The secure meeting can easily be booked through the Outlook calendar or started through a chat session, exactly the same way as for Teams meetings. I believe that most large organizations will have more than one video meeting solution in the future, and Pexip is very well positioned as the secure meetings alternative. Those organizations that have requirements that fit well with Pexip's value proposition span over a wide range of industries and sectors. Most notably, we see that organizations within defense and national security as well as government bodies in all shapes and forms together with health care and other regulated industries constitute the sectors where we see the highest demand. As a result of this, we have increased our focus on meeting the needs of customers in these sectors to ensure that we continue to take market share in what we define as our core customer groups for secure meetings. Åsmund will show a couple of customer use cases related to defense and health care a bit later, but let me share some recent wins we had in Q2 with government organizations that are outside of defense and health care. These include secure meetings plus chat integration for a European civil agency, a secure meeting solution for a public prosecutor's office, secure meetings with AI translation for a foreign ministry, secure meetings to a U.S. state corrections agency and finally, a secure meetings and chat solution for another civilian agency in Europe. In total, these contracts with high-profile government agencies sum up to USD 1.3 million in new ARR in the quarter. We see significant momentum in this area, and we are often asked about the key drivers behind the decisions to purchase Pexip solutions for this customer group. There is no single answer that fits all customers. But in aggregate, we see the following key reasons for selecting Pexip, a requirement for data sovereignty, control and compliance, a need for customization capabilities as well as deployment and integration flexibility, a desire for vendor independence and reduced vendor lock-in and a need for a modern user interface also in secure environments. To give you some more flavor to what we actually deliver to these customers, let me show you a short video describing Pexip Secure meetings, including an example of an integration with chat, and this solution is a popular replacement of legacy solutions such as Skype for Business or Cisco Meeting Server. [Presentation]

Now moving over to Connected Spaces. This is where Pexip has the vision of connecting any meeting room to any meeting platform. With Pexip's unique technology, interoperability focus and industry partnerships, we have a market-leading position in this field. The new solutions for Google Hardware, Zoom Rooms and Teams Rooms are unique to Pexip and are evidence of the leading position we have. Interoperability continues to be highly relevant with several platforms and hardware solutions widely used. As earlier communicated, we are working with both Google and Microsoft to deliver interop for Google Meet Hardware and MTRs on Android. The progress is good on both these joint development projects. Also on positive partnership news, we have, in the second quarter, renewed a long-term commercial agreement with a key partner, adding an additional 3 years to the existing agreement. This renewal signals the continued importance of interoperability for one of the key players in the industry. The new business model has a higher variable unit price and a lower fixed fee, which is estimated to give Pexip higher revenues and margins over the 3 years. Short term, it will, however, have a temporary one-off ARR effect of minus $1 million in Q3 this year. Now let me leave it to Åsmund for a sales update.

Thank you, Trond, and good morning, everyone. I'm super happy to announce that we yet again are reporting another strong quarter for Pexip in Secure and Custom, with a USD 2.6 million ARR growth to USD 50.6 million. It represents a 27% growth year-over-year. We are especially strong in defense and see an increased awareness and pipeline for secure solutions globally. In addition, we see great progress within health care with several large wins. Let's start with Secure and Custom. Pexip delivers secure video meetings for the world's toughest IT environments. Pexip integrates seamlessly with complex, highly regulated networks, tailors the experience to each customer and still keep the system simple to run. That's why government, defense and national security agencies choose Pexip. Today, I'll share some of the key wins that illustrates this. The first case is a European Ministry of Defense. In this defense organization, video collaboration is a strategic capability for command and control, multi-domain situational awareness, meaning the ability to act coordinated simultaneously, governmental coordination, collaboration and program delivery. This European Ministry of Defense was looking for a solution that could run sovereign, secure video meetings for their primary NATO command and control environment, interoperable with NATO HQ and 32 member states. So why did the customer choose Pexip? Pexip meets the strict NATO standards, known as Federated Mission Networking. Pexip offers flexible deployment, and this is critical for mission readiness and Pexip runs on any server and any cloud. And finally, Pexip is easy to operate and delivers the rapid scale across domains that this Ministry of Defense requires. Imagine the technology complexity across these member states and their setup, where many collaboration platforms lack the security, compliance and adaptability required. Pexip is the only one that enables full control over classified conversations. Another major win for us in Q2 that I wanted to highlight is one of the world's largest hospital groups. This health care organization was looking to improve both patient care and agent efficiency with video while maintaining the highest quality across multiple locations and networks. The integrated Pexip and Genesys video solution enable their contact center to deliver a personalized experience as well as giving the administrators the visibility and control needed to monitor and maintain every call. So why did Pexip win this deal? As stated earlier and highlighted by Trond, Pexip integrates seamlessly with complex regulated networks, and we have the ability to personalize the experiences and finally, keep the system simple to run. Let's also have a look at Connected Spaces. For Connected Spaces, we ended the quarter at $68.4 million, adding almost $1 million in ARR. Pexip continues to see strong momentum with both Microsoft and the Zoom partnership, where the Pexip Connect for Zoom Rooms had very good traction in Q2. Pipeline keep on growing for our connected products, and we expect continued traction in '25 and beyond. Let me also share a major win within Connected Spaces from Q2. A world-leading consulting firm needed seamless interoperability and a consistent experience across meeting rooms and technologies. They refused having a walled garden approach and require the freedom for consultants to join any client meeting on any platform. Pexip Connect for Zoom Rooms delivered a fully supported enterprise-grade solution with any to any interoperability and a consistent one-touch join experience. The outcome, platform freedom without vendor lock-in, consistent room experience across sites, reliable, high-quality meetings backed by Pexip support, all enabling their consultants to simply just meet. As the leader in enterprise interoperability, Pexip provides a through any-to-any connectivity and the reliability global firms depend on. And Pexip is the only one that can do that across any platform or any technology. And with that, I'm going to hand it over to Oystein for the details on the financials.

Thank you, Åsmund. Let me start off with our ARR development. As mentioned, we grew 11% in Q2, with most of the growth coming from Secure and Custom. The split of ARR across industries and regions is similar as the previous quarter, with government and health care adding the most in Q2, with the growth being fairly evenly split across Europe and U.S. In terms of net retention and new sales, Connected Spaces saw an increase of $900,000. This is somewhat better than in Q2 of 2024 with improved churn and improved net upsell. Secure and Custom had another very strong quarter, growing $2.7 million and maintaining the annual growth at 27%. Q2 was strong last year as well. And year-on-year, we had improvements of $100,000 to $300,000 across new sales, net upsell and churn, adding up to an improvement of $700,000 compared to Q2 of last year. As a consequence of the strong growth, Secure and Custom has increased its share of the total ARR from 37% a year ago to 42% now. This is a positive development as Secure and Custom has the best net retention of the 2 business areas. In terms of the P&L, revenues grew 6% year-on-year compared to the ARR growth of 11%. This is mostly due to timing effects of revenue recognition across Q1 and Q2. And year-to-date, revenues are up 13%. This is also why the growth this quarter is mostly from Software-as-a-Service. The NOK-USD exchange rate is down compared to Q1. However, compared to Q2 of last year, currency effects are not very significant with regards to revenues. EBITDA continues to grow and is up NOK 21 million compared to the revenue increase of NOK 16 million. This is due to a significantly improved cost of goods sold due to received onetime rebates on cloud compute in Q2. This has helped us expand our profitability significantly this quarter as well, which came in at 20% EBITDA margin, up from 14% a year ago and is now at 23% on a 12-month basis. This is a testament to a strong underlying business model as double-digit growth, together with a stable cost base, has a tremendous impact on profitability. In terms of costs, we continue to maintain a stable cost base by driving for efficiencies in some areas while also expanding in others. Salary expenses are stable year-on-year with a reduction in cash-based salary of around NOK 5 million, and this was balanced out by an increase in share-based expenses as accruals for social security costs increased due to the share price increase during the quarter. Other OpEx continues to be stable and is up NOK 1 million compared to 2024. Looking at cash flow. Q2 had a free cash flow of NOK 32 million compared to NOK 68 million last year. This is due to working capital normalization following a very strong Q1. And in the first half, free cash flow is NOK 253 million compared to NOK 168 million in the first half of last year. In Q2, we also distributed a total of NOK 318 million back to shareholders through the dividend and our share buyback program. The share buyback program was completed earlier in August. And combined, we have year-to-date returned close to NOK 360 million so far this year. We left Q2 with a very solid cash position of NOK 544 million. So to summarize, revenues are up NOK 16 million. Gross profit is up NOK 24 million, and EBITDA is up NOK 23 million and is now at 20% margin for the quarter. Depreciation is also NOK 8 million better than in Q2 of last year as a result of completion of depreciation of some intangible assets. And the current level is pretty in line with our running CapEx and lease expenses. Net financials is also NOK 11 million better than last year from better foreign exchange differences compared to Q2 of last year. In total, we improved our profit before tax, which came in at NOK 56 million, up NOK 44 million from Q2 of last year. And with that, I give it back to Trond.

Thank you, Oystein. Well, now to outlook. As described earlier, we maintain a positive market outlook based on the key trends we see in our markets and the unique technology, strong market position and solid industry partnerships that we have. Our expectation is that we will continue the positive ARR trend we have seen over the last quarters and end Q3 with an ARR in the range of USD 120 million to USD 123 million compared to the $119.0 million we had leaving Q2. Included here is the temporary negative ARR effect of the new pricing in the renewed partnership model. As mentioned earlier, this new pricing is positive for Pexip's revenues and margins over the contract term. As demonstrated this quarter, we are also tracking well towards our near-term targets of consistently delivering above 10% ARR growth and above 20% EBITDA margin. Longer term, we have an ambition to deliver Rule of 40 performance across ARR growth and EBITDA margin. Last 12 months, we are at 34% on this parameter. Finally, before we go to Q&A, we will have our Q3 presentation here on November 7. Now Q&A.

Thanks a lot, Trond. As normal, we'll start with questions from the analysts that are with us on the call. I believe we have Jørgen Weidemann from Pareto. Jørgen, do you have any questions for us?

Also, first of all, congratulations on another good quarter. So my first question, could you shed some light on the way you account for variable price commitments in your ARR, especially with relation to the Connected Space contract that you now changed slightly? And if you don't account for them at all in your ARR, could you tell us something about the share of variable payments that you have in your current contracts and how we should think about that going forward?

Right. So to understand or to -- typically, we don't have variable pricing contracts. They are variable in that they scale with the number of licenses that are bought. The typical model for us will be that the price per license will be fixed for the entire contract period, which is typically 1 to 3 years. In the specific contract that we mentioned now with the partner, we had a somewhat different model with a large sort of contract fixed fee of about NOK 1 million a year. And on top of that, you had a variable price. And in the new model, you have just a higher variable price, but no fixed fee commitment. Did that help? Or were there other type of variable that you were thinking?

No, I was just wondering how we should think about it. But if you say that the old contract was a special one and the ones we usually account for is the ones we should continue to account for, then that's very clear.

And when the previous contract basically had built in a certain uncertainty around volumes and the price levels, and now after having run that contract for 3 years, we see that the volumes are coming up and sort of the pricing in the market sort of allows for a higher variable price. And when this is then more positive also for Pexip on a revenue and margin basis, that's how we -- sort of that's the way we kind of ended up renegotiating that agreement for the next 3 years.

So just to clarify then, if the contract you're switching to now is closer to the ones that you usually did, why would it reduce the ARR if it's still going to be the same coming in, that's the way you usually account for?

The reason for that is that we need to build up the volume on the new contract. And so when you have a price per unit, which is higher, it does require us to sell units into that program to get to sort of retain that revenue. That being said, based on the previous 3 years, we're very confident that, that will happen over the sort of foreseeable future.

Okay. Great. That makes a lot of sense. And then my second question is on Connected Spaces, which continues to be a little bit subdued on growth with 2% year-over-year. But I assume that's mainly from the switch between SIP and service attach endpoints. At the same time, you see a significant traction on the Zoom native products now at $4 million ARR. Is it fair to say that the Zoom product alone is enough to counter the effects in the switch and that we should expect some higher growth as the other products become available for sale?

I think that is certainly our ambition to be able to expand our growth in Connected Spaces as we, in particular, become more relevant to Microsoft Teams customers with covering both Microsoft Android -- Microsoft Teams Rooms on Windows, which we do today, but adding Microsoft Teams Rooms on Android, which we currently are in development of.

Okay. So there's no reason why Connected Spaces shouldn't return to 5% or 10% growth in the next 2 years when you have those products.

We only provide guidance to be fair on sort of the overall. If you see this quarter, we added close to $1 million in ARR for Connected Spaces. If you take that pace, you're already sort of mid-single digits. So I think it's fair, but we don't give concrete guidance for specific product areas. Then I believe we have Christoffer from DNB on the call as well.

Can you hear me?

Yes, we can.

Yes. So could you just kind of reiterate how to think about that change in contract and how it kind of affects the kind of sets up the sequential change in ARR into Q3?

Yes. So the previous contract had a fixed fee and a variable fee for the units that were sold on to that contract over the 3-year period. When we now move into the new contract, that has no fixed fee, which is the $1 million that we feel the effect of immediately, but a significantly higher per unit volume price. And so as we sell into that contract over the next quarters and years, we expect to sort of recoup that initial loss by having higher ARR. And that is based on the sales volumes that we have seen over the past 3 years.

Can you just talk a bit about the product of the counterparty there, how they use it and why like their current user base will already just roll over into this new one and drive an equivalent or higher ARR instantly?

So I can't go into details around that contract, but there's a substantial special sort of customer base that we have not touched yet with this product. It is within the Connected Spaces and predominantly Connected Spaces with sort of Connect for Teams standard, which is our main product in this area.

Yes. I just got the sense like you said on the previous question that thinking about Connected Spaces going forward, it added almost $1 million of the ARR in Q2, and it seems like you're kind of feeling it will be the same in Q3. But if you have like $1 million headwind, is it like a gross add of $2 million and then you kind of take out $1 million to arrive at that $1 million for Q3 or...

No, I did not intend to give concrete guidance for Q3 specifically. But if you sort of zoom out on a yearly basis or even in sort of the next 2, 3 years, that we both have shown and have the current capacity to have solid growth in Connected Spaces is certainly sort of within our expectation.

I mean just to put $1 million into some context, I mean, we have single contracts that we enter into in Connected Spaces that could be $1 million or more. So the $1 million is, in my view, not really very significant in this context. What is significant is the fact that this very sort of key player in the industry has entered into a 3-year agreement with Pexip that really underlines the importance of the products and solutions we have and how important that is for this key partner to continue to drive development in their business.

Yes, that's helpful. And then just a final quick one from us. So if you just do some back of the envelope here and look at the kind of the midpoint of your guidance at $121 million, $122 million and assume you have a $1 million sequential headwind in Connected Spaces, it kind of seems to indicate that you are expecting a material step-up in growth, both in terms of DAR and year-over-year growth in ARR and Secure and Custom for the current quarter. Is that kind of the way you're thinking about it? And if yes, what is kind of driving that acceleration in Q3 for Secure and Custom? Is it like you guys pushing more? Or is it more like a pull from customers accelerating for some reason? That would be helpful.