Earnings Call Transcript - CGNT Q1 2024

Operator, Operator

Good day and thank you for standing by. Welcome to the Cognyte First Quarter Fiscal Year 2024 Earnings Conference Call. At this time, all participants are in a listen-only mode. 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. You may begin.

Dean Ridlon, Head of Investor Relations

Thank you, operator. Hello everyone. I'm Dean Ridlon, Cognyte’s Head of Investor Relations. Thank you for joining us today. I’m here with Elad Sharon, Cognyte’s CEO; and David Abadi, Cognyte's CFO. Before getting started, I would like to mention that accompanying our call today is a presentation. If you'd like to view these slides in real-time during the call, please visit the Investors section of our website at cognyte.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 except as required by law, Cognyte 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 Cognyte's actual results to differ materially from those indicated in these forward-looking statements, please see our annual report on Form 20-F 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 Investors section of our website at cognyte.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 would like to turn the call over to Elad.

Elad Sharon, CEO

Thank you, Dean. Welcome, everyone, to our first quarter conference call. I'm pleased to report a good start for the year with solid Q1 results across several key metrics. Revenue grew sequentially and came in ahead of our expectation at $73 million. I'm very pleased with our gross margins increasing by 800 basis points compared to Q1 last year and gross profit increasing 7% year-over-year on a network adjusted non-GAAP basis. Free cash flow was very strong coming in at $70 million, also ahead of our expectations. Today, I'll start with a review of our first quarter's significant wins in market dynamics. Next, I'll discuss our differentiated technology and how we believe we're well-positioned to leverage the latest AI innovations to increase customer value. And lastly, I'll discuss our updated outlook for the year. I would now like to review some of our significant wins in the quarter that highlight our differentiated technology and deep customer relationships. Our investigating analytics solutions help national security, law enforcement, national intelligence, and other security organizations to accelerate investigations. The first deal is for approximately $8 million with an existing national intelligence customer for its mission to combat drug trafficking and other high-impact crimes around the borders. We believe we're selected because of our cutting-edge technology that consistently outperformed solutions from other vendors during the various operational activities performed by this customer. The second deal is with an existing national security customer for approximately $9 million. It represents an expansion of our customers' capabilities and functionality for its mission to address an increase in terror and criminal activities in the country. We believe we're selected due to our ability to accelerate security investigations and the long-term relationship we have with this customer. The third deal is for approximately $5 million from an existing national security customer. The deal is to expand capacity and widen the operational capabilities of their solution to more effectively combat criminal activities. We believe we're selected based on our long track record of success in value creation. The common thread we see through these wins is our innovative and differentiated investigating analytic solutions and our ability to help customers successfully create operational volume. Looking at the current market dynamics, we see a noticeable change versus what we saw last year. A year ago, many customers suffered from budget uncertainties, which impacted their visibility and ability to plan ahead. This year, more customers are expressing confidence in their budgets and plans. Our customers' increased confidence supports our expectations for the year and is translating into more discussions about future needs. For example, at a recent industry conference, we saw a higher level of attendance and interest from customers. Overall, we clearly see more customers returning to normal behavior this year, compared to what was happening last year. Next, I would like to discuss our innovation and differentiation. Our customers face unique challenges when it comes to investigating analytics and decision-making. They have to fuse and analyze data at scale from a large variety of different sources, including sensitive data. The objective is to uncover insights quickly to accelerate investigations. Cognyte is focused on investigating analytics in order to uncover hidden connections inside large diverse data sources. We have been doing this for many years by continuously improving the investment analytics and incorporating artificial intelligence models in our solutions. The recent developments in AI provide us with new opportunities. We are currently focused on leveraging the latest innovations to enable our customers to derive even greater value from the data. We believe that there are new market segments that face investigating analytics challenges that present us with good expansion opportunities over time. We believe that our long-term market leadership in investigating analytics combined with our technological strength and our strong relationships with our large customer base across the globe position us well to leverage AI innovation and drive long-term growth. Looking at our outlook for this fiscal year, given the improved visibility, we are raising our revenue guidance for the year to $303 million, plus or minus 2%, representing 7% year-over-year growth at the midpoint on an SIS Adjusted non-GAAP basis. With revenue expected to grow by 7%, we now expect gross profit to grow faster at more than 10% year-over-year. As for cash flow, we are now expecting positive cash flow from operations for the full year. Looking beyond this year, given 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 long-term growth. To summarize, our customers continue to face significant investigative challenges across many use cases. Our mission is to help them accelerate investigations and mitigate a wide range of threats before they unfold. Our customers view us as domain experts and a trusted partner. We are pleased with our first quarter results and positive momentum and are raising guidance for the current year. Long-term, we target continued growth and margin expansion. Now, let me turn the call over to David to provide more details about our results and outlook.

David Abadi, CFO

Thank you, Elad, and hello everyone. Our discussion today will include non-GAAP financial measures. The reconciliation between our GAAP and non-GAAP financial measures is available, as Dean mentioned, in our earnings release and in the Investors 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 pleased with our Q1 financial results as we add solid performance across revenue, gross margin, cash flow, and bookings. The ongoing demand for our cutting-edge investigative analytics solutions continued to be strong during the quarter and we continue to win deals from a variety of customers. Q1 revenue came in at $73 million, up $2 million from Q4. Total revenue came in at $25 million, representing 6% sequential growth and 11% year-over-year growth. Gross profit was up 9% sequentially and 7% year-over-year, and our software gross profit grew faster than software revenue and was up 90% sequentially and 80% year-over-year. Q1 gross margin was 68.4%, up 250 basis points from Q4 and up 800 basis points from Q1 last year, primarily due to an increase in software revenue. Our gross margin reflects our competitive differentiation and ability to create value for our customers. All of the revenue, gross profit, and gross margin growth rates, I just discussed are on an SIS Adjusted non-GAAP basis. Our Q1 non-GAAP operating expenses were $55.7 million, slightly higher than the Q4 level. Over the last few quarters, we improved our execution, better focused the organization, and improved our cost structure resulting in sequential revenue growth, higher gross margin, and a significantly reduced operating cost. Our Q1 non-GAAP operating loss was $5.5 million, and the non-GAAP adjusted EBITDA loss was $2.3 million. Turning to cash. We generated a significant positive cash flow from operations of $19 million during Q1. The positive cash flow was driven by our improved financial results and strong cash collection. In terms of the balance sheet, we entered the quarter with cash of about $73 million and no debt. Our long and short-term RPO continued to be strong. Total RPO at the end of Q1 was $581 million, and short-term RPO was $283 million, approximately the same level as of Q4. This healthy backlog and continued demand allow us to increase again our outlook for the current year. Turning to fiscal 2024. For the full year, we are raising our revenue outlook to $303 million, plus or minus 2%, reflecting approximately 7% year-over-year growth on an SIS Adjusted non-GAAP basis at the midpoint of the range. Our revenue outlook is driven by our current view of the backlog deployment schedule for this year and assumes similar macroeconomic conditions. Let me share with you more color on how we see the remainder of the year evolving. For revenue, based on the current short- and long-term backlog deployment schedule, we expect Q2 revenue to be similar to Q1, and the second half to be higher than the first half. As a result of the strength and quality of our backlog and recent bookings, we're increasing our full-year non-GAAP gross margin expectation to 66.5%, an improvement of 150 basis points versus our previous outlook and a year-over-year improvement of 375 basis points on an SIS Adjusted non-GAAP basis. Gross margin will fluctuate between quarters based on the revenue mix. For our non-GAAP operating expenses, we continue to expect total expenses of about $220 million for the full year and to be relatively flat throughout the year. Our improved cost structure combined with revenue growth and higher gross margins will allow us to improve operating margins over time. We remain on track to achieve our goal of driving positive non-GAAP adjusted EBITDA during Q4 of this fiscal year. As a result, we are now expecting a smaller annual EPS loss. At the midpoint of the revenue range, we are now expecting a $0.53 annual non-GAAP EPS loss, an improvement of $0.07 versus our previous outlook. Our non-GAAP EPS will fluctuate quarter-to-quarter, partially due to our non-GAAP tax expenses. We expect our Q2 non-GAAP EPS loss to be larger than Q1, primarily as a result of our non-GAAP tax methodology. Turning to cash flow, given the strong cash flow from operations we generated in Q1 and improved financial outlook, we are now expecting positive cash flow from operations for the full year. We continue to expect about $10 million of payment for CapEx, partially offset by additional receipts from the SIS divestiture related to the holdback and price adjustment, which we expect to receive during the second half of the year. To summarize, 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 solution by leveraging the latest technologies, including emerging innovation in artificial intelligence. We believe this technological innovation increases the operational value our customers generate from our solutions and helps drive demand. We are pleased with our first quarter results. We now expect about $303 million of revenue, plus or minus 2%, and improving gross margins and profitability for FY 2024. We're expecting positive cash flow from operations for the year. Looking beyond FY 2024, we believe that the combination of our cutting-edge technology, large and loyal customer base, and the opportunity to address the needs of new customers position us well for long-term growth. With that, I would like to end the call over to the operator to open the line for questions.

Operator, Operator

Our first question will come from Mike Cikos of Needham. Your line is open.

Mike Cikos, Analyst

Hey, guys. Mike Cikos here. I appreciate the pronunciation on the last name there, but thanks for getting me on here. Wanted to start out with the quarter itself and then going over some of the upside and outperformance if you guys were able to deliver? First, obviously, revenue was above what we had anticipated. I know you guys were talking about flat sequentially versus this up, right? So, can you help us think about how the revenue came together in the quarter that was able to help you guys deliver that outperformance? That's the first question I'd like to delve into, and then I have a couple of follow-ups.

Elad Sharon, CEO

Yes. So, hi Mike. Yes, indeed, we see a healthy demand and positive momentum in the market over the last two quarters already and we're continuing to win significant deals. The reasons for being ahead of expectations for Q1 are mainly related to backlog conversion scheduling. That's the reason we're able to deliver more within the quarter.

Mike Cikos, Analyst

And just to pull it out because like your backlog bookings, right, if I think about the disclosures you guys provided today with RPO and current RPO climbing, from Q4 to Q1 by a couple of million dollars, right? So, when you're calling out that backlog conversion, should I interpret that as like backlog came in earlier than you guys had anticipated and you were still able to backfill that based on the fact that those RPO and current RPO balances climb sequentially? Like can you tease that out?

Elad Sharon, CEO

Yes. So, maybe before talking about the RPO, I want to share with you a little bit about the market dynamics today because I think it's important. We discussed the active demand and the positive momentum; we have strong backlog long and short-term, but we also see more and more customers that are more confident in their budgets and plans. Actually, the Q1 results are derived by accelerated customer readiness and for us being able to convert more backlog into revenue within the quarter. And that's what we see. Actually, we see more and more customers in better position. This is the reason we were able to deliver more in Q1 and also raise the outlook for the year.

Mike Cikos, Analyst

Got it and appreciate it. And I know that you guys had also, again, coming back to the RPO for a second. The RPO and current RPO, you guys said that's flat sequentially. If I go back to my notes, it's actually up by a couple of million dollars. So, call it flat on a percentage basis, but you did grow it from 4Q to 1Q. One of the things that I'd like to hear, what has the typical cadence been? Like, if I go from 4Q to 1Q last year, the year before that, traditionally, is RPO and current RPO climbing sequentially from Q4 to Q1 or no?

David Abadi, CFO

So, RPO is reflected by multiple elements, including multiple year support contracts and other elements that can impact the total. There's no specific pattern like that; we could see that the RPO in general can grow from quarter-to-quarter. But overall our RPO is very strong and our ability to convert more backlog in Q1 and giving the Q1 overall result gave us the ability to improve our outlook for the year. I believe that the RPO that we have, the short-term and the long-term, supports our future growth and is very solid.

Mike Cikos, Analyst

Thank you for that, David. I do appreciate the fact that you guys are talking about the Q1 outperformance with this backlog conversion and customer readiness, but at the same time, both RPO and current RPO balances remain strong. So, thank you for calling that out. I think the latest item that I really wanted to talk to you about is the gross margins. That's the last item I really wanted to hit on with you guys before I turn it over to my colleagues. With gross margins, obviously, you guys were well ahead of expectations. So, can we do a similar, I guess line of questioning versus what we just did with revenue? First, for gross margin, what helped drive that outperformance in Q1? And then second, what provides you the confidence to now take up gross margin, 150 bps for the year versus what we had anticipated previously?

Elad Sharon, CEO

Yes. So, Mike, maybe I'll start and then David will continue. We do see higher quality of the bookings. So, the mix is better. Better mix means more software revenue in the mix. And this drives higher gross margin overall. We do see also that we expect that when revenue goes up, the gross margin will also improve over time. About the specifics, David, do you want to add?

David Abadi, CFO

Yes. I will elaborate on that. So, obviously, we are very pleased with our gross margin in Q1 and also the ability to improve our outlook for the year. In total, we believe that year-over-year there will be almost a 400 basis point, 275 basis points improvement. The main reason behind it is the quality of the booking, more software revenue. We see also in the mix in Q1 that our total software revenue was in a higher mix; it was almost 90% of our revenue. This trend that we are able to continue to deliver – and we said our premium solution with high margin is driving the gross margin over time. We're looking for the year with the 66.5%, and the main reason is the Q1 performance continuing with last year and overall backlog which gives us the confidence that we'll be able to drive it.

Mike Cikos, Analyst

That's great. And I know we're talking about the mix. So, just to put a final point on it. So, the assumption is that I guess the mix will normalize a little bit for the rest of the year and that's why we should expect Q2 through Q4 to come down from the 60% level in Q1. But at the same time the bookings quality is what's benefiting that overall gross margin. Is that a fair characterization?

David Abadi, CFO

Yes, that's fair.

Mike Cikos, Analyst

Terrific. I'll turn it over to my colleagues. Appreciate it. Thank you so much.

David Abadi, CFO

Thank you.

Elad Sharon, CEO

Thank you, Mike.

Operator, Operator

And one moment for our next question. And our next question will come from Peter Levine of Evercore. Your line is open.

Peter Levine, Analyst

Great. Thanks guys for taking my question here. Elad, your commentary earlier on the call, you said better budget discussions seem like customers are returning to normal behavior than last year. Can you kind of just maybe dive into that a little bit deeper, explain to us what you're seeing on the top of the funnel conversion rates and then your expectations, I think, throughout the rest of the year in terms of the macro impacting your ability to further reaccelerate?

Elad Sharon, CEO

Yes, sure. Thanks, Peter. So, we see healthy demand and positive momentum, and it's been over the last two quarters already. We continue to win large deals. The backlog is strong as we discussed before, and also our customers are saying – most of our customers are saying that actually they are more confident about their budgets and plans. We also expect the demand for our solutions to continue and increase, and there are actually a few drivers for that. First of all, we discussed it earlier in the call that customers’ challenges are becoming more complex and grow. So, in order for them to be able to do the job, they need increasingly more capabilities related to dealing with big data, and it's really important for them to get this technology. Also, our customer's objectives are to accelerate the investigation in time. This is one. Second, to improve the accuracy of the investigation, and third, to make it successful. Make it successful means to reach a conclusive outcome. So, it's about time, strength of the insight that they generate from the solution, and being able to conclude investigations. More analytics and more AI capabilities are extremely important for them and actually present even greater value over time. For that reason, we see the demand of customers improving along the way, and we believe that the recent developments will also generate more demand. I can give you an anecdote just to provide you with more color. We participated in an industry tradeshow a couple of weeks ago in Europe, a big one. We saw that it was well-attended; there were more participants than we used to see before. Many requests for meetings and demos, lots of interest in modernizing the technology with more analytics and more AI. Customers are now unlike last year that they were talking about pressing current needs; they were talking to us about future needs and what else needs to be done in their side in order for them to be able to accelerate their performance. All of those are very encouraging signs. I feel good about where we are today, and I feel good about being able to continue growing in the long-term. I hope this gives you some color about the dynamics of the market.

Peter Levine, Analyst

Yes. Thanks for the color. And maybe the last one is, it's good to see free cash flow tick higher. Maybe just talk about the levers that you're pulling internally on the sales and marketing side, R&D side, what's the trade-off? I mean, if you're going to deliver a little bit more leverage, maybe talk about what the trade-off is or maybe just, again, just emphasize where you're cutting costs while still being efficient in terms of growth. Thank you.

David Abadi, CFO

So actually, just to make sure that we understood the question, the question is about our margin expansion and the ability to trade-off between increased investment in OpEx versus growth. Is that correct?

Peter Levine, Analyst

Correct.

David Abadi, CFO

So, last year we had to make a lot of decisions about our cost structure versus the opportunity. When we looked at it, we believe that the opportunity is here. We are playing in this market for a long time. We're a market leader. We know our customer base for a long time. Our solutions are very innovative, and customers love what we provide them. We need to think about the cost structure and what is the right thing to do; you need to balance between your short-term and long-term. I think that we built a very well-organized organization that allows us to be there when the growth comes and capture it. I think that you can see that in Q1; the results show we are growing and improving our margin, and then we look that it will continue over time.

Peter Levine, Analyst

Perfect. Thank you for the color, guys.

Operator, Operator

I'm sorry. Our next question will come from Shaul Eyal of TD Cowen. Your line is open.

Shaul Eyal, Analyst

Thank you. Hi, good morning, good afternoon, guys. Of the three contracts that you've mentioned during your presentation, are these all existing clients or are these also new clients? Any displacement opportunities that you're seeing out there?

Elad Sharon, CEO

Yes. So, the examples that I used this quarter are existing clients. It’s upgrades of capacity and functionality. We did have also new logos there in the quarter, and we did give a few examples of large deals coming from new customers in previous quarters. So, the timing is changing from time to time whether it comes from existing or new customers, but those examples are with existing customers. The reason they upgrade is that they have the solution; they have the value that they need. The drivers for expansions and upgrades are either functionality, adding more analytics, more AI in order for them to be able to accelerate what they need to do, or they're dealing with more data. Those are the drivers, and we see it more and more with large customers that are expanding given further as the value is greater now with analytics.

Shaul Eyal, Analyst

Got it. Thank you for that. Maybe I want to double-click on your prior reply to Peter, alluding to the fact when growth returns. What internal steps have you taken to be ready for what might be the next cycle, not seeing the stability, and maybe even reacceleration? What steps have you taken internally?

Elad Sharon, CEO

So, given the situation, the macro environment last year, we took several steps. The first one was to focus on where the highest opportunities are in terms of market conditions, going to countries and to organizations that have more pressing needs but also have the budget. This is one. Second, we restructured the organization and adjusted the operating expenses to where it should be. David mentioned that actually we balanced it in a way that on one hand, we are able to overcome this macro environment, the conditions of the temporary disruption, but on the other hand, we are continuing to innovate in order to be able to capture the growth when the market is recovering, and that's what we're seeing now. We flattened the organization. We actually slowed down a roadmap that was more to modernize infrastructure and focusing more on value to customers and more analytics and actually focused and realigned the sales force to countries where we see more opportunities. So, we, on one hand, focused on the market. If I have to summarize, we focused on markets and countries where we see the potential that is higher, and they have budgets, on one hand. On the other hand, adjusting the OpEx and prioritizing the activities to increase customer value versus modernizing their platforms. Those were the highlights for last year. I see now that I think we took the right decision. I see now that this is actually working for us.

Shaul Eyal, Analyst

Thank you. Appreciate the color.

Elad Sharon, CEO

Thank you, Shaul. And I would now like to turn the call back to Dean Ridlon for closing remarks.

Dean Ridlon, Head of Investor Relations

Thank you, operator, and thank you everyone for joining us on today's call. Should you have any additional questions, please feel free to reach out to me, and we look forward to speaking with you again next quarter. Thank you.

Operator, Operator

This concludes today's conference call. Thank you for participating. You may now disconnect.