Earnings Transcript for MODN - Q2 Fiscal Year 2022

Operator: Good afternoon and welcome to the Model N’s Second Quarter of Fiscal 2020 Earnings Conference Call. [Operator instructions] As a reminder this conference is being recorded. With that I will now turn the call over to Carolyn Bass, Investor Relations.

Carolyn Bass: Good afternoon. Welcome Model N’s second quarter of fiscal 2022 earnings call. This is Carolyn Bass, Investor Relations for Model N. With me on the call today are Jason Blessing, Model N's Chief Executive Officer; and John Ederer, Chief Financial Officer. Our earnings press release was issued after close of market and is posted on our website. The primary purpose of today's call is to provide you with information regarding our second quarter of fiscal 2022 performance and offer a financial outlook for a third quarter and fiscal year ending September 30, 2022. Commentary made on this call may include forward-looking statements. These forward-looking statements are based on management's current views and expectations as of today and should not be relied upon as representing our views as of any subsequent date. We disclaim any obligation to update any forward-looking statements or outlook. Actual results may differ materially. Please refer to the risk factors in our most recent 10-Q filed with the SEC. In addition, during today's call, we will discuss non-GAAP financial measures. These non-GAAP financial measures should be considered in addition to, not as a substitute for or in isolation from GAAP results. Reconciliations of the non-GAAP metrics to the nearest GAAP metrics are included in the earnings press release issued today, which is available on our website. I encourage you to visit our investor relations website at investor.modeln.com to access our second quarter press release, periodic SEC reports and the webcast replay of this call. Finally, unless otherwise stated, all financial comparisons in this call will be to our fiscal-year 2021 results. And with that, let me turn the call over to Jason.

Jason Blessing: Thanks, Carolyn. And good afternoon everyone. And thank you for joining our call today. Our second quarter results outperformed across the board, exceeding all key guidance metrics, including total revenue, subscription revenue, professional services revenue, and adjusted EBITDA. We also had another very strong bookings quarter, which when combined with our Q1 performance positions us well for a strong second half. And as previously discussed, we are targeting to exit our fiscal year at a 20% SaaS ARR growth rate as we anticipate this key metric to accelerate in the second half of the year. As you will hear when John gives guidance, we are confident that we are in fact on track to hit this important milestone. In Q2, we closed SaaS transitions with two of the largest pharma companies in the world. As we have shared on our recent calls, we expect 2022 to be a pivotal year in SaaS transitions as the conversion of remaining on-premise customers to the cloud accelerates. I am also pleased to share that we're ahead of our first half internal plan for SaaS transitions, which is one of the growth levers driving upside this year. Even more importantly, we are seeing a meaningful amount of our bookings this year coming from non-SaaS transition deals, which bodes well for our future. Given the success we are seeing with SaaS transitions, we also continue to see our maintenance decline at an accelerating rate compared to recent levels. Declining maintenance is a seminal event in any on-premise to SaaS transition story and we view this as a very positive trend as Model N completes its evolution to a SaaS business model. Next, I'd like to share some quarterly business highlights. During the quarter, we signed SaaS transitions with two of the largest pharma companies in the world, Sandoz and Pfizer. Sandoz, one of the largest generic drug manufacturers in the world, is a subsidiary of Novartis, who you may recall started their SaaS transition last year. The positive momentum on the Novartis project influenced the decision to start the Sandoz project and we are very excited to partner with both companies on their digital transformation. The decision to launch Sandoz’s SaaS transition was based on a rigorous business case that outlined the following benefits

John Ederer: Thank you, Jason, and good afternoon to everyone on the call today. As Jason noted, we had a strong second quarter exceeding all of our guidance metrics. Revenue upside was driven by both subscription and professional services while our strength in adjusted EBITDA and non-GAAP EPS was driven by the strong revenue performance and continued good cost management. Our strong bookings performance over the first half has improved our outlook for the year and you'll see that when we discuss our guidance later in the call. Turning to the financial results for the second quarter, total revenue grew 11% to $53.3 million, which exceeded the top end of our guidance. Subscription revenue increased to $38.2 million also exceeding the top end of our guidance range. And we saw upside and professional services revenue, which grew by 23% year-over-year to $15 million. Looking at profitability for the second quarter, total non-GAAP gross profit was $31.9 million or a gross margin of 60% versus 57% in Q2 last year. Non-GAAP subscription gross margin improved to 67% versus 66% in Q2 last year. The non-GAAP gross margin for professional services was very strong again in Q2 hitting 42% versus 29% a year-ago, that this team continues to execute extremely well. Operating expenses for Q2 were lower than expected due to the timing of some hiring and other investments. And as a result adjusted EBITDA for the quarter was $6.6 million and well ahead of the high end of our guidance of $4.5 million. Adjusted EBITDA margin was 12% for Q2 versus 6.3% a year ago. And Q2 marks the fourth consecutive quarter that our EBITDA margin has been back in the mid-teens. Finally, non-GAAP net income was $4.9 million or $0.13 per share, which is $0.05 ahead of the high-end of our guidance of $0.08 per share. On the balance sheet, we ended the quarter with $170.5 million in cash and equivalent, which was up $15 million from the end of December on very strong cash collections. I know that some of you look at calculated billings, which is typically defined as revenue plus the sequential change in deferred revenue. For Q2 calculated billings were up 5% year-over-year, which is in stark contrast to the strength we are seeing in RPO, which I will discuss in a moment. Calculated billings can sometimes vary depending on invoicing cycles and other factors. We typically focus on RPO, which is a GAAP metric in a measure of our total backlog. As we believe this is a more meaningful indicator of the underlying health and predictability of our business. Turning to RPO or remaining performance obligations, the total balance was $284.6 million at the end of Q2, representing an increase of $81 million or 40% year-over-year. The current portion of our RPO balance was $123.4 million, which grew $15 million or 14% year-over-year. And the non-current RPO was $161.2 million, an increase of $66 million or 68% year-over-year. The high growth in RPO reflects the strong bookings performance over the first half of this year and provides better visibility for future contracted revenue. As a reminder, during the year we continue to expect strong growth in SaaS revenue to be offset by declines in maintenance revenue, as cloud migrations, accelerate. To give you a better indication of our success in transitioning from on premise to SaaS, we have begun disclosing SaaS ARR. This represents the annualized value of our-daily subscription revenue for the most recent quarter. As we've noted on our last couple of earnings calls, we anticipated a more challenging quarter in Q2 from a comparison standpoint. This did transpire in the second quarter, as we finished with $89.9 million in SaaS ARR which was up 17% on a year-over-year basis. While our trailing 12-month net dollar retention on SaaS was 116%, both of these numbers were slightly below recent trends, but again as we previously commented we expect SaaS ARR growth to accelerate over the second half and exit the year at our 20% growth target. Now let me turn to our guidance. For the third quarter we expect total revenue in the range of $54.5 million to $55 million. Subscription revenue to be in the range of $39.2 million to $39.7 million, adjusted EBITDA to be in the range of $7 million to $7.5 million and non-GAAP EPS to be in the range of $0.14 to $0.16 per share, based on a fully diluted share count of approximately 37.2 million shares. For the full year of fiscal 2022 we are increasing our total revenue range to $215.5 million to $216.5 million with subscription revenue expected to be in the range of $156 million to $157 million. We are also raising our outlook for adjusted EBITDA to a range of $27.5 million to $28.5 million generating non-GAAP EPS in the range of $0.56 to $0.59 per share, based on a fully diluted share count of approximately 37.3 million shares. In summary, I'm pleased that we've been able to navigate this transition and make an acquisition all while maintaining strong profitability generating, good cash flow and meeting or exceeding expectations. Running a responsible balanced profitable growth business is very much a part of our DNA. While we're in the midst of this transition a good proxy for our future progress towards the Rule 40 is to look at SaaS ARR growth plus adjusted EBITDA margin. Looking at our targeted SaaS ARR growth of 20% plus the implied adjusted EBITDA margin from our FY 2022 guidance today would put us at 33%, which is illustrative of our continued profitable growth objective. Now I'll turn the call over to the operator for any questions. Operator?

Operator: Thank you. [Operator Instructions] Your first question comes from Ryan MacDonald with Needham and Company. Please go ahead.

Matt Shea: Hey, thanks for the question. This is Matt Shea on for Ryan. Wanted to touch on Model N 3.0, we learned that Rainmaker that 3.0 will allow customers to create a mix and match and ultimately create hybrid offering. So curious what kind of opportunities this creates that you maybe couldn't go after before, and then is it fair to expect that these hybrid clients start small and then you guys can upsell the modules over time?

Jason Blessing: Yes. Hey Matt good evening. So by hybrid, I assume you mean being able to consume revenue and compliance management through our software as well as business services. And interestingly enough, part of our investment thesis with business services was – was really just a or was primarily to go after new logos. But what we have seen and we've signed a few deals with customers now where they didn't use Model N in the business for things like government pricing as an example, Medicaid claims processing and did not have the expertise in house. And so they found business services to be very attractive. And so when we talked about that hybrid environment, again it really reflects the fact that we have such a broad set of offerings that we can tailor to customer's specific needs and their business requirements and how they want to want to consume our offerings.

Matt Shea: Got it. That's helpful. And then appreciating that the business services help expand your TAM in part due to those kind of pre-revenue biotech, we're starting to see some slow down in biotech funding relative to some of the 2021 peak levels. Just curious if that poses any risk to the business services segment, or if that tail is still long enough that whether there's a slowdown in funding or not, it's kind of immaterial relative to the broader opportunity in front of you? Thanks.

Jason Blessing: Yes, it's more the latter. We've actually been seeing our pipeline accelerate in business services, and I think it's more reflective of how big and untapped and underserved that market is. So while certain areas may be slowing down a bit, but there's still a broad part of that market that continues to invest. And Amylyx I cited in the script is a great example of a customer that we actually started working with during the FDA approval process. And then they signed [indiscernible] customer when they got their stamp of approval and started selling.

Operator: Next question comes from Joe Meares with Truist. Please go ahead.

Joe Meares: Hey guys, thanks for taking the question. At Rainmaker, you talked about some new products including advanced testing services and engage we love to hear about any early customer feedback there, if those products are available for customers yet? Thank you.

Jason Blessing: Yes. The advanced testing services are products that we have available in our leveraging in the marketplace today and just about every single one of our customers uses those services to help deal with the stringent internal audit constraints around consuming a new cloud release. So the advanced testing services has actually been a major enabler of some of our larger SaaS transition and engages design, it's – It is a product that's on the roadmap and it's a product that's really designed to help users better navigate the system; consume new features and functions more quickly, and it's something that we'll be rolling out next year.

Joe Meares: Helpful. Thanks. And then just as a follow-up, one of the trends you talked about at Rainmaker affecting high tech was the ongoing supply constraints. I was wondering if you could talk about how your – which of your products help here if you're seeing any increased demand in this space because of what's been going on in the supply chain? Thanks so much.

Jason Blessing: Yes, certainly our channel data management product helps high tech customers with supply chain constraints because they want to make sure that they are – have the right incentives in place to push their scarce products through the most profitable, most reliable channels. So we have seen an uptick in the high tech business, as I said, and channel data management is one of those products to solve the very top-of-the-mind issue these companies.

Joe Meares: Thanks again.

Jason Blessing: Thanks Joe.

Operator: Next question Chad Bennett with Craig Hallum. Please go ahead.

Chad Bennett: Great. Thanks for taking my questions. John, maybe first one for you, just can you give us a little bit insight, the dynamic on RPO between CRPO and non-current, and just kind of that Delta there, whether in terms of deal ramps or deal structure and maybe what to expect as much as you care to share in upcoming quarters with respect to CRPO?

Jason Blessing: Yes, sure. No happy to – we and solid growth on both metrics but obviously the total RPO number at 40% year-over-year outshined a bit. And what I would say there is that we actually look at both the current RPO gives us a great visibility in terms of our next 12 months revenue, particularly on the subscription side of things. So that's an important metric for us. And then on the total RPOs side that really goes to the overall health of the business and what we're seeing from a booking standpoint. One of the big drivers behind that is the SaaS transition deals those tend to be larger deals and longer term in nature. It's not uncommon for those to be three to five years in length. And so those contribute quite a bit to the total number and then roll into the current number each year.

Chad Bennett: So should we see that that Delta John kind of compress and it maybe where the CRPO accelerates a bit, especially if you kind of the second half of the year and the next year, and maybe the deal ramps are more of a tailwind?

Jason Blessing: Yes. I would say maybe over time you might see those numbers converge; those growth rates converge a little bit. The way I guess, I would think about the total RPO number in the long-term RPOs each year that in effect backfills our current RPO. So as you consume current RPO over the next 12 months you’ve already got bookings in place that will fill in for that number that you consume each year. And so that’s why I think both are important that the total RPO number in that long-term gives us a pretty good runway of visibility for the next several years.

Chad Bennett: Got it. And then maybe one follow-up. I think it was Jason, but maybe it was John. Just in terms of, you talked about net expansion and I think you said you are seeing more net expansion from kind of cross-sell, up-sell or add-on products from a materiality standpoint versus kind of like for like migration dollars. Can you just talk about kind of how significant that’s been over the last few quarters and maybe any type of improvement I guess maybe that's the right or wrong word in terms of cross-sell, up-sell efficiency into the go-to market? Thanks.

Jason Blessing: Yes. Chad I'll take that. So as I’ve said on past calls, SaaS transactions have been a great catalyst to get back in front of our customers and retail the Model N story and even more importantly plan out not just the SaaS transition, but what are the other things that customers can consume from Model N to drive value? And I think what's become a really encouraging trend out of those discussions is we have a number of products that we're not contributing in a material way to our bookings 18 months ago, that now are making up a significant part of our bookings in addition to SaaS transitions. And so when I look back over the last couple of quarters, it's things like state price transparency, it's things like our global products – global price management, global tenders valid data, business services some of the enhanced support offerings that we're able to bundle in with a SaaS contract. So, like I said it's been a great trend in the business that these SaaS transitions have been a catalyst to get back in front of customers. And as you were probably thinking, as I just rattled off that list, we have a lot of different things that we can sell – sell to our customers, and that doesn't even include just moving current Model N footprint into other divisions. So there's a nice dispersion across all of those different opportunities we have as we look at what we're selling into the base.

Chad Bennett: Great. Thank you. Nice job on the quarter.

Jason Blessing: Thanks Chad.

Operator: Next question, Joe Vruwink with Baird. Please go ahead.

Joe Vruwink: Yes. Hi everyone. I'll maybe stay on the same topic, the portion of your bookings that come from non-SaaS transition deals. Can you just maybe elaborate on how that impacts the financial model maybe differently than Model N has been seeing? I think we've been in a period of time where you've had success signing really big deals, but multi-year deals some deals that have ramps are what you just described maybe more prone to near-term activation. So it kind of creates this more near-term certainty on top of the longer term tailwinds with the transitions?

Jason Blessing: So, Joe, could you could – could you restate the question?

Joe Vruwink: Yes. Basically I guess the gist of it is if you get a year of bookings where it's not so heavily reliant on fast transitions to the earlier points about if the other products and the upsell, cross sale, that seems to be driving good activity here. How that might influence your, I guess, execution and your more near term growth profile if these are the types of products that might be prone to quicker activation ultimately?

Jason Blessing: Yes, okay. That's really helpful, Joe. Thank you. So I guess there's a couple of things that I would say there. And some of this goes back to when I started at the company. We have a multi-million dollar, $70 million [indiscernible] that we've been going after with SaaS transitions. And we've talked about the white space in our customer base, and this was even pre some of the new products that we have been three to four expats [ph]. And so the fact that we had that unique opportunity, but weren't staffed up from a go-to-market or a selling motion perspective to capitalize on it, I thought was an issue. And so what we're seeing now with some of these results is that multi-year effort in bifurcating our, sales force around hunters and farmers, getting more high value products for those teams to sell. And as you point out, certainly when you get a customer to the cloud, being able to turn on a new incremental product, both in terms of the effort to sell it and implement, it goes down pretty dramatically. So, yes, I would characterize some of that nice uplift that we're getting from cross sell upsell as just a by-product of how we organize things onto market and what happens when you transform into a cloud company.

Joe Vruwink: Okay. Okay, that's great. It would seem that your services team is running at a really high utilization level. Are you perhaps running up against maybe the ability to hire, influencing how you think about growth going forward? And can you maybe just address the broader kind of there is huge demand for these very specifically trained service professionals for the Life Sciences space. How you kind of go about competing or how your recruitment plans have been going.

Jason Blessing: Yes, that's also a good question, Joe. So, we knew last year coming into this year was going to be a pivotal year in SaaS transitions. And so there were two things that we did ahead of that. One, we did hire bit ahead in our services organization to make sure that we have the right capacity to deliver what is a very robust backlog of business. And then the second thing we did is we cultivated, I would characterize it as three or four SI partnerships that could see the path forward, the pretty significant Model N practices during the SaaS transition period and then some of the additional work that we were just talking about, cross sell and upsell. And it's really been that combination of our own hiring and the great team we have, as well as some very strong partnerships with some of the SIs in the field that's allowed us to fulfil that work. I will say this, we probably lean a little more on SIs as some of these bigger customers and bigger projects work their way through the system. But I do think we've got good flexibility with the SI network to deliver.

Joe Vruwink: That's great. Thank you very much.

Jason Blessing: Thanks, Joe.

John Ederer: Thanks Joe.

Operator: [Operator Instructions] Your next question comes from Brian Peterson with Raymond James. Please go ahead.

Brian Peterson: Hey gentlemen, thanks for taking the question. So, first just kind of cross sell, there's obviously some new products that are driving bookings. I'd be curious for a lot of these products is it more Greenfield than what you guys have historically done? A lot of that's been transitioned enough like, are we not going to see maintenance declines as it relates to some of these deals? I want to make sure I understand, like what's in place for your customers a as you kind of broaden that SaaS adoption across the portfolio.

Jason Blessing: Yes, the maintenance phenomenon is really related to SaaS transitions of core footprint that is out there on-premise. Things like state price transparency, some of our global products, business services, of course, and then some of the enhanced services tied to SaaS; there is no legacy product that customers are moving from. So it is Greenfield, I guess, to use your terms and doesn't have any maintenance that's deprecating along with it.

Brian Peterson: Got it. Thanks, Jason. And maybe just on the services side, I know you guys made some announcements out at Rainmaker, as we think about like a fully transitioned model over the cloud, what's the right way to think about services intensity with that? Because obviously the domain expertise is there. Maybe there isn't as much implementations. I'm just curious how to think about kind of the long-term subscription versus services mix. Thanks guys.

Jason Blessing: Yes, we haven't guided on kind of that long-term model, but I can tell you anecdotally what we've seen in some of our net new customers that we've signed and implemented the services, the attach rate is more like $0.75 to a $1.25 of subscription. And it just kind of depends on the customer's requirements, complexity and footprint, but much more in line of what you would see in a native SaaS company.

Brian Peterson: Thank you.

Jason Blessing: Thanks.

Operator: Next question comes from Matt VanVliet with BTIG, please go ahead.

Matt VanVliet: Yes, thanks for taking the question. Wanted to dig in a little bit in terms of what you are seeing from potential price increases or other sort of inflation hedging type of mechanisms that you might have both in your contracts and as you negotiate SaaS contracts or expansion deals? Kind of what levers are you trying to pull? And what has been the customer reaction thus far?

John Ederer: Yes, this is John; I'll start in on that. So, I guess from a more broader perspective and inflation in general, this hasn't been a huge factor for us to date on the expense side of things where we might see a little bit of impact is really just on the employee costs. Although I would argue we've been in an inflationary market for tech talent for several years now if not decades. So I think that's been kind of par for the course. In terms of some of the things that we're doing from a customer standpoint, we have been able to push through price increases and we're actually getting good traction on renewals in that regard. So that's been a positive. And so net-net, I would say that inflation has not been a concern and in fact, we've been able to benefit from it a little bit.

Jason Blessing: And I would add on to what John said, we also did recently nudge up our professional services rate card as well.

Matt VanVliet: Okay. Very helpful. And then, I guess exiting Rainmaker, how would you judge it in terms of new business development and overall customer relationship management there? And kind of within that, what has been the feedback of the 3.0 strategy? Has there been any level of confusion or just sort of additional chance for educating customers around kind of what the long-term strategy looks like there? Anything coming out of there that would be really helpful?

Jason Blessing: Yes, so the 3.0 strategy, I would say, this is something that we've been road testing with a number of our large customers over the last year. And in fact, some of the strategy work we did around this involved direct customer feedback. So I think there has been a level of excitement with customers, particularly given that most of our customers view us as a very strategic partner in some of these key areas. And so to have a broader portfolio of services that they can consume from one trusted advisor seems to resonate well with them. As I mentioned in one of the earlier questions that was asked of me as well small customers, big customers, business services, and that value prop has resonated well, probably more surgically at the upper end of the market, but as a broad-based solution at the, mid-market. So, there has been good validation of this strategy. And as I said, it was a collaborative effort with some of our largest customers. I personally was very pleased with the turnout at Rainmaker this year. I believe the final tally we published was over 700 non-model in attendees. And particularly given how dynamic the market is right now around some of these regulatory changes, that was a big topic of discussion and both new prospects, as well as existing customers. The sessions that were by industry leaders like King and Spalding on the state price, transparency side of things, those were very well attended. And our sessions that we did on our own products to addressed those issues were oversubscribed. So, I was very pleased with attendance and some of the engagement on these key topics. And I was at a virtual show. So I guess that's a trade-off. Maybe you get a little bit better attendance, but harder to touch people. But we are starting to get back on the road again, our customers are getting back in the office and we got a busy summer ahead of us getting out and visiting people that we haven't seen in potentially a couple years.

Matt VanVliet: All right. Great. Thank you.

John Ederer: Thanks, Matt.

Operator: We have time for one more question. Joe Goodwin with JMP Securities, please go ahead.

Joe Goodwin: Great. Thanks guys for taking the question. And congrats on the quarter. Just wondering what was the percentage of ramp deals in the quarter?

Jason Blessing: Percent of ramp deals was actually lower than it was pre-pandemic. So, as we've talked about Joe, we used that as a fuel to keep things moving, both sales and services during the pandemic. And we've said that we're not really using them as much or if at all. And so it was lower than pre-pandemic levels when something that I would say is a footnote in the Model N pandemic stories at this point.

Joe Goodwin: Understood. I mean on current RPO, just the sequential decline from 1Q. Anything to note there, John, or any comment?

John Ederer: No. I mean, the only thing that would be playing into that is just the timing of contracts and how they are rolling through the model, particularly the maintenance. And so maintenance we see a lot of renewals around our fiscal year end and around the calendar year end, and then that bleeds off over the course of the year. And so, that's probably the biggest factor.

Joe Goodwin: Thank you.

John Ederer: Absolutely.

Operator: Thank you. I will now turn the call over to Jason Blessing, CEO for concluding remarks.

Jason Blessing: Thank you, operator. I wanted to end today's call on a personal note. I just celebrated my four year anniversary at Model N and just wanted to share a few things. First of all, this is by far the best job I have ever had. Our corporate culture and our core values are absolutely second to none. And I have worked at some amazing companies over my 25 plus years in enterprise software. Second, it has been an absolutely amazing experience to work with companies that are our customers, companies that are truly improving the quality of human life. Something we've certainly seen play out with spades over the last couple of years. And then finally, it's been really rewarding to take my 15 plus years of working at native SaaS companies and apply that expertise and work side by side with an amazing team here at Model N to drive the business model transition that are now coming out the backside of, and it has just been incredibly work rewarding to build such a great durable company that's still got many great years ahead of it. So again thank you everyone for attending our call. And have a great night.

Operator: This concludes today’s teleconference. You may disconnect your lines at this time. And thank you for your participation.