Clavister Holding AB

STO:CLAV

Earnings Call Transcript 2020-Q3

[Jenny Ramkrans, Chief of Staff]

Hi, everyone. Welcome to this Clavister interim live presentation regarding Q3 2020. With me today, I have John Vestberg, our CEO; and also our new CFO, David Nordstrom. Welcome.

[David Nordstrom, Chief Financial Officer]

Thank you.

[Jenny Ramkrans, Chief of Staff]

We'll start presentation with John.

[John Vestberg, Co]

Thank you, Jenny. So again, warm welcome, everyone, to this interim report. So I would like to start with guiding you through an overview of the quarter so far. After which, David will guide you through some of the more detailed financial items, and then we'll round off with a Q&A session. Starting with the executive summary of the quarter. Some of the highlights of this quarter was a very strong revenue growth. We saw 39% growth, adjusted for the divestment of our Chinese operations. We also saw a record gross margin in the quarter, with gross margin above 90%, I believe, an all-time high in the history of Clavister. And finally, of course, a very positive point being an EBITDA margin, a strong EBITDA margin of 22%. We continue to have a good loyal customer base, providing us with a very high contract retention rate above 95%. And this is one of the key factors that drives additional recurring revenue. In this quarter, we saw a 14% recurring revenue growth versus last year. We also had a number of commercial wins and important milestones. I will present a selected few of them in a while. We also see -- and this is a trend that we're starting to see now for some quarters, that we are bringing an increased inflow of larger customer contracts. Last quarter we announced a couple of them, and we had other ones before as well. And we clearly see that this trend is continuing with engagements with larger and larger customers. And as a result, larger contract. As an effect of that, we start to see a volatility as well in the order intake. We see this in this quarter where the order intake basically is flat year-over-year. And I'll come back to that in a while. Going forward, we see that the order backlog metric will be an important metric to monitor our combined intake and outflow of orders. We have some COVID-19 impact, as probably any company on the earth today. With limited ones, however, but still in some areas. So I will talk through that in a while as well. And finally, with this quarter and with the 2 preceding quarters, we are more confident than ever that we will deliver on our financial ambitions that we have set out for the full year 2020.Moving on then to order intake. We have a continued strong order intake development of the company. Again, it becomes a bit more lumpy in the last quarters, as you can see. Adjusted for China, we were on par with last year's order intake. It was last year's quarter 3. So what we see, basically, is a natural fluctuation. And we start seeing fairly substantial, really substantial, orders coming in, which might offset individual quarter versus the proceeding or the succeeding quarters. So this is completely natural variations. What we see as well is that, in terms of infrastructure investments, COVID-19 is, obviously, presenting some challenges for the entire industry. And I would say that Clavister is not an exception. We might have survived or been able to mitigate COVID in a better way than other industries, and cybersecurity is still strong. But obviously, partners and customers are keeping their cash tight and investment in new infrastructure, meaning new product sales for Clavister, has some slight delays in some areas, especially in markets that are either on the verge of new lockdowns or have experienced lockdowns for a while. However, on the other -- on the contrary, renewals, existing contracts, or OpEx-based spending from our customers, such as term-based licensing, we see a much less impact from COVID in those scenarios. We might even see, in some areas, in the contrary, namely that customers have an ambition to scale up their cybersecurity posture in these difficult times. So all in all, that means that the order intake is flat. We feel that there is a more positive sentiment on the market, in general, especially with regards to the corona situation. However, of course, we all know that there is uncertainty. There is the risk of a second wave, and the impact of that for the industry is, obviously, very uncertain and very difficult to predict. But at this moment, we feel, however, that if we compare this quarter and our current quarter, with the start of the year, at the beginning of the year, there is a much more positive sentiment in the market, and people have gotten adjusted to the new ways of working and to some degree, normalized integration. We have an order book balance or order backlog, commonly known, per quarter end, which amounted to close to SEK 22 million. So that's an increase of around SEK 10 million from previous year. In terms of revenue, we are seeing a very strong growth in the quarter, 39% adjusted for China. And this is, obviously, the result of -- that we are now seeing the benefits of the bigger order backlog and order intake we have built up over the course of the previous periods and the full year. So basically, we are in full swing when it comes to execution, deliveries, fulfillment of orders that we have either taken in during this quarter or in the previous periods. And that, obviously, contributes to a strong revenue growth. Again, with regards to recurring revenue, which is an important metric for Clavister, a big part of our business is related to entering into contracts, recurring revenue contracts, with our customers, be that maintenance contracts, support contracts or recurring term-based licensing contract. We saw a growth in the quarter, 14%. And in this specific quarter, it represented 41% of the total revenue base. We have a good amount of so-called deferred revenue, meaning orders and billings that we have executed in previous periods, and which have not yet been accounted for in our P&L, so-called prepaid -- revenue from prepaid contracts. Per end of quarter, this amounted to close to SEK 61 million. So again, a strong increase from last year. And just as a reminder, this is revenue that will support -- or this is balance sheet items that will support our revenue for upcoming quarters, regardless of order intake or billing levels. Moving then on to gross margin. Again, a very strong gross margin in the period, Over 90%, so close to 10 percentage points increase from last year, driven by large software license orders in the quarter, also driven by the divestment of the Chinese operations last year, which you might recall, had a fairly low gross margin. And the product mix, in general, we see more and more orders coming from product sales related to larger products, bigger product installations with consequently then larger and bigger gross margins. We have, in the beginning of this year, established a gross margin target of plus 80%. And of course, we maintain that target. We, as a result of that, announced a gross profit close to SEK 38 million, and that's a substantial increase from last year's quarter with 46% growth. Some selected commercial wins and milestones. In general, in the third quarter, we had a very good level of customer engagements across the board, regardless of industry, regardless of customer segment. This is, maybe not surprisingly good, but it's good to see that we were able to maintain that level despite the challenges that come from the corona pandemic, travel bans, restrictions, being limited to mainly video conference calls and so on. But the overall level of customer engagement has been good. And we have, on top of those mainstream engagements, being able to win quite a few important key deals as well in the quarter and reached a number of key milestones. I would like to start with some good progress in our service provider vertical among the global mobile operators, where we find 5 new license and services contracts in the quarter. Initial order value [ goes ] approximately SEK 4.5 million, and the deployment starts already this quarter 4. This is with Tier 1 mobile operators, primarily in Asia, who are building 5G mobile networks and have selected Clavister's virtual acuity products for their deployments. A very good testament that the footprint increase continues. We have another partner, a technology vendor, within the service provider domain. They announced what's called general availability, basically the milestone where they paved their product to market. And they have been, since approximately 1 year, been integrating the Clavister software within their offering. And now as it has reached general availability, it becomes available to their some 60-plus global service providers in the world. This is an add-on service where they and their service providers can do upsell to the vast end customer that they have. We expect to see revenue streams coming from these engagements starting from next year, from 2021. Finally, a very interesting larger order coming from a security provider called, ContentKeeper, Australian, U.S.-based company. They are building up a new cloud security service, and it's being deployed in 3 cities at the moment, in Dallas, in L.A. and in Canberra, Australia. As part of their cloud security service, they have decided to integrate Clavister's carrier-grade firewall product, the Clavister NetShield product, which is acting as the first-line of defense protecting all their critical cloud security customers. This is a good relationship that we started, and that's the shared size of the order is a good testament that they have really done their homework in testing, reviewing various technologies on the market. And despite them being a non-Europe -- a non-European company, they've decided for Swedish technology because they felt there was nothing better on the market fulfilling their needs. So all in all, good traction in the commercial arena in the quarter. With that, I'd like to leave the word to David.

[David Nordstrom, Chief Financial Officer]

Thank you, John. And first of all, I would like to say hi to all of you. I'm still on my first month with Clavister. I started 1st of October, so I'm honestly, learning curve to getting to know the company and our operations, and I'm very glad to have this opportunity to reach out directly to you, our investors. And looking at the -- some beginning to find more into the financials. I will deal a bit upon what John said, but not repeat too much of what John said. We see strong revenue growth of 39%, and we truly believe that one key element of this is our high retention rate of 95.4%. So keeping the retention rate at 95-plus percent is very important to us. I think, all in all, that getting a new customer is more costly than keeping a customer [indiscernible] And we think that this metric really gives credit to our business model of investing in good quality product, good quality services, having good relationships with our customers. And also the strategic decision that was made to invest in an in-house support team that consistently supports very high customer satisfaction. So we believe that the total experience of working with Clavister from our clients are positive, and this is why our retention rate is high. We will work very hard to maintain this type of [indiscernible] going forward. Of course, the strong gross margin supports our EBITDA and EBIT level. And that, basically, we move to ensuring high profitability and working towards profitability, of course, comes from increase in revenue. But Clavister has been very important during this period and going forward, [indiscernible] increased revenue without increasing cost. And this is what we've seen in this period, and I'm very glad to see that.We have even considering the reduction of the divestment of the Chinese entity in 2019, so that have reduced our cost of SEK 4.2 million. But even if that effected to consider our cost is profit. And this is -- our OpEx mainly based on 2 things, stock costs and external consultants. And since last year, we have reduced our staff quite significantly, and we see effect of this. That we have a more cringed organization, but still delivering revenue growth. And we're very glad that we can see that. I also want to make a couple of comments regarding our financial items, which I know have been forcing complexities historically. I think it's good to know that a high degree of our financial items are not affecting our cash flow. We have a loan financing through EIB, which includes ForEx, which are recorded as cost in our P&L, but they are not leading to an outflow of cash. We had a similar setup with a previous lender, and both effected those 2 loans together are SEK 4.4 million in the quarter. And this is not ending the subject via a payment from us. This does not lead to an outflow of financial resources. There's a currency effect of SEK 1.2 million in the quarter as well. And in order to secure the bridge financing, we had a one-off cost of SEK 1.4 million. So when looking into the financial items, I think implies to understand that quite a big portion of that would not lead to an outflow of financial resources, and SEK 1.4 million is also a one-off item. So bear that in mind in looking at the financial item.I think what is also important to emphasize is there is, of course, a currency risk element since we have a EUR 20 million loan from EIB. In periods of high currency volatility, this will have -- can have a substantial effect of our financial items. We expect in the period of SEK 1.2 million, which was not that significant. But as you might recall, we saw some quite significant effects in Q1 and then in Q2 related to currency effects. And of course, the uncertainty related to COVID might, of course, have an effect of currencies being more volatile, and we have no predictions, I guess, and really no one has of what the effect of this would be going forward. But I think looking at the financial items as an investor, these are some elements that I think is good to be a variable in understanding this number. Let me add a couple of comments related to our CapEx investments. They are now lower than our amortization. And this is something we are glad that they are, because we are focusing on having -- of keeping our CapEx investment and intangible assets on a little bit lower level than before. And in order to partly to control costs, but also to make sure that we have our control over our outflow of cash. And the reason for the amortization to be so much lower than to the previous period is that they had some older OpEx investments that have been fully amortized, and that's why the level of amortization is lower. So our target here is to have CapEx investments that are in line for a bit longer than our amortization going forward. Looking at the cash flow. Of course, since we had high sales in the quarter, we should have a negative effect from operating cash flow in the short term, which will then be mitigated as the accounts receivables are converted past Q4 when they are being paid. We had also a quite large effect on total cash flow, as we repaid for this loan of SEK 55 million. This repayment was financed by refinancing of SEK 35 million, had owned cash of SEK 20 million. And the bridge financing this plan to be paid in conjunction with the [indiscernible] that will take part in November. And also, as I mentioned on the previous slide, one reason for our lower operational cost is, in fact, the reduction of FTEs, and this is mainly due to [indiscernible] divestment of Chinese subsidiaries, the closing of the Umeå office last year, and also we see an impact of short time working as parts of our -- has been working on a bit of a lower level [indiscernible] government COVID-19 inflation effect. I would also like to take the opportunity to just briefly mention the share issues that we are doing in November. I mean this is, of course, is something that there has been a lot of discussion about, but -- and you have received information, but I think it's good to take this opportunity to talk to a little bit of what we're doing and why we're doing it. And there are 3 share issues that we are doing. One is a direct issue of 50 million through selected larger investors, with the we aim to, of course, bring new equity to the company, but also broaden the shareholder base as we truly believe that a wider and broader shareholder base is beneficial to all shareholders. This mean for the company to get access to some larger investors, with access to also their larger network. We think this is a good thing for it to happen. There's also a larger issue of 150.4 million, which is directed to existing shareholders. And there's a possible optional extra share ratio of 30 million, which is an over-allotment option. If there is a high enough interest of participating in the issue of 150 million, the Board have the possibility to issue extra 30 million of shares to be distributed as the Board deem most beneficial for the company and shareholders. And then moving over to buy. We are aiming to achieve shares of 234 million. And first of all, it is improving the balance sheet. Clavister is currently a bit heavy on debt and a bit low in equity. And we see this is causing a restraint on our current condition, because we see that we can find time end up discussions of our balance sheet and our financing, and this is not contributing in delivering revenue growth. And this is a discussion that, of course, not helpful in strengthening the balance sheet to remove these elements. And therefore, we believe that it will unlock a much bigger growth potential. And as we see in Q3, if we deliver higher sales, we have offshore very negative effect on cash flow. So it takes out the time for the higher invoice sales to be converted into cash. So we feel that we need a bit stronger balance sheet and more cash in order to finance our future growth. And for [indiscernible] this cash is also needed in order to feed on the investments that we have made in our go-to-market model and also to finance some key investments in showing the verticals that we think have the highest potential for Clavister. We might need to add some, and I say some, I touched base this now in order to deliver on our base target. And also, we see verticals being very, very interested to us. In specific market, we will then also have a possibility to finance that. And also, we have a strong technology platform. But in order to be really successful in delivering Clavister's product conservative as a service, we see that there are some additional investment in our technology platform that is needed in order to entirely -- as successful as it can be. But these are, let's say, minor investments and we are on good progress there. But still in order to fulfill the strategy, there are some investment fee. But I would say they are not significant in comparison to our overall investment in the technology [indiscernible] that we already have today. This was my summary of the financials, and there you see the other reason to buy. So over to you, John.

[John Vestberg, Co]

Thank you, David. So before moving on to the Q&A session, just to conclude, our ambitions and the planning assumptions we have had for the time periods going forward. Basically, we have divided this into short-term ambition, midterm ambition and then long term ambition. And we are maintaining the same ambitions as we set out in the previous quarter. And again, given the 3 quarters of results so far in this year, we are confident on these ambitions. So for the short term, looking at the full year of 2020. We, obviously, see improvements of all the key metrics, EBITDA and EBIT and operational cash flow versus last year. We're basing this on a number of assumptions. We are so far down into midyear, obviously, so we know for a fact that many of these assumptions have played out and became real. One has been revenue growth, of course. The other one is the seasonality, with H2 always being stronger -- generally stronger than H1. In our specific case, we see more customer rollout plans in the end of the year. So that contributes to higher growth towards the end. We maintained 80%-plus of gross margin targets. With some variations on the quarters, but as been seen in the past 3 quarters, now in this year, we're steadily above 80%. Keeping the operating expenses on the same levels as for last year. David mentioned an important factor in the OpEx analysis, whereby we saw some positive effects coming from sort of [indiscernible] converting. An obvious question will be, if that is a sustained level going forward? The actual effect of short-term working for Clavister is fairly low. And given other operating expense optimization we have been doing, we absolutely believe that we can maintain our OpEx levels regardless of short-term for working now. We have reduced our capitalized development expenses, with some SEK 10 million versus last year. So that is obviously, has a double-edge sword. It's good for the long-term viability of the company to keep our capitalized development expenses through as low as possible. But obviously, from a pure EBITDA metric standpoint, it has a negative impact from a pure P&L perspective in the short term. And then, of course, we have the uncertainties related to COVID-19. But our assumption, for the time being, is that it's a controlled impact. We can manage the impact but it's a limited impact.If we then look at the midterm ambition, we have absolutely the ambition to outperform the underlying market growth. We have the ambition to reach sustainable EBITDA profitability during 2021. And starting from 2022, we are demonstrating positive free cash flow as an ambition. Free cash flow, obviously, as operating cash flow and investing cash flow. Looking at long term, there is no reason, given the high gross margins that we demonstrate, given the leverage we get on our EBITDA and EBIT metrics from top line growth, there is no reason why we should not be able to provide industry-leading profitability and free cash flow. The company is actively geared to do that. And in order to reach that, as David alluded to, it's a top line and revenue growth gain that has to continue. And this is exactly what we're striving for. So with that, we're moving over for Q&A.

[Jenny Ramkrans, Chief of Staff]

[Operator Instructions] John, how do you feel about the report?

[John Vestberg, Co]

I feel very positive. Obviously, the growth numbers and the metrics are all very solid and very good. But maybe what makes me most positive about the report is that we're doing this with a very engaged set of team members. We have Clavister partners that are absolutely contributing to this great quarter. As one very interesting example, we hosted our first virtual partner base, just a few weeks back. And we had a record SMB list with over, I think, over 400 registered partners. So despite challenging market conditions, with COVID and everything related to that, we are seeing a very, very optimistic and positive traction going on in the business. So I'm mostly proud of that, actually. And then the metrics are good. They are nice, but they are the result, not the reason.

[Jenny Ramkrans, Chief of Staff]

Regarding the metrics, would we be able to keep up the high gross margin going forward?

[John Vestberg, Co]

Again, we have volatility on the quarters. And given product mix, we might see natural variances. But with the combined efforts we have been making over the past year or so, with improved or increased engagements with other customers that drives a high gross margin, we have reduced our tariff costs and that's a sustainable improvement going forward. And we have a higher degree of pure software sales. So all in all, I'm very positive that we will maintain a high gross margin. If we will be able to do 90% every quarter, maybe not, it will be volatility. And that's why we keep on having our 80-plus percent.

[Jenny Ramkrans, Chief of Staff]

Regarding the EBITDA volume increase, what's the basis [indiscernible]

[John Vestberg, Co]

As for individual quarter, we're, obviously, not giving financial guidance. If we then look at the more long-term perspective, given our strongest margins, and given the fact that we're able to demonstrate growth without expanding on our OpEx, that means that we have a fantastic ability to get fantastic leverage on our bottom line from all the top line growth we're doing. So in terms of EBITDA and EBIT metrics, this is, over time, what should be expected by Clavister and by any company in this sector really.

[Jenny Ramkrans, Chief of Staff]

I got a question from one listener. Last Q2, you said that there would be no new right issue? And then 2 years later, you note that we are actually having a right issue? What do you have to say about that?

[John Vestberg, Co]

Yes. Absolutely. So at that time, we have not concluded our capital structure strategy, finally. So we could not announce what direction we would take. Now as David mentioned in his presentation of the recent time, the share issue, we concluded that for both reducing the operational risks in order to secure larger customer engagements, to secure our business, in combination, we're actually reducing the financial risk then the conclusion was that a larger share issue is required. And not only required, it's actually beneficial both for the company and for the shareholders. We've seen clear indications and clear signs that the financing risks coming from a weak balance sheet has a very dampening effect on value creation for shareholders. And the -- and that risk will sustain, regardless of our short to midterm operational improvement. So the best and the most feasible way for the company and for the shareholders to remove that risk altogether, to start creating real shareholder value and to remove the operating risk is to do a share issue.

[Jenny Ramkrans, Chief of Staff]

Thank you, John. One further question coming up. What do you think -- how do you turn the negative trend on the share?

[John Vestberg, Co]

Yes, absolutely. So first of all, if we look at this from a pure operational perspective, what we can do as a business to create shareholder value and, obviously, share price, is to deliver on operational results. And I hope or think that no one would argue that the growth, looking at the past 3 years, we've been doubling our sales, doubling our order intake. We have constantly moved our metrics toward a better, and better places, if you like. And with this last quarter, we clearly signaled and demonstrate that the business is absolutely on the right track from all those perspectives. When it comes to share price development, as I just mentioned regarding the share issue, it's not only the operational results that counts, it's also market sentiment and financial risk. And the financial risk has been the key item, combined with unrealistic expectations that we set out in the past, the 2014 to '16 period. And we have the combination now of continued good results, operational results, completely removing the financial risk, having a new set of shareholders, invited them and hopefully participating in this share issue, then we have set all the pieces in motion to turn the trend. That's my absolute condition.

[Jenny Ramkrans, Chief of Staff]

Thank you, John. I have no further questions right now. I will wait a minute more, if we do have any questions.A new question coming in. When can we expect to get some numbers in the ambition?

[John Vestberg, Co]

When the company has reached a point in, let's call it, financial maturity, where the volumes and the levels are on pay level and are so, so constant and big, so that we have a much higher degree of certainty in our predictions. Still, as we are on a growth trajectory, we have individual orders that will swing quarters back and forth with quite big amount of percentage points. And as long as we are in that phase, providing guidance, in terms of complete numbers, can only backfire on the company and the shareholders. So that's the reason why we decided how the ambition levels on the level they are now and to continue to demonstrate progress and meet those ambitions and continue to meet those ambitions. And as we mature as a company, as our numbers mature, we will be able to zoom in and provide more and more granular guidance. But we're not there yet.

[Jenny Ramkrans, Chief of Staff]

Thank you. Any further questions? If not, then, thank you for a good presentation, John and David.

[David Nordstrom, Chief Financial Officer]

Thank you.

[John Vestberg, Co]

Thank you.

[Jenny Ramkrans, Chief of Staff]

Thank you. With this, I conclude this session.

[John Vestberg, Co]

I'm hearing goodbye.

[David Nordstrom, Chief Financial Officer]

Thank you.