Sectra AB (publ) (SECTB) Earnings Call Transcript & Summary

Good morning, everyone online. Welcome to our 9-month report presentation with CEO Torbjörn Kronander and CFO Jessica Holmquist. My name is Helena Pettersson, investor relations officer. And I will moderate the Q&A session held after management presentation. [Operator Instructions] And with that, over to you, Torbjörn.

All right, thank you very much. So our 9-month presentation this fiscal year, the agenda. I will do the interim highlights, as usual. And then Jessica will go into the financial development. I will talk a little about the way forward. And then we have the question -- Q&A session via chat function and e-mail. You can also e-mail and chat during the presentation [indiscernible]. So our -- first, a little about our different business operations. We have imaging IT, by far the largest operation, handling images. Initially, that was radiology. Increasingly, we do all images in the hospitals. And we are still unique in that we in one single system can handle all the different image types of a hospital, from radiology, pathology, ophthalmology, cardiology, dermatology, et cetera. And there's -- images is a very important part of the diagnostic process, so -- and it's growing a lot by itself. Then we have Secure Communications, on the right, where [ we Sectra comes ] from, from the beginning, Secure Transmission, where we do mainly encryption solutions for communications, both as mobile handsets but increasingly also in fast, highly secure network operations. And we have Business Innovation, with our greenhouse for new interesting ideas, where products can be for a while and -- before they have to develop. And since 1 year back, about, we have Genomics IT as well, which is an increasingly part of diagnostic process, especially for oncology and cancer. We have had one hospital live at the University of Pennsylvania in the U.S. for almost a year by now. And we are in the process of -- we have quite a large interest in that area going forward. So that's where we deviate a little bit from images. We'll also handle other data, but it's unstructured data. It's not something you put in a database easily. A little bit about the highlight of the quarter. We were voted #1 in customer satisfaction. This year, we got a record number of awards. We got 8. And the most important is large hospitals in the U.S., but we also won small hospitals in the U.S.; Canada; Northern Europe; Southern Europe; DACH, which is Germany, Austria and Switzerland; and Middle East this year; and digital pathology, which is only one award still because it's too few customers in the U.S. still to have a separate report from digital pathology in the U.S. So digital pathology is global. The picture is from the awards ceremony in Las Vegas only 2 weeks ago. We are building a strong and future-proof business. We do have high customer satisfaction. We think that is super important for long-term success. And we are also in a rapid progression to as-a-service model. We are selling software as a service and not as license sales. That has a quite a strong impact on the revenue and profits during the transition, but after the transition, it will be good for both customers and us as a vendor. And we think this drives significant growth and major investments to increase the growth going forward. Extensive patent portfolio, which we saw a fruition of this quarter, where we actually had a settlement in the U.S., agreement in the U.S., that resulted in a net increase in profitability of more than SEK 100 million. Unusual, this is first time we got such a big payback from patents, but it shows clearly that a strong IP portfolio is very important. With transformation to as-a-service model. Cloud recurring revenue, which is a very important measure this -- or indicator the -- for this transition, where we -- this is the increase in the recurring revenue based on cloud sales. We are moving -- we have 2 transitions. Both payment transition to pay as a service but also that we're moving the products up into the cloud instead of have a lot of hardware on prem. These are not the same thing. People very often confuse them, but we do both at the same time. We do have customers who have on-prem hardware who still pay as-a-service model, but we have no customers who buy a license in the cloud. And the cloud recurring revenue is a recurring revenue we get from these cloud transitions. And as you've seen, we've been in the transition for quite a while but now significant numbers and very high growth. And it is a very important indicator for us. Recurring revenue as a whole includes also service revenues from the old installations. That also increased, by 18%. And then we have churn. If you want to keep, have a building business in the cloud and as Software as a Service, you don't want to lose customers. And we have 0.6%, which is a very low churn. And that means that the incumbent customers very often stay or almost always stays. Happy customers, best way to grow. Contracted order bookings was up 9%. It's very important to realize that, [ last year and ] this period, we have a very strong order intake, so it's a little unfair comparison, but it was still good. And net sales was up 13%. Now note that, when you lose those initial license sales and get over to Software as a Service revenue, if it's we had still been on the old model, it would have been bigger. And profit per share increased by 60%. However, that was including the onetime patent settlement. Positive nonrecurring effect from patent settlement, I said before. We have an extensive patent portfolio. One is a U.S. patent within mobile VPN solutions. So it's in Secure Communications. And we during Q3 have licensed to a U.S. corporation as part of a settlement. And that resulted in a profit increase of more than SEK 100 million. Financial targets for the group are our stability. The equity-to-assets ratio that is -- should be above 30%, it's currently at 47%, so well above our threshold. Profitability margin should be above 15%. And we are well above that at 19% despite the transition. We have now introduced a little extra curve [ that you said ], the dotted curve. That's including the patent settlement. That's not part of normal operations. We have -- we'll have split curves for a while to show that difference in the curves here. And then our main target when the first hygiene measures are fulfilled is growth of profits per share. And that should increase by more than 50% over 5 year. We are currently at 121%. And of course, including the patent, as you see, there is ways above that as well. In Secure Communications, we have -- it is today our fastest-growing operating area. We have high demand for our secure communication products. It's an increasing tension in the world, as you know. And especially, Europe have woken up and that Europe has to handle their own defense in the future. And that has driven demand for our products. We have positive earnings boost from the patent settlement as well, so communications had an all-time high that -- this last quarter. One interesting area. Without -- outside of the pure defense is an order we have gotten from The Swedish Prison and Probation Service, where the inmates won't need to have a discussion with their lawyers [ to get ] some external information, but it needs to be done in a very secure way. They are not allowed to talk to anyone. And it's going to be encrypted between the lawyer and the inmate. And we have received an order for secure communications for pads that we do on [ Samsung ] pads and that are used by the clients or the inmates for communication with legal entities and getting whatever they are allowed to get from the outside without risking that they can communicate to the outside world. In Business Innovation, orthopedics is good progress. We have received preoperative planning increases. And we're -- also the postoperative follow-up operations, which is actually a very interesting area, as revisions of prosthesis is very expensive -- and also the highly risk for patients. Medical education, we have had a tougher time. And that's mainly because we, before, sold large terminals, hardware. And those have more or less gone away for us, but the recurring revenue is strong. So the growth in recurring revenue for education is very strong, but the loss of the hardware business, which was predictable, has happened this quarter and impacts both profits and revenue. And Genomics IT, we have large interest, but this is in a chasm phase. We have our first customer. People want to see how that works out before buying more, but we have large interest. And we were, last week, in a large international conference in Las Vegas called HIMSS, health informatics in medicine. And it was clear that our oncology -- story about what we do in pathology, genomics and radiology combined for oncology diagnosis was very well received. And in research, we're focused on various aspects of AI and clinical decision-making. In imaging IT, we have ongoing transformation to SaaS, as I said before. Cloud recurring revenue was up 45% there. And we have some very large orders coming in. And we have high interest from the market, not only in the U.S., all over where we are present. We are not present in all countries in the world. We have selected to be multinational and not global. It's better to be -- have good market share in the markets where we're in than to have small markets in -- market share in many markets. Then I'll leave the word to Jessica Holmquist, our CFO.

Thank you. Welcome. Good morning. And welcome to this part of the presentation, where I will walk you through the financial development in the 9-month period. And demand for our products, Sectra's products, and services remained high, with contracted order bookings surpassing SEK 5.8 billion in the 9-month period, of which roughly SEK 5.3 billion was guaranteed order intake. And the largest order secured year-to-date remains the Sectra One Cloud from Québec, received earlier this year, of SEK 3.1 billion. During the third quarter, we received orders for digital pathology from customers in Norway, Sweden and the U.S. And we also saw the University of Hartford place an order for our services for medical education. And in secure communication, we also received various orders. A European defense customer signed a contract for Tiger/S system including service and support. And we also received an order for further development of existing systems by the Swedish authorities. And as always, we point out that the size of individual orders causes large quarterly fluctuations in order bookings. Sales are steadily increasing, up 13% in SEK 2.326 billion in the period, with only minor impact from currency. It's high customer satisfaction, underlying growth and also the strong development in secure communication that jointly drive the overall sales growth. And then the SaaS transition drives recurring revenue, yes. And as you also heard Torbjörn saying, the cloud recurring revenue increased by 44% year-on-year. And we are pleased to report low recurring revenue churn, yes, of 0.6% rolling 12. The third quarter, as such, had an increase in sales of 22%. And in addition to the growth drivers mentioned before, we recognized license revenue in the quarter, driving the sales development in the third quarter, yes. Our main business areas increased sales year-on-year. Imaging IT grows with new customers and hospitals continuously being deployed and also existing ones ramping up the usage. And in secure communication, we saw the fastest growth in the period, yes, up 41% year-on-year; and now close to SEK 460 million rolling 12, a result of increased both -- increases both in product deliveries and development projects. And Business Innovation: We see rapid growth in recurring revenue, but that can -- could not fully compensate for lower nonrecurring revenue in the period. Looking at sales by geography, we conclude growth in all markets, with strong development in Sweden and the Netherlands, driven by the trend in secure communication. And we observed the highest growth in absolute term, outside Sweden, in what we call rest of Europe and spread across several markets. And we also note stable growth in our main markets. Our operating profit increased by 29% to SEK 414 million, excluding the nonrecurring patent settlement. And growth in recurring revenue, combined with the higher nonrecurring revenue from licenses in the third quarter and again the strong performance in secure communication, contributed to the operating profit growth and the strengthened margin. The third quarter in isolation, with an operating profit of SEK 205 million excluding the patent, stands out as an exceptionally strong third quarter. And given quarterly fluctuations, it is important to focus on long-term trends when assessing Sectra's financial performance. Our main business areas also increased profit year-on-year. Imaging IT, which is up 20% year-on-year, is positively impacted by the strong third quarter. However, nonrecurring revenue is lower than in the comparable 9-month period, as we see customers purchase services rather than traditional software licenses. And in imaging IT, we still carry implementation costs for the major customer contracts received in recent years, where none of them is yet in full production. And in secure communication, we see strong performance year-on-year. The operating profit is at SEK 60 million, excluding the patent, equal to a margin of 19%. And again this is driven by higher volume in general. Our cash flow from operations amount to SEK 700 million in the period. And we had strong cash flow generation both in the second and especially in the third quarter. And the main drivers behind the strong cash flow are increases in advances from customers, also the patent settlement and as well as the underlying profit. Over to you, Torbjörn.

All right, thank you, Jessica. A little about our way forward. We have a saying that success in business and most things is very easy. Just live and act the oldest rule of human history and -- the golden rule. We try to tell our people and remember ourselves that, if we treat customers the way we want to be treated ourselves, we'll be okay, but very often, businesses forget that. But this is unusual IT company [ beat ] the oldest rule in the world. And that has resulted in good rankings in KLAS. With -- KLAS is a company in Salt Lake City in Utah who evaluates medical IT, not only the things we do but all medical IT. And they then do reports about this. And they rank vendors [indiscernible] in different categories in IT within the medical field. And we have come out top again and for the 11th year in a row in North America large hospital, which is what we started with, but now they have been doing evaluations in other areas as well. We came out on top in 8 areas, as I said before, of digital pathology. It's a new area besides radiology. One thing they ask about. And I've shown this picture. Again -- I will show it again. They ask -- one thing they ask customers is, "Would you buy again from large vendors?" Now this is previous years -- previous year. This was 2024. And 98% of our customers would buy from us again. We are so high above all competitors. And I didn't want to bash people, so I blanked out the names of those vendors, but we are the only one above the mean, the market average at 81%. This has been published this year again, but we are not allowed to share it with you yet. But I can say our rank has not decreased, which is, I think, I can say. We actually increased it from 98%. And this is an old quote that we use internally as well: Profit in business comes mainly from repeat customers, customers that boast about your project or service and that bring friends with them. And our main reason why we have grown so well in the markets we're in is that we have had the customers who tell other customers that we are an okay company to work with. And that drives our growth. In medical IT, we see that the demographics of the Western world is alarming, not only the Western. Japan and Korea is as bad or worse. And China is getting there. People live longer and longer and get sicker and sicker. The workforce working in medical is fewer and fewer. And one [ can not ] work in health care. That means the health care operators in the world must become ways more efficient in order to cope with this situation, and our job is to help them with tools to doing that. And the medical main growth areas again will be neurodegenerative disease, the diseases of the elderly and cardiovascular disease, cancer, skeletal and vision and hearing. And the green areas is where we do ourselves. In neurodegenerative disease, we are -- have partners that measure [ MS spec ], et cetera, but we do the main imaging ourselves. Cardiovascular, we do increasingly products in cardiology. In cancer, we do both pathology, genomics and radiology. Musculoskeletal, we have our orthopedics business. And in vision and hearing, we have ophthalmology image handling, which is increasingly complex. These areas will grow in the future despite if it's a good time; or a recession even, because people will not get less sick in a recession. Efficient workflows is then becoming paramount, important to health care. We hear it, more and more and more of that. "How efficient is it?" Doctors cannot move around. Doctors has to do the work. And they cannot fiddle with IT too much either. They need to be able to treat patient and diagnose patients. And we are the only vendor with all of these image specialties in one single system. And that's another reason why it's good to have this is that the -- hospitals today have too many IT systems. I know at least one hospital that have more than 1,000, in a not-super-large hospital. 1,000 IT systems is huge cybersecurity risk. It's also very expensive, to hospitals, to maintain and run because they'll need people who know all of these 1,000. So consolidation of IT in hospitals are very important. We are the only vendor with all imaging in one single system. Other vendors can offer pathology or radiology, but they have it in different systems. We have it in one. And in the Sectra One offer that we now have as a SaaS model, we offer all of these. You can get one contract and then you just add on the other ones when you'll need them. That enables better care for patients, because we can do things faster; efficient workflows; lower costs; reduced complexity, increased cybersecurity. And we have the same -- we have minted the tagline, "brilliant workflows made for you." That, we use for clinical exhibitions. And we have that as a tagline on our clinical exhibitions, but at the IT exhibitions, we've modified and call it, "brilliant consolidation made for you." And that, we used at the HIMSS now. And that's a very important thing for CIOs of hospitals all around the world. They need to get the number of IT systems down. In cybersecurity, we have a new digital reality. There is increasing international tension. And cybercrime drives strong growth. We know that nations attack each others' infrastructure, both for IT but also in reality, but especially the IT parts, we can prevent to large extent, not to 100%, but we can help preventing that with our products. We are very well positioned. We have a very strong brand name in Europe in cybersecurity. We also have extensive research and patents, as you saw from the patent settlement. Again, our philosophy with shareholders, it start with a rational strategy in a growing market. Both cybersecurity and medical IT need to grow, despite high tide or low tide, in the society at large. We have more and more IT needs to be protected, and threats are increasing. And we have the aging populations that need care despite that not more people working in health care, so -- and both of these are good markets to be in. And they have to grow because of the underlying forces. Then if you have happy customers -- and then in order to have happy customers, you need happy employees. You cannot have happy customers without happy employees. We work a lot with that as well. And then we need to be expensive when you're worth it. We should not give things for free. We are good and we are worthy of having a reasonable pay for it. And then you're a little stubborn -- and reasonable cost control. Then shareholders will be happy. And I think we have proven that over the last 15 years or so, but it comes in that order. And that is how we build our strategy. That's why having happy customers are so important. Long term. I would like to take a note that the quarterly variations in Sectra are very large. Last quarter, we had a little dip compared to the previous year Q2. This year was up, but don't evaluate Sectra on quarterly variations. It's up some quarters and down others. Look at 12 months rolling when you evaluate Sectra. And then you see the nice slope upwards over the years, but I just want to remind you of not extrapolating everything. It's good in 1 quarter, bad in 1 quarter. That does not mean that you can take that little curve from between quarters upwards or downwards. So why you should be a shareholder in Sectra. We are positioned in the markets that are, as I said before, by external factors, forced to grow. We have a high customer satisfaction and a strong brand, rapidly increasing recurring revenue and very low churn, yet we have very exciting self-financed projects that could be a start-up by itself, but we run them internally in our Business Innovation but also within the different business areas. And management own shares, which we think is a good thing; not only options, but they also own shares. And with that, we'll conclude. I will say the upcoming 2025 financial events and Annual General Meeting. First, we have a Capital Market Day for medical, not for communications this time. It's only for medical. It will be in Stockholm, March 27. And June 12 -- 5, we have year of -- end-of-year report. And September 9, we have our Annual General Meeting. That will be in Linköping, Sweden and in real life. Your feedback is important for these meetings. Please let us know what you think. Send an e-mail to [email protected]. We are very open to changing the format of these meetings and listen to you because we do this for you, not for us. And then we'll go with the questions, please.

Yes. Thank you, Torbjörn and Jessica, for your presentations. We have a number of questions that we have received both through e-mail; and online, in the chat function. [Operator Instructions]

And I will start with a few questions from Nikola Kalanoski at ABG. And the first question is, "Could you please provide us with a status update on your customers' appetite for additional module purchases in both North America and Europe?"

It's quite large. And they -- and when a hospital trusts us, for instance, in radiology or in pathology, when they want to extend that to another ology, they very often come to us, not all the time but very often.

And the next question is regarding U.K. "How would you say that the investment needs for cloud PACS and additional modules looks like in the U.K., where you already have a leading position?"

It's good. We are one of the trusted vendors for NHS. And we see that we have sold quite a lot of pathology, for instance, into our installed base already, but it's a good position to be, in U.K. And we are very happy working with the U.K. NHS is a good customer. And we, I hope, is a good vendor for them.

And then we have a question about U.S. and staff sharing. Is it possible to use staff from the U.S. to aid with implementations in Canada, for example? Or does the staff need to be local when it regards implementations?

We cannot use cross-country staff, normally. And they need a work permit to -- in the state where they are, but very often, our Canadian staff are American citizens or the way -- or the other way around. And then we can use them in [ the other country ].

And a fourth question here. "Would you say that a long cloud implementation process could make some prospective clients not choosing Sectra? Or are there other factors that are typically more important when selecting a cloud PACS vendor?"

It varies a little bit. I don't think it's the most important factor. The most important factor is the quality and that they get good service. And now the long implementation time is, very often, not due to us. It is normally due to that they need to get networks in place, especially in cloud. They need fast networks into the cloud provider, and that is not depending on us. It's also internal operations in the hospital. They have to change a lot of things, and that takes time.

And then I'll move over to questions in the chat function. And the first questions comes from Jakob Lembke. And what drove the strong quarter-on-quarter increase in cloud recurring revenue in Q3? And should we expect this to continue in coming quarters?"

We made a retroactive reclassification from nonrecurring revenue to cloud recurring revenue of SEK 10 million, impacting the quarter-on-quarter.

And further questions from Jakob. "Trying to understand the strong margin development in imaging IT. It seems like costs did not increase year-over-year despite sales increase and group employees increasing 9%."

Well -- so yes, in the third quarter, we recognized license revenue. And that impacts both the sales, of course, and then the operating profit; and strengthens the margin. And so that's what happened in the third quarter.

And the next question is are there any FX revaluation or other positive one-offs impacting Q3 EBIT in imaging IT.

Yes, there is some currency impact in the third quarter, but again I would say it's the license revenue that we were able to recognize in the third quarter that caused a large impact. And then it's also, of course, timing of -- when it comes to cost, we can have -- it can be timing of larger customer events driving sales and travel expenses, for example. That could happen 1 year and not take place the next year.

And for the moment, the final question from Jakob Lembke, on Secure Communications. "Do you expect to benefit from Europe's ambitions to significantly increase defense spending? Possible to say when you start to see increased orders?"

I think we are. I think we are doing that already, as Sweden has extended its budgets for defense, and so has other countries in Europe, so yes, I think we will be positively impacted by that.

Okay, thank you. And then I'll move on to questions from Kristofer Liljeberg at Carnegie. And the first question is regarding operating costs. Adjusting for legal advisory costs, it seems OpEx only increased 6% year-on-year in Q3 and has now been virtually flat sequentially over the last 4 quarters. Is this just a temporary slowdown considering the comment that deployments will continue to impact margins negatively next fiscal year?

I would say we have -- well, again it's a lot of timing that impacts quarter-on-quarter when it comes to operating expenses, but of course, we try to be careful. We manage costs. We have good cost control, but with the large deployments ahead of us, we -- that takes some resources. I don't know if you have -- would like to add something there, Torbjörn.

It's we are -- of course, we should increase revenue more than costs. Otherwise, it will be very bad, but it's a variation between quarters as well.

And next quarter (sic) [ question ] from Kristofer is on the same topic. What explains that external cost adjusted for legal costs in Q3 are down versus second half last year, less external consultancies or something else?

It's we're rather down on travel and sales expenses. And when it comes to external consultants we're more or less flat, some increase but more or less flat. It's a mix. It's the mix of different operating expenses.

And the third question from Kristofer. "How large was the licensing order recognized in Q3 that you said explained strong earning in imaging IT?"

That, we do not disclose.

Okay. Then I'll move on to a private investor, I suppose, who has a question regarding the patent settlement. In -- the patent settlement is in other revenue, with SEK 195 million -- I don't know what the question is. I need to -- where in the income statement is the costs recognized for the patent settlement?

That's in other operating expenses, the line other external expenses, I think, in the income statement, it's named.

Thank you. And we have one further question from Jakob Lembke. "Can you give a status update on the implementation with the large U.S. health network in Québec?"

It's progressing. It takes time to start up the server side. So I know the networks, as I said before. This also takes reorganization in the customer side. They have to be trained. In Québec, for instance, we have -- or about 125,000 employees need to be trained on our products. That is a large effort that we do not do ourselves, but we train the trainers. And that takes time.

Okay. And then I will switch to e-mail again with a few questions from a private investor. And he is wondering what's included in recurring revenue versus cloud recurring revenue.

Cloud recurring revenue is when the services we deliver are cloud-based. That's the difference between recurring and cloud recurring.

And recurring also includes service contracts of the old installations that we have done forever. Our first installation is still on premise, but they need service. And those service contracts are not included in the cloud recurring revenue.

Okay. And the next question there is why not all competitors are included in the KLAS ratings.

It's -- depends on how many installations they have in a certain region because of statistical significance. KLAS says that it should be above 15 installations, for instance, in the U.S., and I think 5 in Europe, to be included. They don't want to include 1 or 2 customers. That would be not statistically significant.

Thank you. Then I think we have addressed all the questions for today.

All right. Then we'll thank you for your attendance. And looking forward to seeing you soon again. Thank you.

Thank you.