Donnelley Financial Solutions Inc
NYSE:DFIN
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Donnelley Financial Solutions Inc
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Thank you for standing by. My name is Kayla Baker, and I will be your conference operator today. At this time, I would like to welcome everyone to the Donnelley Financial Solutions First Quarter 2023 Earnings Conference Call. [Operator Instructions]. I would now like to turn the call over to Head of Investor Relations, Mike Zhao. You may begin.
Thank you. Good morning, everyone, and thank you for joining Donnelley Financial Solutions First Quarter 2023 Results Conference Call. This morning, we released our earnings report, including a supplemental trending schedule of historical results, copies of which can be found on the Investors section of our website at dfinsolutions.com.
During this call, we'll refer to forward-looking statements that are subject to risks and uncertainties. For a complete discussion, please refer to the cautionary statements included in our earnings release. In further details in our most recent annual report on Form 10-K, quarterly report on Form 10-Q and other filings with the SEC.
Further, we will discuss certain non-GAAP financial information, such as adjusted EBITDA, adjusted EBITDA margin and organic net sales change. We believe the presentation of non-GAAP financial information provides you with useful supplementary information concerning the company's ongoing operations and is an appropriate way for you to evaluate the company's performance. They are, however, provided for informational purposes only. Please refer to the earnings release and related tables for GAAP financial information and reconciliations of GAAP to non-GAAP financial information.
I'm joined this morning by Dan Leib, Dave Gardella, Craig Clay, Eric Johnson, Floyd Strimling and Kami Turner. I will now turn the call over to Dan.
Thank you, Mike, and good morning, everyone. We delivered strong consolidated first quarter results given the economic backdrop with net sales of $198.6 million, non-GAAP adjusted EBITDA of $42.4 million and non-GAAP adjusted EBITDA margin of 21.3%. Our first quarter performance again delivered a higher level of profitability compared to historical quarters with similar overall and transactional revenues. Another proof point that the execution of our strategy has resulted in DFIN becoming more durable and structurally resilient as we continue to invest to shift toward a more favorable recurring sales mix while continuing to aggressively manage our cost structure and being disciplined stewards of capital. As I mentioned, our first quarter performance was in the context of a very challenging operating environment.
As capital markets transactional activity continued to be severely impacted by the combination of macroeconomic headwinds and market volatility. For context, the level of IPO transactions during the first quarter remained at record low levels down approximately 95% from the peak reached in the first quarter of 2021, while M&A activity also remained far below historical levels. Combined, these headwinds resulted in the lowest level of quarterly capital markets transactional revenue since our company's inception in 2016, a level which is down approximately 20% from the first quarter of 2022 and down approximately 55% from the first quarter of 2021. I am pleased that during the prolonged downturn in capital markets transactional activity, our business has proven to be resilient and substantially more profitable.
Specifically, our first quarter 2023 adjusted EBITDA margin of 21.3% is 1100 basis points and 770 basis points higher than the first quarters of 2019 and 2020, respectively, both of which had higher levels of both overall sales and transactional sales. Our performance reflects our evolving sales mix, permanent changes to our cost structure and continued cost discipline and further demonstrates our ability to sustainably operate at a higher level of profitability across a range of market conditions. Dave will cover the first quarter results in more detail shortly. A key factor behind our margin performance has been the progress we have made toward creating a cost structure and operating model that better aligns with our business mix, part of which is driven by cyclical market factors. Over the last several years to establish an optimized and variable cost structure in areas of the business that have both seasonal and cyclical fluctuations, we took aggressive cost actions that targeted many aspects of our fixed cost base with focus on downsizing our print production platform, driving internal efficiencies and reducing our physical footprint.
During the first quarter, we took additional cost reduction actions to better align our cost structure with our current level of sales, part of which is subject to the uncertain outlook for capital markets transactions. These measures, in combination with our previous cost reduction efforts permanently reduce fixed costs, simplify our operations and further improve DFIN's resiliency across various market conditions. As we continue to gain efficiencies across our operations, we also remain focused on reinvesting in areas of our business to accelerate our transformation into a digital-first company. In the first quarter, consistent with our plan, we made incremental investments in both our software offerings and associated business processes to support continued modernization, innovation and growth. These investments reflected in both operating expense and capital expenditures, will help to profitably scale existing products, increase our velocity to market and enhance client experience.
As we have discussed in the past, we are creating a unified compliance platform, an ecosystem that benefits DFIN's compliance solutions for corporations, mutual funds, exchange-traded funds and regulated insurance companies. Specifically, our platform integrates capabilities across our market-leading regulatory and compliance software solutions, ActiveDisclosure and Arc Suite, to combine foundational capabilities across composition, tagging, filing and regulatory and financial reporting into a single solution while maintaining client segment unique capabilities. This platform in conjunction with our deep domain service expertise allows us to address clients' evolving regulatory and compliance needs under current and future regulations. Our investments have enabled us to increase development velocity and efficiency with the most modern technology and security protocols employed.
Specific to our first quarter performance, I am encouraged with the positive momentum in our software offerings, where we delivered year-over-year net sales growth of nearly 4% on an organic basis despite a slight decline in our largest software operating venue. Software Solutions net sales represented 35.3% of total net sales in the first quarter, an increase of approximately 220 basis points from last year's software sales mix. On a trailing 4-quarter basis, Software Solutions net sales made up approximately 34% of total net sales, an increase of approximately 500 basis points from the first quarter 2022 trailing four quarter period.
This continued positive mix shift toward recurring offerings is a reflection of our progress in transforming DFIN and positions us well to achieve our long-term target of deriving 55% to 60% of total net sales from software solutions by 2026. A major driver of the first quarter software growth was the performance of our recurring compliance and regulatory-driven software products, which include ActiveDisclosure and Arc suite. Net sales for these recurring compliance software offerings grew approximately 5% on an organic basis versus the first quarter of last year and accounted for nearly 65% of total first quarter Software Solutions net sales.
The growth in our recurring compliance software offerings is led by Arc Suite, which delivered first quarter net sales growth of 6.4% growth on an organic basis. In the first quarter, Arc Suite net sales reached $26.4 million, which was a quarterly record, driven by continued client adoption. In addition, I'm encouraged by the solid growth in subscription revenue. During the first quarter, Arc Suite's net sales growth was below historical levels as a result of a more normalized demand for ArcDigital, our total compliance management solution following its initial adoption, which benefited growth in 2021 and part of 2022. In addition, a shift in the implementation timeline of certain funds coming on to the Arc Suite platform delayed the realization of a portion of revenue in the first quarter. With a robust implementation pipeline, combined with overlapping of the ramp-up of total compliance management, we expect higher growth in the quarters ahead. Arc Suite possesses the characteristics of a best-in-class enterprise software offering with a high component of recurring subscription revenue, which makes up nearly 90% of total revenue, as well as long-term contracts with average contract length in excess of 3 years.
As an end-to-end software solution for an investment company, financial and regulatory reporting, Arc Suite is well positioned to capture additional demand from current use cases as well as from new regulations such as tailored shareholder reports. Net sales for ActiveDisclosure are purpose-built solution for SEC reporting, grew approximately 6% in the first quarter, while ActiveDisclosure's recurring subscription revenue grew approximately 5%. As expected, the recurring subscription revenue growth for ActiveDisclosure was depressed in the first quarter as we finalize the transition of the remaining customers from AD3 to new AD. We remain on track to decommission legacy AD3 in the second quarter which will allow us to shed the duplicative costs associated with operating 2 platforms. We expect stronger growth levels returning in the second half of 2023.
Turning to our transactional-driven software venue. Consistent with what we saw throughout 2022, within the context of a very weak capital markets transactional environment, Venue continued to perform significantly better than its primary use case, M&A. With the global M&A market down nearly 30% year-over-year in the first quarter, Venue net sales were down less than 1%. We are encouraged by the level of underlying activity taking place on our virtual data room platform. which is a reflection of strong sales execution.
Before turning the call over to Dave, let me provide an update on the dynamic regulatory landscape. As highlighted previously, we are in the midst of a very active period of SEC rulemaking that impacts many aspects of regulatory compliance, including disclosures, filing and the expansion of iXBRL tagging. On last quarter's call, we mentioned 3 regulatory changes, tailored shareholder reports, Financial Data Transparency Act and the Pay Versus Performance disclosure.
Let me touch on each one in more detail and discuss how deep in assist our clients to comply with these regulations. The first regulatory change I would like to highlight, which is already effective is the Pay Versus Performance disclosure. This SEC rule, which was adopted in September of last year with an effective date of December of 2022 requires public companies to disclose annually the relationship between executive compensation actually paid to the company's named executive officers and the company's financial performance. With 2023 marking year 1 of this new rule, DFIN has been actively assisting our clients during this year's proxy cycle with our industry-leading regulatory solutions to help them comply with this mandate. Pay Versus Performance is an example of a regulation that requires additional disclosures and advice and service from DFIN, but is not a material change to client compliance requirements. As such, we expect the value from this rule to be primarily from additional disclosure and associated data tagging.
We saw some benefits from this regulation in the first quarter and expect additional benefits in the second quarter, which is the peak for proxies. As the Pay Versus Performance disclosure is an annual requirement, we expect to see recurring revenue benefit in the years going forward. A much larger regulatory change is tailored shareholder reports, a comprehensive rule that has broad impacts on the regulatory and compliance requirements for mutual funds and exchange-traded funds, tailored shareholder reports as a compliance date of July 2024. The rule is defined by 3 main elements. First is the disclosure at a share class level versus fund level, with multiple share classes per fund on average, the industry as a whole is expected to produce significantly more documents on an annual basis.
Next, this rule introduces iXBRL tagging. For the first time, the investment company industry will be required to tag shareholder reports in iXBRL twice per year, which reinforces the SEC's trend towards structured data. Finally, tailored shareholder report expands compliance requirements, including layer disclosure, web hosting and ADA compliance. All of these changes will be supplemented by updated distribution requirements, including e-delivery and print, which present significant operational changes to the industry, being the only true end-to-end provider of regulatory and compliance solutions for investment companies, offering financial close, stylized documents, iXBRL tagging, assembly and filing and distribution of regulatory filings, DFIN is uniquely positioned to leverage our technology leadership, service expertise and production capabilities to help our clients successfully operationalize a straight-through process for the requirements under tailored shareholder reports.
Furthermore, by leveraging our investments in platform services across DFIN, we are well positioned to service our investment company clients, providing thought leadership and guidance to educate our clients and ensure compliance with confidence. I'm pleased with the progress we have made in our tailored shareholder report solution thus far. The final regulation that has the potential to profoundly impact the regulatory and compliance landscape is the Financial Data Transparency Act legislation. For more than a decade, DFIN has actively supported the FDTA legislation, which was signed into law in December 2022. The legislation mandates that 8 major U.S. financial regulatory and supervisory agencies, including the SEC, Federal Reserve and the FDIC create uniform data standards for the data they collect from regulated entities. The FDTA impacts every organization involved in preparing, providing and using financial data including financial institutions, agencies and technology contractors, while implementation plans for FDTA will last several years, DFIN is proud to be a leader at preparing the impacted stakeholders for FDTA readiness.
Earlier in April, DFIN was the title sponsor of the Data Foundation's RegTech 2023 Data Summit where DFIN experts, along with representatives from the Data Foundation in the SEC explore data modernization under the FDTA. A key takeaway from the discussions was that the successful implementation of FDTA will rely on innovative regulatory technology to ease the burden of compliance. Our compliance software capabilities, coupled with deep domain and service expertise position DFIN well to help clients access, understand and utilize data to meet regulatory compliance requirements in the adoption and operationalization of FDTA. In addition, the SEC is expected to issue new rules requiring companies to disclose certain climate-related information, ranging from greenhouse gas emissions to expected climate risks. Yesterday, we issued a press release announcing DFIN and Salesforce are working together to offer a best-in-class end-to-end solution, enabling clients to capture and track ESG data in Salesforce's Net Zero cloud before seamlessly reporting that data to the SEC using ActiveDisclosure, DFIN's financial reporting solution.
In addition, with the help of Accenture, we are implementing net-zero cloud to track the carbon footprint of our global operations. DFIN's carbon data is now integrated into ActiveDisclosure where it is automatically routed through guided workflows, sign-offs, tasks and style content libraries to be ready for filing to meet SEC requirements. Our collaboration with Salesforce and Accenture is another example of how DFIN clients can work faster, smarter and more securely to meet financial reporting requirements and regulatory mandates.
These recent examples of regulatory changes highlight DFIN's market opportunity in compliance solutions, leveraging our end-to-end solutions to drive increased adoption of Software Solutions as well as higher consumption of tech-enabled services across our capital markets and investment companies businesses. DFIN provides our clients with the best guidance and solutions to help navigate the ever-changing compliance environment for current and new SEC regulations. Each of these new regulations will leverage our single compliance platform, coupled with client segment unique capabilities. Given the implementation dates of these regulations, specifically tailored shareholder reports and FDTA, that span into next year and beyond, we expect to see revenue benefits starting in 2024 with more substantial benefits in 2025 onwards. Before I share a few closing remarks, I would like to turn the call over to Dave to provide more details on our first quarter results and our outlook for the second quarter. Dave?
Thank you, Dan, and good morning, everyone. Before I discuss our first quarter financial performance, I'd like to recap a few housekeeping items, which impacted our year-over-year comparability in the quarter. First, as noted in our earnings release, during the first quarter, we sold our investment in Mediant. DFIN received proceeds of $11.8 million from the sale, including $8.9 million of cash and common stock of the acquirer. The sale resulted in a pretax gain of $6.7 million, which is recorded within corporate on the investment and other income line of our income statement. Second, as discussed on last quarter's earnings call, we completed the disposition of our EdgarOnline software offering in the fourth quarter of 2022. For the full year 2023, the disposition negatively impacts the year-over-year total net sales comparison by approximately $5 million, with the vast majority of the impact affecting the first 3 quarters of this year.
The impact on our gross profit and non-GAAP adjusted EBITDA comparisons is de minimis. For purposes of segment level year-over-year net sales change discussions, I will refer to the organic net sales change, which adjusts for the impacts of the EdgarOnline disposition as well as changes in foreign exchange rates. A reconciliation of reported to organic net sales change is included in our earnings release. Finally, certain technology expenses that were included in cost of sales in 2022 are recorded within SG&A in 2023.
As a result, compared to the first quarter of 2022, there was a $2.6 million reduction to cost of sales and a corresponding $2.6 million increase in SG&A with no impact to the year-over-year comparability in non-GAAP adjusted EBITDA or consolidated net earnings. This change positively impacts year-over-year gross margin comparability by approximately 130 basis points and negatively impacted non-GAAP SG&A as a percentage of sales by approximately 130 basis points. We expect a similarly sized dollar comparability impact on cost of sales and SG&A for each of the 3 remaining quarters of 2023.
Now turning to our first quarter results. As Dan noted, we delivered strong results in the quarter despite the prolonged downturn in the capital markets transactional environment that continues to negatively impact our transactionally-driven offerings. The volume of capital markets deal activity remained substantially below last year's levels as the market softness we experienced throughout 2022 continued into the first quarter of 2023. Given the weak demand environment for corporate transactions, consistent with our historical approach of aggressively managing our cost structure, we took additional cost reduction actions in the first quarter, while at the same time, continued to invest in initiatives that accelerate our transformation.
Our first quarter operating results included approximately $5 million of incremental investments related to these initiatives with approximately $4 million in additional product and technology investments to accelerate the development of our software solutions and the remaining $1 million aimed toward the modernization of certain business processes in order to improve operating efficiencies.
In total, these additional costs impacted our first quarter adjusted EBITDA margin by approximately 250 basis points. As mentioned previously, these incremental investments, which we expect to continue for the rest of 2023 as part of our investment plan, do not represent a permanent increase to our cost structure. We expect to realize the benefits of these initiatives beginning late this year. On a consolidated basis, total net sales for the first quarter of 2023 were $198.6 million, a decrease of $12.4 million or 5.9% on a reported basis and 4.4% on an organic basis from the first quarter of 2022.
Given the very weak transactional environment, substantially all of the year-over-year net sales decline took place in the capital markets transactional business, which was down $10.4 million or 20.2% versus the first quarter of last year. First quarter non-GAAP gross margin was 54.5%, approximately 140 basis points higher than the first quarter of 2022, primarily driven by the impact of cost savings initiatives, price benefits and the impact of changes between cost of sales and SG&A that I just mentioned, partially offset by lower capital markets transactional activity.
Adjusted non-GAAP SG&A expense in the quarter was $66.3 million, a $5.3 million increase from the first quarter of 2022. As a percentage of net sales, adjusted non-GAAP SG&A was 33.4%, an increase of approximately 450 basis points from the first quarter of 2022. The increase in adjusted non-GAAP SG&A is primarily driven by the impact of changes between cost of sales and SG&A, incremental, transformation-related investments and higher bad debt expense, partially offset by a reduction in selling expenses as a result of lower sales volume and the impact of cost control initiatives. Our first quarter adjusted EBITDA was $42.4 million, a decrease of $8.7 million or 17% from the first quarter of 2022. First quarter adjusted EBITDA margin was 21.3%, a decrease of approximately 290 basis points from the first quarter of 2022, primarily driven by lower capital markets transactional sales and incremental investments in support of our strategic transformation, partially offset by the impact of cost control initiatives, price uplifts and lower selling expenses as a result of lower sales volume.
Turning now to our first quarter segment results. Net sales in our Capital Markets Software Solutions segment were $43.7 million, an increase of 2.3% on an organic basis from the first quarter of last year. The net sales growth in this segment was led by our recurring compliance product, ActiveDisclosure, which grew approximately 6% in the quarter, with recurring subscription revenue growth of approximately 5%. As Dan commented earlier, we are nearing the end of our client transition from AD3 to new AD, a process for which we expected and realized a temporarily elevated customer churn rate. combined with the impact of SPAC liquidations, normal customer churn and the ongoing weakness in IPO activity, we saw a modest decline in the number of customers on the platform during the quarter. The reduction customer count, which resulted in a slowdown in subscription revenue growth, was more than offset by price increases on conversions, new customer wins and increase in service revenue. We expect this lower ActiveDisclosure subscription revenue growth to continue in the second quarter and then improve in the second half of the year as we complete the platform transition by the end of the second quarter.
Net sales of our virtual data room offering Venue were down $0.2 million or 0.9% compared to the first quarter of last year despite a steep decline in M&A volume. Similar to what we experienced throughout 2022, Venue performed better than the market trend of its primary use case M&A during the first quarter. With the global M&A market down nearly 30%, on a year-over-year basis in the first quarter, we continue to be encouraged by the resiliency of Venue sales. Adjusted EBITDA margin for the segment was 16.9%, a decrease of approximately 550 basis points from the first quarter of 2022, primarily due to an unfavorable sales mix, an increased allocation of overhead costs and incremental investments in technology development, partially offset by price uplifts from new AD and cost control initiatives.
Net sales in our Capital Markets, Compliance & Communications Management segment were $94.1 million, a decrease of 8.4% on an organic basis from the first quarter of 2022, driven by lower capital markets transactional activity, partially offset by a modest year-over-year growth in compliance revenue as a result of event-driven compliance volume in the quarter and favorable timing shifts. In a continuation of the prolonged downturn in capital markets transactional environment, the demand for equity transactions remained very low in the first quarter. As the quarter progressed, turmoil throughout the financial sector further escalated market volatility. Combined with the impact of persistent macroeconomic headwinds, elevated interest rates and geopolitical uncertainty, first quarter capital markets transactional sales were lower, both on a sequential as well as a year-over-year basis. In particular, the IPO market remained very sluggish during the first quarter with only 8 priced IPOs over $100 million taking place on U.S. exchanges compared to over 50 priced IPOs in the first quarter of 2022.
The M&A market, while more resilient than the IPO market slowed sequentially from the fourth quarter of 2022 and was down nearly 30% versus last year's first quarter. The decline in capital markets transactional revenue is partially offset by our capital markets compliance offering, which grew approximately 2% year-over-year driven largely by an event-driven compliance project and favorable timing shifts relative to last year's first quarter. As a reminder, Capital Markets Compliance sales are seasonal with first and second quarters generating the highest levels of sales during the year driven by the peak in 10-K and proxy filings during those periods.
Additionally, while our Capital Markets compliance offering, which supports our corporate clients with their ongoing compliance need, is mostly recurring in nature, there is a moderate component of event-driven revenue from filings such as transactional 8-Ks and special proxies, which are nonrecurring and can fluctuate from period to period. Further, the recent trend of increased SPAC liquidations creates a headwind on the number of public companies and the associated demand for compliance services. Adjusted EBITDA margin for the segment was 28.6%, a decrease of approximately 100 basis points from the first quarter of 2022. The decrease in adjusted EBITDA margin was primarily due to lower transactional sales, partially offset by cost control initiatives of lower overhead costs and lower selling expenses as a result of lower sales volume.
Net sales in our Investment Companies Software Solutions segment were $26.4 million an increase of 6.4% on an organic basis versus the first quarter of 2022, largely driven by growth in subscriptions. As we've highlighted in the past, Arc Suite net sales growth benefited from the adoption of ArcDigital, our total compliance management offering, which was introduced in 2021 in response to regulatory change. We saw a strong adoption of total compliance management throughout 2021 and into the first quarter of 2022, which impacted the year-over-year growth in the first quarter of 2023. with demand more normalized following the onetime adoption, we expect a more modest growth related to this offering going forward.
Based on Dan's earlier comments, we are optimistic about the opportunities created by regulations such as tailored shareholder reports and believe Arc Suite is well positioned to capture additional demand from new regulations to further accelerate a recurring software revenue growth. Adjusted EBITDA margin for the segment was 31.1%, a decrease of approximately 560 basis points from the first quarter of 2022. The decrease in adjusted EBITDA margin was primarily due to higher product development and technology investments in support of growth opportunities such as tailored shareholder reports and increased overhead costs, partially offset by cost savings initiatives and favorable price impacts.
Net sales in our Investment Companies Compliance & Communications Management segment were $34.4 million, a decrease of 8.5% from the first quarter of 2022, driven primarily by the exit of low-margin work, partially offset by higher service fees and price uplifts. Adjusted EBITDA margin for the segment was 27.3%, approximately 180 basis points higher than the first quarter of 2022. The increase in adjusted EBITDA margin was primarily due to a favorable sales mix, featuring more services and less print, the impact of cost savings initiatives and price uplifts partially offset by higher overhead costs.
Non-GAAP unallocated corporate expenses were $9.5 million in the quarter, an increase of $1.1 million from the first quarter of 2022, primarily driven by an increase in expenses aimed at accelerating our transformation, partially offset by the impact of ongoing cost control initiatives. Free cash flow in the quarter was negative $62.1 million, flat to the first quarter of 2022 as the decline in adjusted EBITDA, unfavorable working capital changes and higher interest payments were offset by lower incentive-based and sales commission payments made in the first quarter of this year versus payments made in the first quarter of 2022 related to our 2021 performance. We ended the quarter with $234.8 million of total debt and $206 million of non-GAAP net debt, including $110.5 million drawn on our revolver. From a liquidity perspective, we had access to the remaining $189.5 million of our revolver as well as $28.8 million of cash on hand. As of March 31, 2023, our non-GAAP net leverage ratio was 1.0x. As a reminder, our cash flow is historically seasonal. We are user of cash in the first quarter, closer to breakeven in the second quarter and generate more than 100% of our free cash flow in the second half of the year. As our sales mix continues to evolve to proportionately more subscription-based sales, we expect the seasonality to continue to become less significant. Regarding capital deployment, we repurchased approximately 34,000 shares of common stock during the quarter for $1.3 million at an average price of $38.82 per share.
As of March 31, 2023, and we had $123 million remaining on our $150 million stock repurchase authorization. Given the current high interest rate environment and our floating rate debt, we assigned a higher priority to debt management which resulted in lower share repurchases. Going forward, we will continue to take a balanced approach towards capital deployment.
We continue to view organic investments to drive our transformation, share repurchases and net debt reduction each as key components of our capital deployment strategy and will remain disciplined in this area. As it relates to our outlook for the second quarter of 2023, while we expect the overall macroeconomic environment to remain challenging, we are encouraged with a modest pickup in the transactional activity so far in the second quarter.
Through April, priced IPO showed slight improvement from the first quarter, large M&A transactions, while still below last year's level, improved sequentially as well. While we are encouraged by the pickup in activity to start the quarter, we remain cautious as the pace of transactional activity can change very quickly. In addition, consistent with our priorities for 2023, we will continue to execute our investment plan in the second quarter with additional operating expenses directed toward accelerating our transformation. We expect a similar level of incremental investment during the second quarter compared to the level from the first quarter.
With that as the backdrop, we expect consolidated second quarter sales in the range of $220 million to $240 million and non-GAAP adjusted EBITDA margin in the mid-20% range. Compared to the second quarter last year, the midpoint of our revenue guidance, $230 million implies a year-over-year net sales decline of approximately 14%, primarily as a result of lower transactional activity. From a margin perspective, our guidance of mid-20% range, contemplates a lower level of transactional revenue compared to the second quarter of 2022 as well as the incremental investments, which I described earlier. We expect our second quarter non-GAAP adjusted EBITDA margin to be once again much stronger than historical quarters of like-sized total and transactional sales.
Let me also provide a bit more color on our assumptions for Capital Markets, Compliance & Communications Management segment. At the midpoint of our sales range, we assume a modest increase in second quarter transactional sales compared to the level we reported in the first quarter this year, reflecting the higher level of activity we've experienced so far this quarter. As it relates to compliance based sales within the segment, in line with normal seasonality, we expect the second quarter to be the largest sales quarter of the year. We also expect second quarter compliance sales to decline modestly compared to a very strong second quarter of 2022. Second quarter 2023 compliance sales will be impacted by the combination of certain compliance volumes shifting from the second quarter into the first quarter as well as a decline in compliance revenue from SPACs which benefited the second quarter of 2022, and many of those entities have since liquidated. These declines are expected to be partially offset by strong proxy activity, part of which is driven by the new Pay Versus Performance disclosure. With that, I'll pass it back to Dan.
Thanks, Dave. Our strong performance in the first quarter was the result of the disciplined execution of our strategy and again demonstrated DFIN's ability to perform well in challenging market conditions. While it is difficult to predict the end to the current softness in the capital markets transactional environment, our solid financial profile provides us with the foundation to continue to execute our strategic transformation. Our focus remains on accelerating our business mix shift by continuing to grow our recurring SaaS revenue base, while maintaining share in our core traditional businesses. We will continue to invest in our Compliance Software platform to capitalize on regulatory tailwinds. In addition, we will continue to aggressively manage our costs and drive operational efficiencies while maintaining our historical discipline in the allocation of capital.
Before we open it up for Q&A, I'd like to thank the DFIN employees around the world who have been working tirelessly to ensure our clients continue to receive the highest quality solutions. Now with that, operator, we're ready for questions.
[Operator Instructions]. Your first question comes from the line of Charles Strauzer with CJS Securities.
Given the better-than-expected results in Q1, can you talk about maybe give us a little bit more color on what some of the drivers were through those pretty strong headwinds.
Yes, Charlie, thanks for the question. This is Dave. I think when we looked at what our guidance contemplated for Q1. As we mentioned on the last call, the quarter started out slow. We did see a better month of March, specifically in transactional revenue. And as we noted on the -- in our prepared remarks that so far in Q2, we're seeing a relatively stronger transactional environment than the first 2 months of the year. Certainly, in the grand scheme of things, the market is still soft, but I think signs of life in the transactional market, certainly helped Q1. As we said, we're expecting a modest increase in transactional revenue in the second quarter relative to what we had in the first quarter here. And as we said in the past, hard to predict exactly how that's going to play out, but certainly seeing some positive signs here.
Great. And then just picking up on the Q2 guidance, just a little bit more on what you're implying behind the assumptions in your guidance there.
Yes. Again, so -- Charlie, I'll comment on a couple of pieces and then if you want to follow up with another question, that's great. So as I mentioned, modest increase in transactional relative to Q1. I think when we look at -- we talked about some of the things impacting the traditional compliance revenue within capital markets. We had some timing shifts this quarter. And with some of the SPACs liquidating on a year-over-year basis, we're going to have a modest -- or expecting a modest decline in Q2 here. I think when you look at some of the software offerings, right, we talked about ActiveDisclosure and the increased customer churn in the first half of the year as we shut down AD3 and by the end of the second quarter and we'll be -- have the clients -- all the clients left will be on the new platform. And so we would expect that going forward in the back half of the year that we'll start to see a pickup in ActiveDisclosure and then pretty similar story when you look at Arc, we're overlapping some tougher comps in the first part of the year with the adoption of total compliance management throughout '21 and into '22 and would expect that growth rate on the software to start to pick up in the back half of the year.
Great. That's very helpful. And just my question was just thoughts on full year and especially specifically on free cash flow, what your expectations are there, given the increased spend on the transformation.
Yes, we haven't given full year guidance. And I think for us, and as you know, the biggest variable will end up being what the transactional volume looks like. And so we're reluctant to give a full year number just because that can have pretty significant swings. Like I said, I think we're encouraged by what we've seen in the last 2 months here, kind of trending the right direction. That said, we've also I think has taken a prudent approach on the cost structure. We talked about the cost actions we've taken here again in Q1, and those will impact the rest of the year. from a transformation perspective, we said about $5 million in the quarter, and those are certainly not permanent costs. We would expect to start to see some benefits and that cost tail off in the last part of the year.
Your next question comes from the line of Peter Heckmann with D.A. Davidson.
This is Brett Thompson on for Pete. I just had a quick question following up on the tailored shareholder reports opportunity. Can you better quantify the potential benefit for the Investment Management segment, all right. And thank you for some color on the new regulations. Would we be in the ballpark to estimate $10 million to $30 million range of opportunity on a full year basis?
Yes. So let me kick off, and then I'll see if Eric wants to add anything. So the regulations have been put out. We're really excited, as we mentioned, the great fit for our platform from software to service to output. That said, we are in initial discussions with clients and the move from a fund level to a share class level really increases the number of units that this will be applicable for. So we'd be looking towards later in the year, likely our November call when we would do a greater quantification. And just to remind you that the regulation kicks in, in mid-2024 for compliance. So many will adopt earlier and be ready to go, and all will be ready to go in the first half of '24. So we'd expect roughly a half year, maybe a little bit more of impact in '24 and then full impact in '25 relative to shareholder reports. And Eric, I don't know if there's anything you want to add?
Yes, sure. Thanks, Dan. Yes, Brett, in addition to what Dan had described around the fund level, moving to share class level reporting, we see in talking with some of our clients, the impact will be 3 to 5x the number of reports they produced today. From a filing perspective, in addition to the NCSRs that they filed today, one of the bigger change in all this is the filing requirements are going to expand to include iXBRL for each TSR. So meaning, overall, much more EDGAR complexity and significant filing sizes due to the share class level disclosure in iXBRL tagging. And as Dan mentioned in his opening remarks, downstream impacts are significant as well. We're talking about linking and layering or layer disclosure, as Dan referred to earlier. These requirements require linking the share class level reports to the base reports. And also there's web hosting and ADA compliance as well as distribution requirements. So there's significant change in the workflow, significant change in the industry. And I think the takeaway for us is, it's important to note that while this is new for our financial reporting clients, DFIN provides all these requirements today.
So there's nothing really new from a DFIN perspective. We're bringing our domain expertise and experience together to help our clients meet the complex regulatory reporting requirements for tailored share reports, and we'll be going through that process all year as we're bringing our clients onboard. Dan, back to you.
[Operator Instructions]. And your next question comes from Raj Sharma with B. Riley.
So I wanted to kind of delve a little bit into the software side of -- so specifically to begin with the Venue sales. What is really driving Venue sales? Is it purely market share gains? Is it -- and also how is the product structured? Can you remind us, is it 100% a SaaS product? Or is it purchased for a period of time for a transaction and then turned off? And how should we think of Venue if tough transaction environment persist or if it improves -- sorry, a lot of questions back into what.
No, no, no. No, I get the gist of it. So let me start and then Craig can jump in as well and Dave, if you'd like. Our product is more aligned to the M&A market. And so it does tend to have more volatility in it. We do find clients will use it for a transaction and then keep it on longer to archive pages and/or to do work for acquisition integration, et cetera. But if you look at the level of sales growth that Venue has had and you go back to really strong years, in transactions, so go back to 2021 where Venue grew at close to 46% for the full year. That was obviously in the face of fantastic transactions market. If you go to 2022, where transactions were down roughly 40%, Venue was down 6%. So we would view that as pretty big outperformance given the main use case. Similarly, in this quarter, Venue was down just under 1% and the trans market or our transactional sales, the market was down more. But our transactional sales were down about 20%. And so we would view that again as outperformance. I made some attribution to really strong sales execution. The product itself is a very good product, and we've been successful in selling it into the marketplace. And so Craig, I'll let you weigh in as well.
Yes, Dan, to build on that, we are encouraged by the underlying activity that's taking place on the platform to support primarily M&A activities, but we're also pivoting into subscription sales. We have a number of verticals that we're supporting from life sciences to franchise. We're also hearing from our deal makers in this environment, they're finding growth opportunities despite the volatility. There's value adjustments that are driving that. There's high demand for quality assets. There's a lot of cash on the sideline that's being looked at to put to work.
So as we look ahead, our Venue pipeline is good, as Dan said, driven by some sales execution as well as product so in April, we released Venue's multi file redaction technology. So it's things like that, that sets the benchmark for the VDR industry. Our clients are able to redact across all their folder structures, their file structure in the entire room, which is incredible to be able to redact anything from terms images, regions of the document. And we're the only provider that's doing that. So we're bringing these solutions, helping our clients. We're also winning awards through leading security. So last week, we announced that we had won a ActiveDisclosure award as well as our Venue Virtual Data Room from Global InfoSec. So it is a great opportunity. We're honored to be recognized as a security leader.
The most important thing in a VDR is sharing these documents broadly and having the security to demonstrate that. So these awards validate our efforts as a trusted partner for financial services. So we're seeing great adoption. We're executing on the plan to win in any market. as Dan said, higher markets, we're going to win more. We're really happy with what's happening today. And we are uniquely positioned on the deal team as M&A work continues that we're going to drive software through our Venue Virtual Data Room.
So this sounds like you have a fantastic product. I think going forward, would you expect more market share gains on Venue? Or would the growth the movement in revenues to be more in line with what the transactions market does. I mean I'm sure there is going to be some market share gains, but how do we sort of view that moving forward? Is there more to be had, more market share gains to be had?
Yes. I think as we continue to execute, we're going to have incremental gains in any market, right? So it will be hard to disaggregate that as the market shifts very quickly. But we are executing. We're executing daily. We're going against our competitors. We're winning. We'll continue to execute that through every market, and we're excited about the ability to win no matter what.
Great. And then if we can move on to the next one, the ActiveDisclosure, how should we think of ongoing growth there? Do we -- and did I hear that the transition is almost done from the legacy to AD3, is that going to be done in the second quarter? Is that the quarter we are in? And so then there are new product extension enhancements? Or is there more to be gained here in terms of market share?
Yes. So I'll just kind of summarize what you heard from Dan and Dave. We picked up slightly in Q1 from Q4, but we've had a number of headwinds. So we've had elevated churn due to the AD3 decommissioning. We are almost through that, and we'll complete it in this quarter. So we're nearing the end of that transition. So some of the remaining clients are not going to make that journey, just like we saw in 2022 and Q1 due to price or due to fit. So another positive trend underneath that is what we saw with the competitive churn on new ActiveDisclosure. So given its maturity, a capabilities perspective, that trend should continue into 2023. Dave mentioned the fewer IPO clients that we're adding. But what we saw is that DFIN has a strong IPO share and our ability to retain those new public companies is terrific. So we're going to benefit as we expect to see hopefully an improvement in the IPO market in late 2023. The SPACs have reset. So we have had companies that were reporting on there that have liquidated.
So we are working our way through that, and we are finding footing in the SPACs market. So then you get to the go forward, which is we're excited by what we see on the new AD platform. We have the newest disclosure tool in the market. It's modern. Price remains a strategic opportunity. Our clients want a choice, and they're signing up for multiyear agreements. So the new ActiveDisclosure contract length that averages about 25 months. So our top priority has been the transition of our clients from AD3. Now with that past, we will focus on new logos, competitive takeaways or sales enablement is reducing our sales cycle. We have over 1,000 clients on new AD. So our clients see DFIN and new AD as a compliance leader. So they're using ActiveDisclosure for their most important compliance needs as you referenced. It's decades of us serving the SEC client base, and we're making it easier for our clients to work. Again, award-winning security so the ActiveDisclosure award last week for cutting-edge security solutions, super awesome for us.
And then the last point I'll make is our partners. So our momentum and partners, whether it's flow cast, diligent to policy, we are delivering solutions. A lot of this is accelerated by ActiveDisclosure's integration with Microsoft Excel. It's a big differentiator. As we previously have discussed, Oracle's NetSuite gave us awards for being partner of the year. Why? Because their product outputs to Excel, which has made within ActiveDisclosure. And then this week, we're excited that we issued the press release, as Dan mentioned, around partnering with Salesforce's ESG solution, net-zero Cloud. We're demonstrating -- we're partnering with the best SaaS software company to deliver what is going to be a terrific opportunity for the platform, which is ESG reporting, marrying the financial data, the ESG data with ADA to communicate with the SEC and investors.
Yes. Just lastly, on the transactions in Q1 could you talk about the composition of IPOs, M&As and the sequential pickup is happening? Did I hear in IPOs or - and M&A or -- could you give us a little bit more color there, please?
Yes, Raj, we didn't specifically break it out, but I think we said that the M&A market was down but not as weak as the IPO market I think we're seeing activity across the board kind of trending in the right direction, again, in the context of a very weak environment, but moving positively.
And there are no further questions at this time. Mr. Dan Leib, I'll turn the call back over to you.
Thank you, and thank you, everyone, for joining us. We look forward to our next call in August. Thanks.
And this concludes today's conference call. You may now disconnect.