Kneat.com Inc

TSX:KSI

Earnings Call Transcript 2022-Q3

[Operator]

Ladies and gentlemen, thank you for standing by, and welcome to the kneat.com Third Quarter 2022 Update and Results Conference Call. Please be advised that today's conference call is being recorded.

Today's call will be hosted by Eddie Ryan, Kneat's CEO; and Hugh Kavanagh, CFO at Kneat.

Before we begin, I would like to draw your attention to the safe harbor statement on Slide 2 and the forward-looking statements disclosure at the end of the earnings release. Comments made on today's call may contain forward-looking information. This information by its nature is subject to risks and uncertainties, and as such, actual results may differ materially from the views expressed today.

For further information on these risks and uncertainties, please consult the company's relevant filings, which can be found on SEDAR and on the company's website at www.kneat.com/investors.

Also during the call, we may refer to supplementary financial measures as key performance indicators. Management uses both IFRS measures and supplementary financial measures as key performance indicators when planning, monitoring and evaluating the company's performance. Management believes that these non-IFRS measures provide additional insight into the company's financial results and certain investors may use this information to evaluate the company's performance from period to period.

I will now pass the call to Eddie Ryan, CEO of Kneat.

[Edmund Ryan, executive]

Thank you, Shanade. Good morning, everyone, and thank you for attending today's call. I will begin with some high-level comments before passing the call to Hugh to provide a detailed financial update. At the end, we will open the call for questions.

I am proud of our team as we continue to deliver strong year-on-year growth through the third quarter, highlighted by 71% growth in SaaS revenue and a 60% increase in annual recurring revenue over quarter 3 2021. Kneat's strong growth is testament to the business value we deliver for companies of all sizes and to the growing importance of eValidation as a critical business function.

Momentum continued into the third quarter of the year as investment in sales and marketing drove robust new customer activity. Today, we have the largest pipeline of potential customers in our history, and we continue to expand our go-to-market capabilities across all tiers of life sciences.

Within our customer base, we count 8 of the top 10 and the majority of the top 20 biggest pharmaceutical companies, several top-tier consumer packaged goods companies and both large and small suppliers to these organizations. These companies are selecting our system to manage their global validation, which is a critical regulated business function. They are making a long-term investment decision, so they carefully evaluate relevant market offerings before selecting their preferred solution.

We estimate that our current base of large customers when fully scaled can provide an annual recurring revenue of USD 50 million per year for validation processes only. Over time, we believe this opportunity is much greater as we move to other quality processes adjacent to validation.

Subsequent to quarter end, we announced the addition of a top-tier Fortune 500 health care company to our list of customers. After an extensive evaluation process against multiple competitors, the corporate team selected Kneat as their global enterprise solution. Kneat was chosen for its ease of use, product vision, product maturity and proven track record.

In recent months, the macroeconomic outlook has become more uncertain. However, end market demand for our platform remains robust. This is testament to the compelling business value that Kneat provides through cost reduction, reduced time to market and the higher compliance standard.

We continue to see increased technical proficiency in our partner channel, with more and more partners becoming self-sufficient when it comes to performing Kneat deployments and training. Kneat Academy, which is used to train and certify partner and customer employees, has formally trained and certified more than 2,800 individuals.

On the R&D front, we are building out our platform in close collaboration with our customers to drive faster time to customer value and to increase our addressable market.

Our plan for 2022 is to continue to add and deploy new customers, expand to new work processes and new sites within our existing customer base, further develop the Kneat Gx platform in collaboration with our customers, selectively build out our company structure and leverage our partner relationships to expand the global reach.

I am proud of our dedicated employees, and I look forward to ensuring ongoing growth and value creation for our shareholders in the year ahead.

I will now hand you over to Hugh for a review of the financial results.

[Hugh Kavanagh, executive]

Thanks, Eddie. For the financial review, please keep in mind that all the numbers I will be discussing are in Canadian dollars.

I'm happy to report that we have seen a strong year-on-year revenue growth trajectory continued through the third quarter of 2022, including in our SaaS license revenue. Revenue for the quarter ended September 30, 2022, was $5.8 million. This is an increase of 54% from $3.7 million for the third quarter of 2021.

SaaS licenses are a key metric for Kneat. SaaS license revenue for quarter 3 was $4.5 million compared with $2.6 million for the same period in 2021. This is an increase of 71%.

September 2022 year-to-date revenue increased 79% to $16.5 million as compared to $9.2 million for the same 9-month period in 2021. SaaS revenues grew by 107% to $11.7 million for the 9-month period versus $5.6 million for the same period in 2021. This increase in revenue reflects the level of scaling by existing customers in their use of Kneat Gx in addition to the purchase of license subscriptions by new customers.

Cost of revenue for the third quarter 2022 were $2.2 million, an increase of $0.5 million from $1.7 million in Q3 2021. This increase was mainly due to an increase in cloud hosting costs and partner consulting fees.

Gross profit for the 3 months ended September 30, 2022, was $3.5 million. This is an increase in gross profit from $2 million for the same quarter in 2021. Gross margin percentage has also increased 61% compared to 54% in the third quarter 2021. The increase in gross margin was driven by a significant increase in revenue coupled with a smaller increase in cost of revenues over the same quarter in 2021.

September 2022 year-to-date gross profit was $10.1 million, an increase of 107% compared to $4.9 million for the same 9-month period in 2021. And gross margin for the 9 months ended September 30, 2022, was 61% compared to 53% for the same year-to-date period in 2021. As we continue to scale our license revenues and as the proportion of license revenue to professional services revenue continues to increase, we expect the gross margin percentage to continue to trend towards SaaS industry norms.

During the third quarter, we continued to invest in both product development and sales and marketing to support our future growth objectives. Sales and marketing expense was $2.1 million in the third quarter of 2022 compared with $1.1 million in Q3 2021, and R&D for Q3 2022 was $2.8 million compared to $2.4 million in Q3 2021.

Annual recurring revenue, ARR, is a key performance measure for Kneat. ARR includes SaaS license fees and maintenance fees. The promotion of our SaaS offering, which adds to our annual recurring revenue base, is a key strategy for Kneat. Progress on this front continues to be reflected in the growth in ARR at September 30, 2022, to $19.1 million, a 60% increase compared to September 30, 2021.

More specifically, ARR from SaaS licenses increased by 60% to $18 million, and ARR from maintenance fees increased by 57% to $1.1 million as compared to $0.7 million on September 30, 2021.

We are in a healthy financial position with a strong balance sheet and growing our customer base. We intend to continue to invest in growth while prudently managing expenditure and financial flexibility. We will deploy capital efficiency with a focus on sales and marketing to drive growth and value for our shareholders.

As a reminder, we have filed our unaudited condensed interim consolidated financial statements and MD&A on SEDAR, and they are also available on our website.

We are now ready to take questions, and we will give priority to sell-side financial analysts.

[Hugh Kavanagh, executive]

[Operator Instructions] Okay. I'll introduce people in the order I see their hands coming up here, and hopefully, I do it in order. So the first question today comes from the line of Gavin Fairweather.

[Gavin Fairweather, analyst]

It's Gavin here from Cormark. Congrats on the strong numbers. Eddie, I think you talked about the pipeline continuing to be quite strong, quite strong end market demand. If you could just go kind of one layer deeper on that, how does that pipeline look in terms of additional top 20s versus Tier 2s versus kind of some adjacencies outside of life sciences? How does that split look?

[Edmund Ryan, executive]

Yes. That split is -- there's companies from all of those categories in our pipeline, probably not as much top 20 big pharma companies because we have the majority of them already, but there are still some there. And as you go down the size of the companies, there's a bit of everything in the pipeline. So it's well represented across those categories that you called out.

[Gavin Fairweather, analyst]

Got it. And then maybe just on the ARR that you added in Q3, maybe one for Eddie and one for Hugh. Eddie, were there any big scaling events in that ARR that you added? And can you just touch on the FX tailwind that you saw to the ARR during the quarter?

[Hugh Kavanagh, executive]

Yes, absolutely.

[Edmund Ryan, executive]

Yes. Sure, Kevin, yes. So there are some scaling events in there. Customers are expanding on an ongoing basis. Smaller, larger expansions but typically-midsized expansions, I would say, in that quarter.

[Hugh Kavanagh, executive]

And then yes, just in terms of FX, yes, so the exchange rates have moved in our favor. The vast majority of our revenues are in U.S. dollars, probably 80% plus. And the dollar has most certainly moved favorably versus the Canadian dollar, which we report.

And in the notes to the financial statements, we do give details in terms of the effects of movements against currencies, and I suppose the net was about -- maybe about 5 percentage in this quarter.

[Gavin Fairweather, analyst]

That's helpful. And then maybe just on Tier 1 implementation plans, obviously, you're very close with your customers. You talk to them all the time. Are you hearing any changes from those customers in terms of the pace of those rollouts or the scope of those rollouts just given the macro backdrop that we find ourselves in?

[Edmund Ryan, executive]

No. Actually, we're not seeing any significant impact there, Gavin, on either acquiring customers or building a pipeline or expanding customers. I'd like to stress that Kneat is developing -- is delivering huge value for our customers. The ROI is very clear in the market from a Kneat perspective. They're saving 50% of their time in the validation activities and 50% of the cycle time and getting a higher compliance standards.

So that's a real strong value proposition. And I think when you have a value proposition that strong, it's easier to get approval for your budgets. So we're not seeing any significant impact at this point in time. Doesn't mean the future doesn't hold something like that. But right now, no.

[Gavin Fairweather, analyst]

That's great to hear. And then just lastly before I pass the line, maybe you can just touch on kind of your hiring plans. Obviously, it's been a year where you've been scaling some of your teams. When we look into 2023, maybe just discuss kind of to what extent you're planning on adding as well and whether the pace of those additions might start to slow at some point.

[Edmund Ryan, executive]

Yes. So we've seen great return from our investment in sales and marketing and R&D. We're seeing some real deep engagement with our customers on value in their business, working with our R&D department. And we're also seeing a very strong pipeline in response to the investment in sales and marketing.

So I've been -- we will continue to invest in sales and marketing but prudently. We will look for a strong ROI in investments we make. So we will continue to do that to address the huge opportunities in the marketplace over the coming months.

Over time, though, you will see that sales and marketing, R&D will come down relative to revenues. We're in a strong position with a strong balance sheet and growing revenues to achieve this.

[Hugh Kavanagh, executive]

Thanks, Gavin. The next question comes from the line of Christian Sgro.

[Christian Sgro, analyst]

This is Christian Sgro at Eight Capital. The first question I wanted to ask is a little bit the reverse of one of Gavin's questions. So instead of expansions, there were a couple of big customer announcements earlier in the year that I think were planning on going live, either have gone live or going live maybe this quarter.

So my question is how much new customers have contributed to ARR growth. If there wasn't a lot in Q3, do you have some visibility now or maybe into Q1 as new customers are going on the Kneat platform?

[Edmund Ryan, executive]

Yes. So a good question. So as usual, it's a mix of both. I would say if -- there's probably a bit more on the expansion side than on the new. New customers, as you know, start out smaller, and they become the expanders of tomorrow. So it's a balanced number, but a little bit more on the expansion side. Does that answer your question?

[Christian Sgro, analyst]

That does. The next question I want to ask is on the partner channel, which you touched on. I think part of the strategy has been offloading some of the work to partners, getting them up to speed and training them. Is this still core to the strategy?

And do you ultimately see professional services sort of plateauing one day within Kneat? Do you want to get partners more engaged there? How focused are you on getting your partners up to speed and offloading some of that proserv work to them?

[Edmund Ryan, executive]

Yes. We're very focused on the partners, Christian, and we're seeing that being very strong for us and a great ROI for us as well. Partners are mandatory out there to help our customers use our software in the industry but also deploy our software and help our customers to scale our software as well.

And we're seeing big take-up from our partners, and we're seeing them becoming very strong on the technology and becoming self-sufficient, where in the past, we would have to have somebody working with them on projects. Now they can work on their own on projects. So it is a very strong thing for us.

So you will definitely see our professional services relative to our revenues being a smaller proportion and flattening out as we go forward.

[Hugh Kavanagh, executive]

Thanks, Christian. And the next question comes from the line of Andy Nguyen.

[Andy Nguyen, analyst]

Congrats on a great quarter. Just a quick question for me. So I noticed the on-premise license revenue this quarter was not -- there was no revenue recorded for that segment. So can we assume that you guys have wrapped up the transition for a client to the SaaS platform? And going forward, can we expect the same sort of trend line for the on-premise license revenue?

[Edmund Ryan, executive]

Absolutely, Andy. While we're not complete, we're very close. There's a couple of customers still to go -- to transition over. The plans are there for them. And I think within the next year, I expect almost all of them to be done, but I don't see any more much expansion on the on-prem licenses with them.

[Andy Nguyen, analyst]

Got you. And just a quick question, just one last one for me. So a couple of the competitors in the space have flagged that client are delaying taking on new projects or really spending on software. Do you see the same sort of trend decline? Or the macro uncertainty doesn't really affect the business operations for Kneat?

[Edmund Ryan, executive]

Yes, I'm very positive about that. At the moment, I've been looking for those sort of signals, but they're not there. We're not seeing any significant impact on our business from acquiring a customer, building a pipeline or expanding a customer. That's not to say that it's not -- it won't happen in the future, but it's very positive for us right now.

And I go back to the point that we're adding great value to our customers' business and the customers and the market and the maturity of Kneat and the track record that Kneat has. And it's clear our ROI is very clear in the marketplace. So I think it's always easy to get a budget when you have a good ROI, a clear ROI.

[Hugh Kavanagh, executive]

Thanks, Andy. And the next question comes from the line of Andre Bodo.

[Andre Bodo, analyst]

Yes. It's Andre Bodo from Echelon and just sitting in for Rob Goff. Firstly, congrats on the quarter, guys. I just wanted to see about getting an update on the buildout of your distribution channels, particularly for small enterprises and the amount of focus that you're putting there.

[Edmund Ryan, executive]

Yes. Very good. Thanks, Andrew (sic) [ Andre ], for that question. Yes, so we're constantly looking at ways to be faster and deliver faster to the smaller organizations. And we see partners as being instrumental there, that they can do this with light touch from Kneat, if no touch at all.

So our goal for the smaller companies would be that they would be managed through our partners, the deployment of such. But we also will enhance that with automation in our technology as well. So the plan is to continue -- we have customers from all ends of the market, the small customers right up to the top tiers and in between. And the goal is to service them all as we go forward.

[Hugh Kavanagh, executive]

Andre, I think that's -- do you have any further questions before I unmute you again?

[Andre Bodo, analyst]

Oh, no, that's all.

[Hugh Kavanagh, executive]

Okay. Very good. Okay. Thank you. And Andy, actually I see that your hand is still up. I'm not sure if that is -- that you have another question. Okay. Very good. Okay, okay. Nothing. Any other hands at this point in time? Okay, okay. So I think that's -- yes. Okay, okay. Yes. I think that's it in terms of the questions.

So thank you all for your questions, and this concludes today's question-and-answer session. I'd now like to turn the call back to Eddie for his closing remarks. Eddie, back to you.

[Edmund Ryan, executive]

Thanks, Hugh. In summary, we are very pleased with the progress we have made in the third quarter 2022. We're very proud of the Kneat team as they continue to develop quality compliance software in collaboration with our customers, selectively focus on growth initiatives to win and scale customers across all tiers and provide excellent end-to-end customer service.

It gives all of us at Kneat great pleasure to be trusted by the largest global life sciences companies to support them in their mission to bring life-enhancing and life-saving therapies to their customers.

Before I finish, thanks to our shareholders, our partners and our team for their ongoing support and belief in what we do. We look forward to the journey ahead.

Thank you for your attention today. Hugh?

[Hugh Kavanagh, executive]

Thank you, and that concludes today's call.