zSpace, Inc.

Good morning, everyone, and thank you for participating in today's conference call to discuss ZSpace's financial results for the fourth quarter and full year ended December 31st, 2024. Joining us today are ZSpace CEO Paul Kellenberger, CFO Eric de Oliveira, and Greg Robles from Investor Relations. Following their remarks, we'll open the call for analyst questions. Before we go further, I would like to turn the call over to Mr. Robles, as he reads the company's safe harbor statement. Greg, please go ahead.

Thanks, operator. Good morning, and thanks for joining our conference call to discuss our fourth quarter and full year 2024 financial results. Before we begin, I'd like to remind everyone that certain statements made on this call may be considered forward-looking statements. These statements are based on our current expectations and beliefs and are subject to risks and uncertainties that could cause actual results to differ materially. These risks and uncertainties are described in our most recent annual report on Form 10-K filed with the Securities and Exchange Commission. Additionally, we may discuss certain key business metrics which are non-GAAP financial measures. A description of these non-GAAP measures and any comparison to the most directly comparable GAAP measures can be found in our earnings release on the investor relations section of our website. Now, I would like to turn the call over to the CEO of ZSpace, Paul Kellenberger. Paul?

Thank you, Greg, and good morning, everyone. Happy Friday, by the way. Thank you for joining us for ZSpace's first public earnings call. First, I would like to start with introduction. I am Paul Kellenberger, CEO of ZSpace, and with me here today is Eric de Oliveira, our CFO. We are both excited to be with you here today to discuss zSpace, our performance, and our plan to drive growth. As many of you probably know, I have been with zSpace since inception, and we have something that is very unique and special. For those of you who have seen and experienced zSpace firsthand, you understand what I mean. And we always tell the people that see videos on our website, and the videos that are in our public domain that they do not do zSpace justice. As you know, we completed our IPO in December of 2024, raising over $10 million in gross proceeds and began trading on the NASDAQ under the ticker symbol ZSPC. This milestone marks a significant step for our company, enabling us to accelerate our growth strategy. The proceeds will support our product commitments and software development, both through acquisitions and partnerships, as well as with third-party developers, as well as continuing to invest in our sales, marketing, working capital requirements, and other general corporate purposes. For those of you who are new to our story, ZSpace is a leading provider of augmented reality and virtual reality education technology solutions. Our vision for the company is to transform learning that empowers people to reach their full potential. Education happens to be the first market we decided to focus on. Today, we primarily serve K-12 schools and the career and technical education market, or the CTE market as it's known in the U.S. Outside the U.S., the CTE market is referred to more broadly as workforce development. zSpace offers a unique hands-on learning by doing approach that has been shown and proven to enhance student engagement and improve test scores. We also partner outside the U.S. with reseller partners to expand our reach into over 50 countries worldwide. Before we discuss our 2024 highlights, I'd like to provide an overview of zSpace's market presence and growth potential that positions us for long-term success. Together, the K-12 education and CTE markets exceed $69 billion globally. The global ed tech market is valued at over $142 billion in 2023 and is projected to grow at 13.6% CAGR through 2030. Now, the AR VR education segment is expected to reach 14.2 billion by 2028, growing at a 30% CAGR, and both of these factors reinforce our confidence in zSpace's long-term growth potential. Specifically to the U.S. market, our platform today is currently implemented in more than 3,500 of the approximately 13,000 public school districts, including were installed in over 80% of the largest 100 school districts. As another opportunity, we see strong cross-sell between our two markets, enabling further expansion. And to date, 73% of our existing K-12 customers have adopted our CTE solutions, demonstrating the success of the cross-sell. Our flagship product, Inspire, along with our recently introduced Imagine product, offer key advantages. They feature proprietary hardware and software designed to create an immersive and interactive learning experience without the need for headsets or glasses, which can be impractical in an education and learning setting. We believe zSpace is redefining the classroom experience enabling students to explore concepts that would otherwise be too dangerous, expensive, or impossible to replicate in a traditional learning environment. From STEM education to hands-on technical career training, we provide a scalable and repeatable learning solution that equips students with the skills needed to succeed in the workforce. Looking at the business side, 2024 has been a pivotal year for ZSpace. as we continue to drive growth and expand our reach in the education sector. A few highlights of note. Our largest customer win to date was with St. Louis Public Schools, where we secured a roughly $5 million deal to provide a complete K-12 STEM solution. This win is a great example of how we're making a real impact on education at scale. We also made significant strides in expanding our content offerings, particularly with the launch of our career readiness solution. This includes a unique feature, a personalized AI career coach, which has been met with a lot of excitement from our customers, and it shows how there's a growing demand for solutions that help students bridge the gap between education and the work. We were also very proud to receive the Best of Show Award at ISTE Live 24, which is the largest annual K-12 education conference globally from Tech and Learning for our career readiness solution. This recognition is a testament to the value we're delivering to our customers and reinforces our leadership in the education technology space. In addition, zSpace has built a very robust IP portfolio We have over 80 issued patents, many of which are particularly unique given our display-based augmented reality solution with interaction. Now, before turning the call over to Eric, I'd like to cover briefly four near-term initiatives that we believe will drive further expansion of the business. Number one, we will continue to focus on increasing our penetration within the existing K-12 STEM and CTE markets. capitalizing on the growing demand for immersive learning solutions. Today, we're in over 80% of the top 100 school districts. However, we have an incredible growth opportunity just within this existing customer base. Second, through our network of over 25 resellers reaching more than 50 countries worldwide, we are actively expanding our international presence. Third, We have always been focused on R&D and remain committed to investing in R&D to enhance our overall platform, ensuring we stay ahead of emerging trends and continuing to meet the needs of our customers. Lastly, and as part of our growth strategy, we're focused on acquiring complementary software solutions to accelerate the growth of our software revenue. Notably, we acquired BlocksCAD in Q1 of 2025 which strengthens our immersive learning solutions with their 3D design platform for STEM education. Looking ahead, we remain open to opportunities that accelerate our strategy and drive value for shareholders. With that, I would like to turn the call over to Eric de la Vera, our CFO. Over to you, Eric. Thank you, Paul. Excited to be with you today. Before diving into our results, it's important to communicate how we recognize revenue. Our revenue consists of hardware revenue, software applications revenue, and services revenue. The latter and approximately equal mix of product warranties and pedagogical training to support educators' efforts to integrate zSpace, AR, VR content with their classroom curricula. Hardware revenue is derived from the initial upfront deployment of platforms to classrooms. Hardware revenue is generally recognized upon shipment to the customer. Software content is predominantly device-based licensed software for annual and multi-year terms. Under our agreements, we generally account for the entirety of the license value in period upon shipment with associated hardware or issuance of a license renewal, regardless of term length. only a small portion of our software revenue is recognized rapidly. As a result of this accounting treatment, our revenue may exhibit quarter-to-quarter variability due to factors such as the underlying seasonality of customer budgeting cycles from which we derive our bookings. These patterns have occasionally been exaggerated when the company has lacked working capital to fulfill backlog quickly, which pushed fulfillment and revenue into later periods. Growth rates measured in future periods can be significantly affected by these comparisons. In the long run, we expect the business to match seasonally stronger sales periods in the second and third calendar quarters of the year and seasonally weaker sales periods in the first and fourth quarters of the year. Given these dynamics, and in order to provide a normalized view of our software ecosystem, we present two key operating metrics. annualized contract value, or ACV, and net dollar revenue retention, or NDRR. Both metrics will be provided quarterly and will be measured using trailing 12-month data. ACV of renewable software is calculated as the total value of a software license divided by its term length, summed over all renewable license agreements currently active with customers. We believe that the long-term health of our business is correlated with the growth of this metric. Our measure of the stickiness of our AR VR solutions in the classroom is the NDRR of our software ACV at the customer level. NDRR is calculated for customers present at the start of a 12-month period with at least $50,000 in renewable software ACV and compared to the ACV for that same group of customers at the end of that same 12-month period. Customers with at least $50,000 represent slightly more than half of our total renewable software ACV. I'd now like to discuss full-year 2024 results, as well as our fourth quarter performance. 2024 revenues were $38 million, down 13% year-on-year, as capital constraints prior to our IPO limited our ability to fulfill orders from backlog. we concluded the year with $9.2 million of unfulfilled orders stranded in backlog. As of September 31st, 2024, the annualized contract value of renewable software revenue was $11.3 million, up 6% compared with 12 months ago. The net dollar revenue retention as of December 31st, 2024, for customers with at least $50,000 of ACV as of December 31st, 2023, was 92%. A reminder that each of these metrics require that we have fulfilled the underlying software license use, and in the course of our accounting in each period, revenue was recognized at the time of fulfillment. We're very pleased that our efforts to focus on the importance of our software content in driving student outcomes has generated continued growth in the ACV metric and high retention rates, despite the headwinds we incurred this year as we pursued capital. Bookings for the year were $41.5 million, up 1% year on year. Excluding China, where we have made a deliberate decision to de-emphasize, US and rest of world bookings were $39.9 million, up 7% year on year. This reflects growth of 4% in the core US market and 37 percent growth in international geographies other than China. Gross margins for the year were 40.9 percent compared with 38.5 percent in the prior year, an improvement of 240 basis points. Approximately three-quarters of this margin expansion is attributable to a mixed shift of five percentage points of revenue out of hardware and into software and services. We credit the responsiveness of our direct quota-carrying sales team to a new incentive plan prioritizing software content and strong customer renewals for driving this mixed shift in our 2024 bookings and revenue composition, which was particularly evident in the second half of the year. The remainder of our gross margin improvement was rate-based and linked to the abolition of certain incentives for term length that were deemed to have insufficient correlation with sales success as well as some modest software content acquisitions in verticals where we previously sold third-party content and incurred a revenue share. Operating expenses for the year were $33.2 million compared to $25.5 million, an increase of $7.7 million, or 30%. After normalizing for stock-based compensation expense in the first quarter of the year, operating expenses were flat year-on-year. Now moving to the fourth quarter. Revenues in the fourth quarter were $8.5 million, down 29% year-on-year, as capital constraints prior to our IPO limited our ability to fulfill orders from backlog. And the timing of receipt of IPO proceeds in the first week of December left insufficient time to pull product through our supply chain and fulfill the backlog. As previously noted, we concluded the year with $9.2 million of unfulfilled orders. Bookings for the fourth quarter, which along with the first quarter is our seasonally slow period, were $5.3 million, down 3% year on year. Excluding China, U.S. and rest of world bookings were $5.3 million, up 5% year on year. This reflects growth of 21% in the core U.S. market and a decline of 92% growth in international geographies other than China. The fourth quarter decline in international geographies outside of China reflects similar patterns of seasonality and should be right in the context of 37% year-on-year growth international ex-China for the entire year. Gross margins for the quarter were 40.7 percent compared with 34.7 percent in the comparable quarter of the prior year, an improvement of 597 basis points. Although revenue composition improved modestly in the quarter compared with prior year, almost all of the improvement is attributable to the write-down of excess and obsolete inventory in the prior year quarter, creating a favorable comparison. Some benefit was noted from margin improvements related to software content from the factors previously discussed. Although we began shipping Inspire 2 units in the fourth quarter, we do not expect the margin benefits to appear in our P&L until early 2025 when our fulfillment volume is exclusively made from stocks of the newest model. Operating expenses for the quarter were $6.2 million compared with $6.1 million in the comparable quarter of the prior year, an increase of $0.1 million, or 2%. Guidance for Q1 2025. The first quarter of 2025 has brought significant uncertainty in our markets, but with countervailing themes. Although some education customers have demonstrated a mixture of hesitancy in their decision-making which is being driven by uncertainty of funding sources for zSpace's K-12 and ARVR classroom solutions. Others have accelerated their purchases to lock in pricing and availability for Q2 and the coming school year. The net impact on our business remains somewhat unclear at this time, but may materialize as a lengthening of K-12 sales cycles. At the same time, CTE solutions are finding favor, driven by large funding announcements at the state level, such as California's $470 million allocation for workforce development, and similar announcements in states such as Texas, Florida, Pennsylvania, New York, and others. Given this landscape, along with the fact that our first quarter is nearly closed, we would like to provide insight into Q1 revenues. we see realized revenues for the quarter slightly above $5 million. The uncertainty for the current quarter reflects timing of deal closing in our end markets, given broader turbulence in the education market. Although uncertainty is likely to persist for the remainder of the year, we remain comfortable in our ability to capture and renew business across the K-12 and CTE content segments, even though performance may not be linear and of delivering growth on the full year. Regarding our capital allocation and management of operating expenses in particular, we continue to control spending strictly. As noted, last year we managed OpEx flat on a year-on-year basis after normalizing for a one-time true-op of employee equity. This year, we anticipate keeping operating expense growth constrained to less than half the rate of revenue growth on the full year. This excludes the impact of restricted stock unit grants to employees. 2025 restricted stock unit grants, measured by the count of RSUs issued this year, 2025, as a percent of shares issued in outstanding, are expected to be below a burn rate of 7%. Now I will turn the time back to the operator for Q&A.