Cognyte Software Ltd.

Good day and thank you for standing by. Welcome to the Cognite Q2 FYE 24 earnings conference call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there'll be a question and answer session. To ask a question during the session, you need to press star 1-1 on your telephone. You will then hear an automated message advising your hand is raised. To withdraw your question, please press star 1-1 again. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Dean Ridlon, Head of Investor Relations. Please go ahead.

Thank you, Operator. Hello, everyone. I'm Dean Ridlon, Cognite's Head of Investor Relations. Thank you for joining us today. I'm here with Elad Sharon, Cognite's CEO, and David Abadi, Cognite's CFO. Before getting started, I would like to mention that accompanying our call today is a presentation. If you would like to view these slides in real time during the call, please visit the Investors section of our website at cognite.com, click on the Investors tab, click on the webcast link, and select today's conference call. I would also like to draw your attention to the fact that certain matters discussed on this call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and other provisions of the federal securities laws. These forward-looking statements are based on management's current expectations and are not guarantees of future performance. Actual results could differ materially from those expressed in or implied by these forward-looking statements. The forward-looking statements are made as of the date of this call and, as accepted as required by law, Cognite assumes no obligation to update or revise them. Investors are cautioned not to place undue reliance on these forward-looking statements. For a more detailed discussion of how these and other risks and uncertainties could cause Cognite's actual results to differ materially from those indicated in these forward-looking statements, please see our annual report on Form 20F for the fiscal year ended January 31, 2023, and other filings we make with the SEC. The financial measures discussed today include non-GAAP measures. We believe investors focus on non-GAAP financial measures in comparing results between periods and among our peer companies that publish similar non-GAAP measures. Please see today's presentation slides, our earnings release, and the investor section of our website at cognite.com for a reconciliation of non-GAAP financial measures to GAAP measures. Non-GAAP financial information should not be considered in isolation from, as a substitute for, or superior to GAAP financial information but is included because management believes it provides meaningful information about the financial performance of our business and is useful to investors for informational and comparative purposes. The non-GAAP financial measures the company uses have limitations and may differ from those used by other companies. Now, I'd like to turn the call over to Elad.

Thank you, Dean. Welcome, everyone, to our second quarter conference call. I'm pleased to report that our positive momentum continues. During the quarter, we continue to win deals with existing customers as well as with new strategic customers who recognize the strength of our innovative technology and the value it delivers. Our team executed very well and we had another quarter of solid results. Revenue grew both year-over-year and sequentially on an SS adjusted non-GAB basis and came in ahead of our expectations at $77 million. We also saw further improvements in gross margin, which was up 450 basis points over Q2 last year, and gross profit increased 13% year-over-year on an SAS adjusted non-GAAP basis. Adjusted EBITDA was positive for the quarter, two quarters earlier than projected, and free cash flow was positive again this quarter due to the positive EBITDA and continuing strong collections. As a reminder, we took many actions last year to address the challenge that we faced and put the business back on track. We focused the business on fewer agendas, divested SAS, adjusted the cost structure, improved our capital structure, and focused our investment on high potential opportunities in R&D and sales, including investing in AI. We are realizing the benefits of our actions and improved execution. We regained visibility, resumed guidance, and have raised our outlook for the year three quarters in a row. We believe the positive momentum will continue and we are on a path of sustainable growth. Now I will start with a review of our significant wins. Then I'll share with you a few use cases that illustrates how our use of AI and other innovations differentiates our solutions and delivers a significant value to our customers. And lastly, I'll discuss our updated outlook for the year. I will now review some of our recent significant wins that highlight our market-leading differentiated technology. Our investigative analytics solutions help national security, law enforcement, national intelligence, and other security organizations to accelerate and perform more effective investigations. The first win is for more than $20 million with a new national security customer for its mission to combat terrorism and national threats. We believe we are selected because of our cutting-edge technology, including how we leverage artificial intelligence, which delivers impactful results. We consistently outperform solutions from other vendors during a variety of real-world operational scenarios. In addition, we believe the customer valued our deep domain expertise and views us as a strategic partner to help them address their long-term evolving needs. The second win is for approximately $4 million from a new unit inside an existing national intelligence customer to combat terror activities. We replaced an incumbent vendor and believers selected because of our higher investigation value. The customer was seeking a state-of-the-art solution to address the evolving needs by enabling a broader group of users with varying skill sets and expertise to maximize the intelligence value delivered. The third win is with a new national intelligence customer for approximately $2.5 million to identify and prevent threats during operations. The customer chose us after a competitive process due to our superior technology. We delivered better operational results during comprehensive field trial in different operational scenarios. Also, we recently had another new customer win in the US. We replaced an incumbent vendor for a competitive bid and we continue our focus on expanding in the US market over time. Our cutting edge solutions and deep domain expertise drive our leadership position and help us to continue to win significant deals from both existing and new customers. Customers view us as a strategic trusted partner that provides innovative solutions that help them generate timely critical insights from the data, accelerate investigations, and improve the speed and accuracy of their decision making. In our last call, I talked about our use of artificial intelligence in our solutions. Now I'll drill down a bit more on our innovative technology and examples of a few customer use cases. Hugnat's focus is on investigating analytics to help our customers improve the speed and success rate of their investigations by effectively analyzing enormous amounts of structured and unstructured data and generating timely, impactful insights. We have been doing this for many years and developed unique domain expertise and advanced technology in investigative analytics. We believe that recent investment in AI technology is accelerating our innovations and positions us as a highly differentiated leader in the investigative analytics market. We have embedded AI models in our solutions to improve velocity and accuracy of customers' insights from data. For example, the introduction of cutting-edge AI technology for pattern recognition enables our customers to reveal previously undiscoverable connections among entities under investigation, such as bad actors and financial transactions. This technological advancement improves investigation success rates and accelerates time-to-resolution. Customers are reacting positively to these recent advancements. To help illustrate customers' benefit from our solutions, let's look at two security use cases. The first use case is for combating drug trafficking. Law enforcement units bear the responsibility of detecting and preventing drug trafficking activities along major international borders. This illicit trade often involves organized groups that exploit well-established routes, conceal their identities, and attempts to master illegal activities as legitimate ones. Within our solutions, AI models play a pivotal role in expediting the analysis of our customers' data sources. Our software helps customers identify suspicious activities, such as unusual behavior, and automatically trigger alerts for users by using AI patterns recognition. In addition, our use of AI enables our solutions to more quickly predict potential hotspots and routes for drug smuggling activities. Those valuable insights help investigation units in closing cases faster and more effectively. The second use case is related to detection and prevention of terror activities. Financial intelligence units are tasked with detecting and disrupting the flow of funds to terror organizations. Terror funding involves illicit financial transactions, money laundering, and other covert activities that facilitate terrorist activities. The challenge lies in the fact that these transactions are often masked as donations, charity, and fraudulent purchasing of goods. Our solution utilizes the algorithms to analyze vast amounts of financial transaction data from various customer data sources, including bank records, money transfer services, and cryptocurrency exchanges. The system utilizes AI pattern recognition algorithms to continuously monitor these data streams to identify patterns and anomalies in financial transactions that may indicate potential thoroughfunding activities. We continue to leverage the latest AI developments from commercially available models and our own AI research lab. Looking ahead, we believe our ability to embed the latest AI innovations quickly, together with our domain expertise in investigative analytics, will further enhance our differentiation and the value we provide to our customers. We continue to invest in AI to generate demand and contribute to driving long-term growth. Turning to our outlook for this fiscal year, given the input visibility and our performance during Q2, we are raising our revenue guidance for the year to $307 million, plus or minus 2%, representing 8.5% year-over-year growth at the midpoint, on an SAS adjusted non-GA basis. With revenue expected to grow by 8.5%, we now expect gross profit to grow faster at more than 15% year-over-year on an SAS adjusted non-GA basis. Given our positive adjusted EBITDA in Q2 and our improved revenue outlook and profitability, we are now expecting positive adjusted EBITDA for the year. Looking beyond this year, Given the recent innovations in AI, we have identified potential opportunities to expand our business with both existing and new customers. We believe that the combination of positive industry trends, our innovative technology, and our large global customer base position us well for growth. Before I summarize, I would like to recognize the significant contributions Dan Bodnar had made to Cognite over the last three decades In his roles as variant CEO and after the spin-off as Cognite's chairman of our board. Dan had a tremendous impact on the creation and growth of our business over the years, and his wisdom and knowledge were a great asset to Cognite. I personally am appreciative for all his support and advice. With Dan stepping down as a director, I'm looking forward to collaborating with Earl Shank in his new role as our chairman. and with the rest of the board to continue to drive growth and profitability at Cognite. To summarize, our customers continue to face significant challenges across many use cases and look to us to help them accelerate investigations and mitigate the wide variety of threats. We have established long-term relationships with many of our customers and they view us as domain experts and trusted partners. These relationships will continue to be a significant asset for us. We are pleased with our second quarter results and positive momentum and are raising guidance for the current year. Long-term, we expect continued growth and improvement of stability. Now, let me turn the call over to David to provide more details about our Q2 results and outlook. David?

Thank you, Elad, and hello, everyone. Our discussion today will include non-GAAP financial measures, reconciliation between our GAAP and non-GAAP financial measures, is available and being mentioned in our earning relief and in the investor section of our website. Our website also includes a financial dashboard with a tab that details our historical results, excluding the divested situation intelligence solutions. We are very pleased with our improved performance over the last few quarters. In Q2, revenue, gross margin, adjusted EBITDA, and cash flow from operations came in ahead of our expectations. We continue to win deals from both existing and new customers, reflecting the demand for our cutting-edge investigative analytics solution. Q2 revenue grew block-sequentially and year-over-year, coming in at $77 million, up $3.7 million from Q1 and $4.2 million from Q2 last year. About 87% of our revenue was software. Gold forfeit grew faster than revenue, and was up 6.2% sequentially and 13.1% year-over-year. Q2 growth margin was 69.2%, up 450 basis points from Q2 last year, primarily due to the increase in software revenue. We are pleased with our software growth margin of 77.4% and our professional services growth margin of 16.1%. Our gross margin reflects our competitive differentiation and ability to continuously create value for our customer. All the metrics I just discussed are on SAS-adjusted non-GAAP basis. Our Q2 non-GAAP operating expense were $54.3 million, similar to Q1 level. Over the last few quarters, we focused the organization and improved our cost structure, resulting in sequential revenue growth, higher gross margin, and returned to positive adjusted EBITDA and significantly reduced operating loss. Our Q2 non-GAAP operating loss was $0.9 million and adjusted EBITDA was positive $2.3 million. We generated break-even adjusted EBITDA for the first half of the year ahead of our expectation. Turning to cash, during Q2, we delivered positive cash flow from operation of $6.3 million. For the first half of the year, we had positive cash flow from operation of $25.2 million. The positive cash flow from operation was driven by our improved financial results and strong cash collection. In terms of balance sheet, we ended the quarter with cash of about $77 million and no debt. Our long and short-term RPO continued to be strong. Total RPO at the end of Q2 was $581 million, and short-term RPO was $282 million, approximately the same level as Q1. This healthy backlog, coupled with our continuous solid results, allows us to increase our outlook for the current year for the third consecutive quarter. For fiscal 2024, we are now raising our revenue outlook to $307 million, plus or minus 2%, deflecting approximately 8.5% year-over-year growth on an SAS-adjusted non-GAAP basis at the midpoint of the range. Now, let me share with you more color on how we see the remainder of the year evolving. For revenue, we expect Q3 to be at a similar level to Q2. We're increasing our full-year non-GAAP growth margin expectation to 68%, an improvement of 150 basis points versus our previous outlook, and year-over-year improvement of 520 basis points on an SAS-adjusted non-GAAP basis. Growth margin may fluctuate between quarters, best in the revenue mix. For our non-GAAP operating expense, we expect total expenses of approximately $220 million for the full year. Our improved cost structure combined with revenue growth will allow us to improve operating margins over time. Given our strong performance in Q2 and our expectations for the second half of the year, we now expect to have positive adjusted EBITDA of about $2 million for the full year at the midpoint of the revenue range. We continue to work on optimizing our cash tax payment. As a result of this work, we're expecting to record a non-GAAP tax provision of about $9 million for the year versus our initial estimation of $12 million. In terms of EPS, we're now expecting a $0.33 annual non-GAAP EPS loss at the midpoint of the revenue range, an improvement of $0.20 versus our previous outlook. Our non-GAAP EPS for the second half of the year is expected to be about zero. Due to fluctuation in our non-GAAP tax expenses, we currently expect Q3 non-GAAP EPS to be slightly positive and offset by similar negative non-GAAP EPS in Q4. To summarize, we are very pleased with our improved performance over the last few quarters. We continue to leverage our financial results and drive revenue growth and margin expansion. Our ELSI backlog coupled with our continuing solid results allow us to increase our outlook for the current year for the third consecutive quarter. We are a market leader in investigative analytics and have a strong and lengthy track record with customers around the world. We continue to add capabilities and improve the performance of our solutions by leveraging the latest technologies, including emerging innovation in artificial intelligence. We believe these technological innovations increase the operational value our customers generate from our solutions and help drive demand. Looking beyond F824, we believe our financial results will continue to benefit from the recent positive momentum. The combination of our cutting-edge technology, large and loyal customer base, and the opportunity to address the needs of existing and new customers position us well for growth. With that, I would like to end the call over to the operator to open the line for questions. Operator?

Thank you, ladies and gentlemen. If you have a question or a comment at this time, please press star 1-1 on your telephone. If your question has been answered, you wish to move yourself from the queue, please press star 1-1 again. We'll pause for a moment while we compile our Q&A roster.

Our first question comes from Mike Sikos of Needham. Your line is open.

Hey, thanks for getting me on the Q&A. Mike Sikos here from Needham. And I have two questions here. The first two, Elad. So, Elad, congratulations on that. That new customer went for over $20 million. I wanted to ask, can you give us additional insight? I know that you discussed use cases for AI, like drug trafficking is an example. But for this customer specifically, that $20 million new customer, some of the use cases or some of the AI capabilities that Cognite has, which allowed you to win that new customer. And also any commentary you have as far as how competitive this competition was versus maybe other solutions out there on the market. That would be very helpful.

Yes, sure. Thanks, Mike. So our customer's mission is mainly to increase the speed, accuracy, and the success rate of the investigations. And time is of essence here. And actually, it was a competitive bid with a few bidders. The need was actually to be able to uncover hidden insights, relations between entities and patterns, and anomalies in behavior out of this data. Over the competitive process, we were able to demonstrate over POC our capabilities. The competitors did the same. And actually, over time, both of them were disqualified, and we were the last one to meet the technical needs. So the win was a competitive win, a new customer, a national security one. His main challenge is related to investigate terror activities and predict terror risks. The data is a large amount of data that he has to deal with. And the idea is to be able to accelerate investigation in a way that they'll be able to find actually hidden relations and hidden behaviors that cannot be done with legacy technology. So AI in this case was playing a major role. In addition to being able to deal with large amounts of data and diversify data, and also being able to do this in a very efficient manner in terms of user flows. So this is a very important win for us, and we are pleased to have another new customer, a large one. And also the others are wins from, one of them is from another new customer, and the other one is a new department of existing customers. It's very good to see that the customers appreciate our technology differentiation and advanced technology.

That's great. Thank you a lot, and congratulations again on that large customer win. If I just turn to the financials for a second, and probably a follow-up here for David, but one of the things that kind of struck me when we were going through this is the spike in professional services revenue, and I just wanted to get a better sense. When we see pro-serve revenues jump like this, is it fair to think that that is a reflection of the new customer wins that Cognite is talking to here, or is there something at play where you might have an incremental professional service benefit tied to servicing, let's say, existing customers? Can you help us think about that as well as potentially what benefited that professional services revenue during the second quarter here?

Yes, so in Q2, actually, we had slightly more revenue that's coming from professional services, and they came also with the 60% of growth margin. But again, like the majority of the revenue, 87% of the revenue came from software. When we're looking from a trend perspective, you can have at a given quarter a little bit more professional services, but if you look at the H numbers, you will see that almost 88% or 89% of the total revenue came came from software. So I don't think that it's a peak. It's just a fluctuation that may take place between quarter over quarter. As for the wins, the wins took place this quarter, but obviously the revenue will be recognized over a future period. Usually this type of deals that are large deals can recognize over multiple quarters. So it didn't impact the Q2 revenue.

Got it. Thank you. And one quick follow-up as well. I know that you guys are taking up the gross mortgages for the full year as well. That improvement that we're seeing, it seems to be a reflection of the growing software revenue mix. Is there anything else that you guys are doing internally to help that software gross mortgage? And I'm wondering if it's just a matter of tighter procurement from your vendors or engineering on your side to to figure out a better way to drive efficiencies in your own cost in delivering these solutions to your customers. Anything there on the software gross margins and what you guys are doing to drive that improvement would be beneficial as well. And then I'll turn it over to my colleagues. Thank you, guys.

So we are very pleased with the gross margin in H1 and Q2, and actually we are very pleased that we are able to increase our gross margin to 68% for the full year, and it represents 520 basis points more than our initial plan. Looking at the trends and what drives this growth margin, I think the growth margin is the clear evidence of our differentiated solution and how the customer appreciates the value we provided. Elad mentioned the deals that we win. Well, those are not in the revenue, but they consist with what we see in the market and how the backlog looks, we're seeing a good backlog with the high quality that will allow us to drive a gross margin. So from that perspective, this will be also an impact in the future. When we're looking at what changed, you could see that one of the things that changed this quarter is the professional services. And it's basically a result of action that we took improve our professional services cost structure to allow us to be in a better position overall when we when we look at the gross margin uh we monitoring carefully if it's like from a cost process perspective but i think that the major uh thing that impacts gross margin is the ability to sell our solution as a premium solution the customer demonstration of our appreciation for this value that allow us to sell it in the right pricing.

Thank you very much.

Again, ladies and gentlemen, if you have a question or a comment at this time, please press star 1-1 on your telephone. Again, if you have a question or a comment, please press star 1-1 on your telephone.

And I'm not showing any further questions at this time. I'll turn the call back over to Dean.

Thank you, Operator, and thank you, everyone, for joining us on today's call.

Elad, David, and I are planning to visit Boston and New York early next month and hope we can see some of you then. In the meantime, should you have any questions, please feel to reach out to me, and we look forward to speaking with you again next quarter. Thank you, ladies and gentlemen. This does conclude today's presentation.

You may now disconnect and have a wonderful day.