Cellebrite DI Ltd

NASDAQ:CLBT

Earnings Call Transcript 2024-Q1

[Operator]

Welcome to the Cellebrite First Quarter 2024 Financial Results Conference Call. [Operator Instructions]I would now like to turn the call over to your first speaker today, Mr. Andrew Kramer. Mr. Kramer, the floor is yours.

[Andrew Kramer, executive]

Thank you very much, [ Leo ]. Good morning, good afternoon. Welcome to Cellebrite's First Quarter 2024 Financial Results Conference Call. Joining me today from just outside of Tel Aviv are Yossi Carmil, Cellebrite's CEO; and Dana Gerner, Cellebrite's CFO. There is a slide presentation that accompanies our prepared remarks. Please advance the slides in the webcast viewer to follow our commentary. We will call out the slide number we are referring to in our remarks. This call is being recorded and a replay of the recording will be made available on our website shortly after the call.Starting with Slide #2. A copy of today's press release and financial statements including GAAP to non-GAAP reconciliations, slide presentation and the quarterly financial tables and supplemental historical financial information for the first quarter of 2024 and each quarter of 2023 and 2022 are available on the Investor Relations website at investors.cellebrite.com.Also, unless stated otherwise, our discussion for the first quarter 2022 -- sorry 2024 financial metrics as well as the financial metrics provided in our outlook will be done on a non-GAAP basis only and all historical comparisons are with the first quarter of 2023 unless otherwise noted.In addition, please note that the statements made during this call that are not statements of historical fact constitute forward-looking statements. All forward-looking statements are subject to risks and uncertainties and other factors that could cause matters expressed or implied by those forward-looking statements not to occur. They could also cause the actual results to differ materially from historical results and/or from forecasts.Some of these forward-looking statements are discussed under the heading Risk Factors and elsewhere in the company's annual report on form 20-F filed with the SEC on March 21, 2024 and as amended on April 12, 2024. The company does not undertake to update any forward-looking statements to reflect future events or circumstances.Slide #3 provides the agenda for today's call. And as you will hear, we started our 2024 off on a positive note with another very solid quarter. We move forward with good momentum and are excited about the opportunities we see ahead to further expand our business this year.With that said, I'd like to turn the call over to Yossi Carmil, Cellebrite's CEO.

[Yossi Carmil, executive]

Thank you, Andy, and thank you all for joining us today.The financial results highlighted on Slide 4 demonstrates that Cellebrite is off to a very solid start in 2024. We delivered a strong first quarter performance, anchored by the further expansion of our business, improved profitability compared with the same quarter 1 year ago and meaningful strategic progress.Have to say it is rewarding to see our solutions are making a tangible difference in accelerating justice around the world. While I plan to share more about the market opportunity, our strategy, our achievements and our outlook, I would like to turn now to Slide 4 to briefly recap our Q1 results and selected KPIs.And more specifically, ARR grew 27% to $331.8 million. We continue to see strong ARR growth globally, and our Q1 ARR expansion is primarily driven by our success in expanding existing customers' relationship, which is consistent with historical trends. The total revenue of $89.6 million increased 26% on the strength of a 29% increase in subscription software revenue.Adjusted EBITDA was $17.6 million or 20% on a margin basis, and we reported non-GAAP earnings per share of $0.08. We also ended the first quarter with cash deposits and investment totaling approximately $347 million, a $15.5 million increase since the end of 2023. Of the trailing 12 months, our ARR growth rate and adjusted EBITDA margin trended above the baseline target of Rule of 45.Turning to Slide 5. As most of you know, Cellebrite hosted its first ever Investor Day in late March this year. This was a great opportunity to provide our analysts and shareholders with a deeper dive into our business and our bright future. During this event, we highlighted the underlying trends, Cellebrite's overarching strategy, our compelling case-to-closure platform and flagship solutions as well as key technology and go-to-market initiatives that will enable us to convert meaningful ARR and revenue growth into further improvements in adjusted EBITDA.We expect that our ARR and top line expansion over the coming years will continue to primarily come from further expansion within our installed base of customers.Now I'd like to explain why we are so bullish on this opportunity. So first, there are several powerful trends that we believe will require our customers to invest more in digital investigative solutions like ours. Most notably, the number of cases that have a digital component continues to increase and the digital component is often the most meaningful part of investigations today.As digital becomes more pervasive in crime, the growth in both data volume and data complexity makes it harder for law enforcement to capture and analyze this information. Those issues are compounded by structural operational inefficiencies arising from siloed manual and time-consuming processes as well as greater scrutiny on law enforcement practices.In an environment where overall budgets and headcounts grow modestly, we continue to see more spending directed to disruptive technologies like ours that can help our customers address these issues and solve more cases faster and more efficiently.Second, we are well positioned with our existing customers to continue increasing our wallet share through the 3 flagship offering in our case-to-closure platform, our branded C2C platform. Now these solutions address the key challenges in the digital investigation life cycle that involves collecting, reviewing, sharing and analyzing digital evidence. And with spending on our solutions currently representing just a fraction of our customers' annual budgets, there is a substantial room for upside as digital becomes the primary starting point for an investigation.I would like to take a moment to elaborate on that. Now within the digital forensic units, the segment where we have established our leadership through relationship with over 5,300 public sector agencies, we are pretty much at the earlier stage of a major product upgrade cycle in holding Inseyets, our next-generation digital forensic software solution. Inseyets deliver a more robust integrated set of capabilities that helps our customers access more devices, extract more data and reveal more information relevant to their investigation.With most of our customers relying on Cellebrite for their primary digital forensic software solution to collect and review digital evidence for mobile phones and other digital witnesses, we see substantial opportunity to better support our customers in the digital forensic units as they broaden the scope of the labs operation and extend our technology also out into the field to support an expanding range of use cases.And just as important, our customers are increasingly recognizing that they must transform their workflows to drive efficiency and productivity, facilitate better collaboration and strengthen the chain of custody around digital evidence, dynamics which opened the door for Guardian, our SaaS-based case and evidence management solution.And there is also the investigative units. We are augmenting our continued growth in the digital forensic units by accelerating our business in the investigative units of our customers. Maybe more specifically, the digital evidence captured by Inseyets open up cross-sell and upsell opportunities for evidence management and analytics solutions.Our offering for the investigative units ensure timely, securely access to digital evidence, dramatically reduce the time involved in reviewing digital evidence and help surface leads and connections buried with mountains of data, all of which is critical to expediting investigation.As we move forward, we are committed to further enhancing the integration between our flagship offering and further evolving our pricing and packaging in ways that will support broader and more pervasive use of our solutions with national, regional and local law enforcement as well as with blue chip enterprises and service providers.To fully realize our growth potential, we are making meaningful, I would say, thoughtful investments in our technology and our go-to-market initiatives that we believe will further strengthen our ability to address our customers' biggest pain points.In terms of our technology investments, we will continue to focus on 3 key areas. The first area is advanced evidence acquisition, which is about making sure we can help law enforcement obtain all the rich information that resides within today's mobile phones, computers and cloud applications. With Inseyets, customers who have already upgraded are now extracting substantially more data than they did previously.The second area is about helping our customers leverage the power of the cloud, which provides them with greater computing elasticity, facilitate broader intra-agency and multi-agency collaboration and minimize IT and security concerns.The third area involves harnessing AI to enable greater automation and increase operational efficiency. We made tangible progress in each of these areas during the first quarter.From a go-to-market perspective, we are currently broadening our sales coverage in key regions and customer segments in both the U.S. and Europe, while leveraging prior investments to capitalize on opportunities in Asia Pacific. But just to be clear, we are reallocating existing resources as we globalize and optimize certain areas such as sales operations, technical pre-sale and post-sale customer experience, which enables to add more quota-carrying sales reps and specialists dedicated to nurturing long lead time deals in both digital forensic units and in the investigative units.A greater example for our ability to blend our technology, go-to-market and other strategic initiatives to further expand our business over the longer term is in the U.S. federal market. In mid-March, we announced the launch of the process to authorize our SaaS offerings with Federal Risk and Authorization Management Program, known as FedRAMP. We do believe that advancing our work over the coming quarters to ensure that our SaaS solution meets the highest standard of security and data compliance will play an important role in our broader efforts to unlock more opportunities in the federal marketplace.Now as we advance these initiatives to capitalize through our upgrade, upsell and cross-sell opportunities within our installed public sector customer base, we will see our technology deployed more pervasively as we extend our reach into new units, new departments and new buying centers, what we consider to be new sub logos within the logos we've already captured.We also expect that our organic growth will benefit modestly from annual price increases and from the expansion of our private sector business. And finally, our organic growth will benefit as we continue to win net new customers.Now while new logos typically spend minimally with us in the first year, their spending growth typically keeps pace with growth of the broader business. And also thanks to our strong financial foundation, we have the ability to advance opportunities that can accelerate our time to market with high-value technology and capabilities as well as extend our reach into growth-oriented adjacent markets and capture more of our [ time ].As we move into 2024, our top 4 strategic priorities remain unchanged: first, increasing our leadership in the digital forensic units; second, accelerating our growth within investigative units; third, building our business in the private sector where our differentiated value proposition for data collection by enterprises and service providers is built on supporting a wide range of data sources, different work environments and deployment flexibility; and fourth, harnessing the power of the cloud.Now I'd like to briefly highlight the Q1 wins, which help illustrate our progress in executing on each of these priorities.First, our Q1 ARR growth of 27% reflects positively on our ability to extend our leadership in the digital forensic units of our customers. As we look ahead over the next 2 years, an important strategic objective and fundamental growth driver will be to upgrade the vast majority of our installed base of approximately 32,000 public and private digital forensic software licenses to Inseyets.During the first quarter of 2024, which is by the way, the first full quarter that Inseyets has been available to all customers, we made good initial progress in converting our installed license base to Inseyets. The upgrade to Inseyets delivered substantially higher value in terms of enhanced capabilities and optimized workflows, while creating upsell opportunities for customers of all sizes through high-value, add-on modules that address their needs for lawful access, workflow automation, extraction of other digital sources and enhanced evidence management functionality.Now we expect to see upgrade activity accelerate during the second half of this year and into 2025 as customers incorporate these investments into the annual budgets.One notable Q1 Inseyets upgrade involved a larger national police force in South America. We choose the upgrade as an opportunity to broaden its lawful access capabilities to all of its major offices as well as broaden its use of Pathfinder. As a result, we nearly tripled this customer ARR.In Europe, we were pleased to see a large military agency upgrade to Inseyets to enhance its counter-terrorism capabilities for faster triage outside of the traditional lab environment along with using our Smart Search, our open source intelligence tool, to generate rapid intelligence on persons and organizations of interest. As a result, the [ recount ] ARR more than doubled itself.Our second priority is to accelerate our growth within the investigative units of our law enforcement customers. Now a key offering for investigators is Pathfinder, our AI-powered analytics solution that enables law enforcement agencies to expedite their investigations. Pathfinder substantially reduces the amount of time it can take a detective to view or review text messages, photos and videos by up to 80%, while uncovering and linking data, surfacing new leads, identifying connections and anomalies to capture the most meaningful evidence.And we are pleased with the trajectory for Pathfinder and believe that the investments to add sales specialists will help us accelerate our progress.Our Q1 Pathfinder wins were highlighted by a midsized city police department in the U.S. Southeast region that plans to use our analytics to support their organized crime units ability to conduct cross-case analysis and accelerate investigation involving multiple [ phones ]. Now this win extended the scope of our relationship with this customer, increasing our ARR by 30%.Our third priority is to expand our business in the private sector, primarily in support of corporate investigations and e-discovery use cases. We recently appointed a new Head of Enterprise Solutions to lead the strategic direction and drive product development as we support our customers through both SaaS and on-prem solutions to collect data from a wide range of devices, regardless of whether the user is working from home or in the office.During the first quarter, we extended our relationship with a Fortune 250 company in the waste management industry. This customer consolidated its data collection activities with Cellebrite by replacing its incumbent solution for support remote computer collection with our Endpoint Inspector SaaS. The win more than tripled our ARR at this account.And the fourth strategic priority is to help our customers harness the power of the cloud to make it easier, faster and more secure to accelerate the time to actionable evidence. Now although law enforcement agencies are generally early into the adoption of cloud technologies, approximately 2/3 of our customers expect to adopt cloud-based solutions over the next 3 years, and we are focusing our development road maps and infrastructure investments accordingly.We are pleased with the interest that is building in Guardian, our SaaS-based solution, for case and evidence management. During Q1, a large city police department in the U.S. with over 1,000 small offices selected Guardian to optimize their evidence management workflows. And more specifically, Guardian will help investigators solve more cases by freeing up hours that detectives previously spent on any given case, driving to and from the primary digital forensic labs to drop off devices and pick up evidence reports as well as eliminate the need for detectives to purchase their own flash drives and other external storage devices to view digital evidence, reports and information.Let's move to Slide 7. Now we are into the second quarter of 2024 with good momentum, especially with respect to our near-term sales pipeline. We continue to see customer budgets trend favorably in support of their plans to enhance and expand their digital investigative capabilities with our solutions over the coming quarters. To capitalize, we have continued to add talented professionals to our team, which included the appointment of David Gee as our new Chief Marketing Officer. Looking ahead, we believe we are on track to achieve our 2024 financial targets and have reaffirmed our outlook for this year.And with that says, we know that there is a lot of hard work that lies ahead in order for us to achieve our objectives this year.So in summary, Cellebrite is well positioned with a differentiated and compelling software platform that is making a tangible difference in accelerating justice through more accessible, intelligent, actionable and sensible digital evidence. And we are pleased to have continued to onboard talented individuals who share our commitment to advancing Cellebrite's mission.We expect that our strong financial foundation will be further fortified by our anticipated fundamental performance over the coming quarters. And as a result, we have sufficient [ fiscal ] flexibility to consider a wide range of strategic moves that can help us accelerate time to market with high-value capabilities, extend our reach into growth-oriented adjacencies and enhance shareholder value.And overall, we move forward with confidence that we have the people, the partners, the products and the programs that will help us capitalize on the exciting opportunities we see.So that concludes my prepared remarks. And at this point, I'll turn the call over to Dana.

[Dana Gerner, executive]

Thank you, Yossi. As noted in Yossi's comments earlier, our Q1 results demonstrate that we are off to a very solid start for the year. We delivered revenue above our targets, ARR at the higher end of our plan and stronger-than-anticipated adjusted EBITDA.So let's begin the review of the Q1 on Slide 9. We reported first quarter revenue of $89.6 million, an increase of 26%. A 29% increase in subscription revenue was partially offset by a more moderate increase of hardware sales within our other nonrecurring revenue and the slight decline of our professional services revenue.Within professional services, the decline in advanced services revenue is correlated with the growth in higher sales of our advanced lawful access offering, and this decline was mostly offset by the growth in training and certification.Overall, subscription revenue represented 88% of total revenue, and we expect that it will continue to trend between the mid- to high 80% range over the coming quarters.Slide 10 details our ARR growth driver. Our ARR grew 27% year-on-year to $332 million at the end of March 2024. We maintained healthy gross retention of approximately 91% for the first quarter. Our ARR growth was driven primarily by existing customers expansion with new logos contributing modestly, which is consistent with our growth strategy.In terms of ARR growth by product area, we have continued to see customers expand their use of our Inseyets collect and review solution. This [ both ] is complemented by our continued progress cross-selling and upselling our evidence management and AI-powered investigative analytics.Our geographic mix for ARR for the 12 months ended on March 31, '24 was generally in line with the historical trends with the Americas representing our largest geography at 52% of total, followed by EMEA, 36% and Asia Pacific at 12%. We were generally pleased with the ARR expansion during Q1 in each major region, with the Americas growing 28%, EMEA increasing 25% in Asia Pacific up 30%.Slide 11 details the historical trends for our non-GAAP gross margins and non-GAAP operating expenses, which exclude share-based compensation, amortization of intangible assets and acquisition-related expenses. We reported a first quarter gross margin of 85.7%, which was slightly above our plan and up 260 basis points from the same quarter 1 year ago. The improvement is due to further efficiencies introduced within our professional services activities, combined with an improved margin [ profit ] on hardware-related sales.In terms of operating expenses, our first quarter operating costs were $60.9 million, a 14% increase from the prior year. While we have remained disciplined with overall spending, the year-over-year increase primarily reflects the timing and phasing of hiring activity and related costs as well as the timing and the magnitude of certain sales and marketing programs, enhancement of our compliance infrastructure and the impact of other onetime projects.We ended the quarter with 1,052 employees, which was generally consistent with our plans. Looking closer at hiring during the first quarter, more than half of the new talent we added was within our sales and marketing organization. Geographically, most of our first quarter 2024 new hires are added to support the growth of our business in the Americas and EMEA.Turning to Slide 12. The combination of higher revenue and disciplined spending produced another quarter of improved profitability. We reported Q1 adjusted EBITDA of $70.6 million or 20% on a margin basis versus 10% 1 year ago. Our Q1 non-GAAP operating income was $15.9 million with non-GAAP net income of $16.9 million or $0.08 on a fully diluted basis.We ended Q1 with $347.3 million in cash, cash equivalents and investments, up $15.5 million from the end of the fourth quarter. The increase for the quarter primarily reflected the strong fundamental performance of the business. Our first quarter 2024 free cash flow defined as cash flow provided by operations less capital expenditure and the purchase of intangible assets was $7.9 million.Now let's move to Slide 13 which details our financial expectations for the second quarter of 2024 and for the full year. Although it is still early in the year, we believe we are well positioned to achieve our full year target and have reaffirmed them. In terms of the second quarter expectation, I'd like to offer some additional color and context. Our expected Q2 ARR in the range of $342 million to $350 million represents growth of 25% to 28% and reflects the volume of business closed thus far into the quarter plus a range of deals in our near-term pipeline.We expect Q2 revenue in the range of $90 million to $94 million that translated into growth of 17% to 23%. We expect our Q2 gross margin to be at the midpoint to higher end of our full year 2024 gross margin target range of 82% to 84%. We anticipate our Q2 operating cost will increase by low to mid-single digits on a percentage basis over Q1 levels as we continue to fully absorb our first quarter hires and further expand our team during the second quarter. These expectations set the stage for Q2 adjusted EBITDA in the range of $16 million to $19 million.With approximately 52% of our revenue expected in the second half of the year, we still expect that the majority of adjusted EBITDA will be produced during this period as we manage our cost base with relatively [ marginal ] anticipated quarter-over-quarter expansion. This implies that we expect approximately 52% to 58% of our anticipated full year 2024 adjusted EBITDA to be generated in the second half of the year.In summary, Cellebrite delivered a solid first quarter performance. It has been gratifying to see our value proposition resonating in the marketplace. As we move forward [ we're ] well positioned to support our customers as they increase their spending on our solutions. By delivering the Cellebrite brand promise of Justice Accelerated and executing against our strategic priorities, we expect to remain on course to achieve our financial objectives this year.That concludes our prepared remarks. And now I'll turn the call back to the operator for Q&A.

[Operator]

[Operator Instructions] Our first question is coming from Shaul Eyal of TD Cowen.

[Shaul Eyal, analyst]

Congrats on 1Q results. We all see the business seems to be taking on all cylinders. I wanted to start by asking on the potential business upside you could be seeing from FedRAMP that you guys have announced earlier in March?

[Yossi Carmil, executive]

Shaul, first of all, thank you for that. Indeed, in mid-March 2024, we announced the launch of the process to authorize our SaaS offering with FedRAMP. Now FedRAMP is an important initiative, I would say, for us and in the context of potentially doubling our total addressable market, specifically in the federal market space in the United States and over the longer term, clearly, and opening, I would say, substantial opportunity over the coming years. Clearly, benefit of accessing additional buying centers within the already existing logo and secure higher budgets in 2025.The FedRAMP represents an area of significant investment during 2024. This is something which is important to emphasize, which, by the way, had been factored into our 2024 outlook. And the FedRAMP will initially apply to our Guardian platform and the infrastructure that supports the Guardian. But once the work is done, it will make it easier to deliver other cloud-enabled offering of our FedRAMP-certified platform.And maybe one thing that needs to be emphasized, important element, FedRAMP is an important element of a broader plan to expand the business with federal customers. And maybe in that context, just emphasizing that it will contribute clearly to value proposition, our C2C platform in the context of an end-to-end, and clearly, [ long broad runway ] for substantial ARR growth in the future.

[Shaul Eyal, analyst]

Understood. Maybe kind of you front run me on -- maybe double-clicking on the CTC, the case-to-closure platform that you've just mentioned. Maybe talk about the early adoption you might be seeing among the other public sector customers, anything you can add along these lines?

[Yossi Carmil, executive]

Yes, absolutely. Look, the C2C, the case-to-closure is clearly in a very early stage. We have -- and this is very encouraging news basically for any Cellebrite investor because with 5,300 public [ sector ] customers, the percentage of customers who have deployed, I would say, the combination of Inseyets, Guardian and Pathfinder as a total package is currently very small.Now I would say that we are very optimistic of our installed base of public sector customers and their ability to deploy multiple Cellebrite solutions within the C2C platform, especially as we more tightly integrate, and I spoke about it at the Investor Day, actually investing a lot in streamlining these solutions, not to mention the cloud enablement side-by-side with on-prem.Now we do believe that the cloud enablement -- by the way, is part of this -- cloud enablement of our solution will make it even easier for customers to adopt more solutions within the C2C platform, and we expect further progress on our product road map in that direction. I hope that covered your question.

[Shaul Eyal, analyst]

Absolutely. Loud and clear. I'll see the floor. I may come back later for additional questions.

[Operator]

Our next question is from Brad Zelnick of Deutsche Bank.

[Unknown Analyst]

This is [ Brett Bobin ] on for Brad, and congrats on the solid start to the year. Can you just elaborate a little bit more on Inseyets? And it's great to hear some of the early success that you're seeing there. But just can you give us more elaboration in terms of what drives your confidence that the majority of customers will upgrade over the next 3 years from [ UFED ] to Inseyets?And secondarily, how do we think about the monetization opportunity and the uplift that you might see as customers migrate?

[Yossi Carmil, executive]

Okay. Maybe I'll take it for a start. I'll take it. Look, our goal is to upgrade the vast majority of our installed base to Inseyets over the next 3 years. And 2024 goal, I would say, is to upgrade more than 10% of our installed base to Inseyets. I must say that -- I mentioned that by the way during my speech earlier that we launched it actually for the first time in this quarter in full, and I have to say, and I'm glad to say that the interest in Inseyets is high with very favorable feedback from early adopters.And this is, by the way, while we haven't announced any plans to [ sunset ] the legacy digital forensic solutions may be [ UFED ] or the premium. But it is obviously reasonable to expect that on a timely manner where we will [ sunset ], it will basically accelerate the process.The Inseyets maybe to deliver considerable more value than the legacy offering. And the higher value obviously enable us -- I would say, command and enable us higher price [ tag ] that is approximately 20% to 25% higher than the comparable legacy solutions. And we expect that the -- upgrading the vast majority of the installed base of Inseyets will be completed within the next 3 years.Maybe last word, there is also the enterprise, the private sector. And for the private sector, we also see a good traction as our next-generation solution to add the complex data collection requirements for the private sector customers and obviously for the service providers. So I'll stop here. Dana, I don't know if you want to add anything.

[Dana Gerner, executive]

No, I think you fully covered the question.

[Yossi Carmil, executive]

Is it?

[Unknown Analyst]

That was extremely helpful. And just one follow-up for me. Just on kind of some of the go-to-market changes that you're making and kind of broadening the coverage in the U.S. and EMEA, how should we think about the payback period on some of these investments given there are long sales cycles here? And then could there be any disruption as we think about just -- as you optimize sales operation, customer exteriors, et cetera?

[Dana Gerner, executive]

Maybe I'll start. Actually, we have a very solid model on return on investment of introducing the new quota carrier. So we have a clear internal KPIs that we take into consideration when we decide on increasing our quota carrier teams. I would say that a reasonable onboarding period for a quota carrier until we see a high level of return investment is around 6 months [indiscernible] may be shorter. So even with the longer sales cycles, we are seeing return on investments in [ manner ] of 2 to 3 quarters with our quota carriers.We did mention that we are reallocating OpEx to support the increased quota carriers, Americas, EMEA, mainly but also in APAC. But it is also from other activities that we are doing. And we can actually do it by introducing efficiencies into our systems, processes, compliance, integration and so forth. So we do not see or expect any, I would say, a shortfall in our ability to support the increased business.

[Operator]

Our next question is coming from Jonathan Ho of William Blair.

[Jonathan Ho, analyst]

Congrats on the strong quarter. I just wanted to understand just given your strong performance to start the year, why not raise the guidance for the full year? I'm just trying to understand if there's any deals that came in earlier than anticipated or if there was any movement between the quarters?

[Dana Gerner, executive]

So I think, first of all, we started the year by saying that we will start providing quarterly guidance. And this was to enhance our transparency and the ability for the investors and the analysts to have better insight on our plans and our performance. And I'm glad to say that we've done it last quarter and we are doing it this quarter in a very constant manner. We are off with a solid start, but we have considerably more work to do ahead of us, as Yossi mentioned in his prepared comments. And we believe it's a little bit premature to start changing our outlook at this stage of the year, although we are fairly confident with our guidance and our ability to execute.

[Operator]

Our next question is from Mike Cikos of Needham.

[Michael Cikos, analyst]

I apologize for any background noise. I wanted to come back to Yossi's prepared remarks, and I think one of my colleagues had asked about Inseyets and this conversion process or upgrade cycle that we're on the cusp of. Can you further elaborate on how Q1 played out with respect to how those conversion rates trended versus your internal plan as well as -- I know it's probably early here, but are you guys actually seeing that ASP uplift? I know we're talking about 20% to 25% is what we're expecting. But is that starting to bear out now that we have a full quarter under our belt here?

[Yossi Carmil, executive]

Well, I would say the following. As I said, I look at it long-term -- and I'll get to 2024 in a second. As I said, we want to, in a perspective of 3 years, to upgrade the vast majority of the installed base. And clearly, there are some factors that can influence that. For example, one of them, the exact percentage of anticipated conversion, can depend on the timing of already existing multi-year subscription and obviously, certain levels of churn.In Q1 2024, I think you were asking about that, there was a good initial progress. We are very satisfied to where we stand. I would say that -- and I think I mentioned that we are expecting an upgrade of more than 10%. So 10% plus basis target, I would say, is based on budget cycles. Many customers will build this into their 2025 and into their 2026 budgets. And clearly -- obviously, that has been factored to avoid any misunderstanding in our financial expectations.And we expect to see an upgrade activity build, I would say, during H2 of this year and basically to build the momentum for 2025.

[Dana Gerner, executive]

I would say that from the [ RPC ], we are seeing high teens increase in price, which is a great success considering the fact that those early adopters did not include this increase in their budgets. So their ability to introduce it in the first year and not wait for it for the second and third year, we find it very, very much encouraging.

[Operator]

Our next question is from Eric Martinuzzi of Lake Street.

[Eric Martinuzzi, analyst]

You've talked about gross margin range of 82% to 84%, yet you had the 85.7% non-GAAP gross margin in Q1. Was there anything to call out in Q1 that goes away, so to speak, in forward quarters?

[Dana Gerner, executive]

Yes. I think if you look at the gross margins related to subscription that we provide in the additional financial deck, it's around 7.5% of cost to subscription. With the further introduction of cloud-based and SaaS offering, we expect our cost around subscription to increase over time, especially around hosting and cloud operation. And further, the more we will -- of the installed base of Inseyets will be transitioned to -- from UFED to Inseyets, we will see a little bit more of also hardware sales to come with a very marginal gross profit. As such, this is why on the full year basis we are talking about 82% to 84%.

[Operator]

We'll take our next question from Brian Essex of JPMorgan.

[Brian Essex, analyst]

Maybe just a follow-up on Shaul's FedRAMP question. I would like to know how that's progressing so far? How long do you think it will take? And do you think you'd be able to complete the process fast enough to benefit from the 3Q federal spending cycle this year, or is that a longer-term issue more to benefit growth in the following years?

[Yossi Carmil, executive]

I would say that we expect, I would say, to finish the process, that initiative, in the first half of 2025 with audit to be ready by end of 2024. That means that we will be able -- the way -- and I have to say that we are standing very well right now. We published about the process that we do with our [ cold fire ] in order to build the site and the testing and the applicative part. And I can also say that we have a sponsor and even more than one is part of the process.Meaning that if all goes well, audit end of 2024, it means that we can embed that into discussions with customers about business in 2025 and finishing the process in the first half of 2025.

[Brian Essex, analyst]

Super helpful. And maybe just a follow-up. Yossi, in your prepared remarks, you talked about expanding exposure to the private sector. And particularly, you called out, I believe, a Fortune 200 waste management provider replacing incumbent solutions there. Maybe a little -- could you offer a little color in terms of what you replaced and how applicable this will be to other customers within the private sector?

[Yossi Carmil, executive]

Absolutely. First of all, maybe as a generic statement, private sector revenue and ARR performed, I would say, reasonably well in the beginning of the year. By the way, [indiscernible], it was last year. And over the past 6 months, and I mentioned one leadership position, we actually upgraded 2 positions Q4 '23, a new sales leader as part of the [ CRO ] organization and the new Head of Enterprise Solution in actually in the beginning of Q2 2024.So I have to say that we are optimistic that we will achieve our targets for the private sector revenue and here also 2024. And the -- maybe on top of that, the focus here -- and you're asking about the Fortune 250, that customer that I mentioned is part of the Fortune 250. We are clearly targeting to blue-chip enterprises and large and mid-size service providers. We are targeting to mainly the [indiscernible] industries where the element of eDiscovery and internal corporate investigations is critical and meaningful. So that's part of that effort. Again, major focus is to be what we are world champ in, advanced and remote advanced collection.On top of that, I'm glad to say that recently we also executed a strategic review of that entire segment with some clear vectors of progress into the near and midterm future that makes us also more confident. So I hope I gave enough view on that.

[Operator]

We'll take our next question from Jeff Van Rhee of Craig-Hallum.

[Jeff Van Rhee, analyst]

Yossi, just along the levels of kind of the high-level outlook in the second half embedded in the guide, how has your macro thinking evolved in the last 90 to 180 days?

[Yossi Carmil, executive]

Generally, about the -- I would say -- the macroenvironment, so the market?

[Jeff Van Rhee, analyst]

Yes.

[Yossi Carmil, executive]

Look, I'm glad to say that -- I'll split it. Obviously, the major focus is related to the public sector. And over there, I would say that everything that we had anticipated in terms of factors and drivers remain the same. The market is healthy. The drivers that we spoke, which are pushing our technology in the context of [ destructive ] technology is there, and the spending of our customers are anticipated to stay the way they are with even additional possibility of upside. That statement is valid, I would say, both for the state and local government and for the federal.In that context, by the way, maybe worth emphasizing that and talking about spending, we need to remember that in that relatively healthy environment, the spending on Cellebrite at the moment is really a fraction of what those customers spend. So we have pretty much, I would say, a secure ground to -- that what we are anticipating to developer to execute will be according to what we plan. I hope that helps.

[Jeff Van Rhee, analyst]

It does. Understood. And if I could, one other question on the new logo front. Understanding the opportunity just go into the base and upsell, but looking at the new logos, are there any lessons to be learned there in terms of the effectiveness of the C2C platform or Inseyets in terms of higher win rates, broader adoption at initial purchase? Any observations there?

[Yossi Carmil, executive]

As I said to the -- I would like basically to split my answer. The element we have in the public sector 5,300 agencies. Within those 5,300 agencies, there is a large amount of large, what we call strategic and mid, high, prime accounts. And over there, our -- and I mentioned that in my opening, there are many sub logo/new buying centers, untapped buying centers, untapped professional centers within that logo. So if I go back right now to the C2C, one good news, early stage. Second, the ability basically -- while streamlining it and while bringing more value between the 3 flagships, the Inseyets, collect and review on the front end, the access on the front end, the Pathfinder, AI-based analytics on the back end and the bridge with evidence management and case management and the streamline between them, enable us and will enable us more and more to penetrate in more sub-logo/profit centers/buying centers.The good news, we are in early stage. But I'm glad to see, I would say that if I look at our pipe, the amount or the cases, especially by the large and midsized customers that we see more than 1 or 2 solutions based on that combination is increasing dramatically, especially by the way, on the state and local government side.

[Operator]

We'll take our next question from Louis DiPalma of William Blair.

[Louie Dipalma, analyst]

It seems price is expected to be a significant driver of growth over the next 3 to 5 years. And are there 3 primary upgrades taking place for the installed base of 32,000 licenses? First, is there the Inseyets upgrade, and then the C2C upgrade for the end-to-end ecosystem, and then third, the on-premise upgrade to the cloud? And do all 3 of these upgrades involve higher pricing for the increased value that you're providing?

[Dana Gerner, executive]

I think that if we look at the long-term model, Louis, the main driver of our expansion in the coming years will be really linked to the increased digital data that our customer needs to process. So either you can call it a price increase because the Inseyets now can do double the work and much more efficiency, but -- and with much more efficiencies. So actually, we are setting more capacity with the same number of licenses in a reasonably higher price. Or you can actually look at the expansion that we are looking to do within the investigative unit with Pathfinder and the Guardian that I think we discussed in the past, we believe that this market can grow 35% to 50% year-over-year. So these are the main 2 drivers.The ongoing price increase of the same offering [ year-over-year ], I would say, baked into our model is around 4%. So this is not the main issue. And Inseyets is not a price increase. It's a different offering with a different value and a different tax price in our point of view. I hope this was helpful.

[Louie Dipalma, analyst]

Yes. And you reached a 20% EBITDA margin in the first quarter, which is typically done at your lowest margin quarter. Is this 20% margin sustainable going forward even with the increased headcount and investments? And should margins be like smoother on a quarter-to-quarter basis going forward than they have been in the past?

[Dana Gerner, executive]

We believe that throughout the years we will see smoother margins quarter-to-quarter because with the transition to subscription, we'll see also smoother revenue increase which will be aligned with the marginal increase in OpEx quarter-over-quarter. Our model speaks about 20% plus EBITDA in the mid-term. We are very, very satisfied with Q1, but Q1 was not fully representing our OpEx trends for the full year in a nutshell.

[Operator]

[Operator Instructions] We'll take a question from Tomer Zilberman of Bank of America.

[Tomer Zilberman, analyst]

Maybe just one quick one to touch up on an earlier question. Can you just talk about how much visibility you have into demand for the remainder of the year? Less on expectations for the guidance, but how much visibility can you see?

[Dana Gerner, executive]

So when we look in the opportunity management process that we have in the company, we have a great visibility into the coming 2 quarters, so Q2 and Q3 and I would say, which make us very confident in our ability to deliver the full year debt in a nutshell.

[Operator]

We do have a follow-up question from Mike Cikos of Needham.

[Michael Cikos, analyst]

I do just want to follow up. I know about how you expect an acceleration in upgrade activity in the back half of this year into calendar '25, which makes sense intuitively as customers are building in additional budget. But I just wanted to get a better sense, when we think about the guidance that you have constructed today, is that acceleration embedded in the guide? Or is that seen as more of a potential upside catalyst?

[Dana Gerner, executive]

The 10% plus is embedded in our plans for the year. The budget for next year, where we will see the opportunities start to build this year, most of them will be realized in '25.

[Michael Cikos, analyst]

Okay. And with the -- I know Marcus, your new Chief Revenue Officer, did a great job at the Investor Day in March, but just imagine that he's been charged with helping in some way accelerate ability to build that budget, right, to help your conversions. Is that where we should think about driving towards when you look at the hires and the go-to-market effort around whether it's pre-sales or instituting some of these different sales operations that you guys have? Is that a fair characterization, or is there anything else that we're missing there?

[Yossi Carmil, executive]

Mike, I'm not sure that I understand the question, but at least I'll try. First of all, I would agree completely with the statement that Marcus has done and is doing and will do a great job. But putting that aside, the focus is on -- functionality-wise, the focus is on a strong mix between quota carriers and post-sale customer success, which are the 2 major direction and vectors where we are going to invest the money. And in generally, there is a potential for acceleration.

[Michael Cikos, analyst]

I guess -- I'm sorry to be mixed up on the question here. I guess, is there a way for Cellebrite to help customers accelerate their internal process, to help get that budget sooner for this upgrade? Are you able to do anything on that front to help them get additional funding for Cellebrite? I'm hoping that question makes sense.

[Yossi Carmil, executive]

Okay. It makes sense, and it -- and there are possibilities in that direction. There are cases that -- there are special grants, which are being created by customers. End of last year, by the way, we hired, for the first time, people in the area of grant management, which are doing exactly that. And that enables us to support them to create those extra grants and create additional budget opportunities.

[Operator]

This concludes the question-and-answer portion of today's call. I would now like to turn the floor over to Cellebrite's CEO, Yossi Carmil, for additional or closing remarks.

[Yossi Carmil, executive]

I would like to thank you again, all, for participating. Thank you also for the interest and the trust in Cellebrite. And above all, I would like to thank my colleagues, the Cellebrite employees for performing [indiscernible] Q1 and well done, and good luck to us for the rest of the year. Thank you.

[Operator]

Thank you. This concludes today's Cellebrite First Quarter 2024 Financial Results Conference Call. Please disconnect your line at this time, and have a wonderful day.