Cellebrite DI Ltd. Q3 FY2023 Earnings Call

Welcome to the Cellebrite Third Quarter 2023 Financial Results Conference Call. I would now like to turn the call over to your first speaker today, Mr. Andrew Kramer. Mr. Kramer, you have the floor. Thank you very much, Todd. Welcome to Cellebrite's third quarter 2023 financial results conference call. Joining me today from just outside of Washington, D.C. are Yossi Carmil, Cellebrite CEO and Dana Gerner, Cellebrite CFO. There's a slide presentation that accompanies our prepared remarks. Please advance the slides in the webcast viewer to follow our commentary. We will call out the slide number we're referring to in our remarks. This call is being recorded and a replay of this recording will be made available on our website shortly after the call. Let's start on Slide #2, a copy of today's press release and financial statements, including the GAAP, non-GAAP reconciliations. The slide presentation and the quarterly financial tables and supplemental financial information for the third quarter '23 and each quarter of 2022 and 2021 are available on the investor relations website at investors.cellebrite.com. Also unless stated otherwise, our discussion of our third quarter 2023 financial metrics as well as the financial metrics provided in our outlook on today's conference call will be done on a non-GAAP basis only and all historical comparisons are with the third quarter of 2022, unless otherwise noted. In addition, please note that the statements made during this call that are not statements of historical facts constitute forward-looking statements. All forward-looking statements are subject to risks and uncertainties and other factors that could cause matters expressed or implied by those forward-looking statements not to occur. They could also cause the actual results to differ materially from historical results and/or from the forecasts. Some of these forward-looking statements are discussed under the heading, Risk Factors and elsewhere in the company's annual report on Form 20-F filed with the SEC on April 27, 2023. The company does not undertake to update any forward-looking statements to reflect future events or circumstances. Slide #3 provides the agenda for today's call. As you will hear, we delivered excellent quarterly results and made meaningful strategic progress. As a result of our accomplishments to date and the near-term opportunities we see, we have updated our full year 2023 financial expectations. And with that being said, I'd like to turn the call over to Yossi Carmil, Cellebrite CEO.

Thank you, Andy and thank you all for joining us today. So first of all, I'm very proud of our third quarter 2023 performance, which demonstrates continued business momentum and meaningful strategic progress. During the quarter, we strengthened and expanded the scope of our customer relationships, delivered powerful innovation, and advanced our go-to-market activities. The role that Cellebrite solutions play in protecting our communities and accelerating justice is tangible and growing. Our technology is trusted by law enforcement around the world to advance cases in ways that put criminals behind bars, prevent future tragedies, help exonerate the innocent and protect privacy. Against the backdrop of a healthy market, we move forward into the final quarter of the year with a compelling value proposition that is resonating with customers worldwide. Now as detailed in Slide 4, we reported record Q3 results, and more specifically, ARR was $295.2 million, up 27%. Total revenue of $84.2 million grew 17%, driven by a 32% increase in subscription software revenue. Geographically, our revenue performance was led by 23% growth in EMEA, 16% in the Americas, and 13% in Asia Pacific. The dollar-based NRR was 125%. This was our 19th straight quarter above 120%. We closed 25 large deals, each valued at greater than USD 0.5 million. We delivered an adjusted EBITDA of $20.8 million or 25% on a margin basis and non-GAAP EPS of $0.09. And lastly, we ended Q3 with cash deposits and investments totaling nearly $283 million, up $39 million from Q2. Now with three solid quarters behind us and a robust set of near-term opportunities in front of us, we have updated our 2023 outlook. We'll cover that in more detail shortly. Let's now move to Slide #5 for additional insights into Cellebrite growth drivers, which help put our current results into context, while also addressing two topics that are top of mind with investors, namely, our growth drivers and the durability of our growth. First, our consistently strong ARR and revenue growth during 2023 reflects a healthy market that is benefiting from a powerful macro tailwind. The wide gap in public safety caused by unacceptably high crime rates, increasingly sophisticated criminals, the proliferation of digital evidence across a wide range of increasingly complex smartphones and other devices, limited then increasingly strained police manpower, and heightened interest in police operations and priorities. In turn, these trends are creating three major challenges for our public sector customers in the form of managing increased data volume and data complexity, reducing operational inefficiency, and embedding a high level of ethics and accountability in police protocols and actions. Cellebrite Digital Intelligence solutions help our customers address all of these challenges. The findings from our recently published 2023 industry trends survey for the public sector validate these issues, highlighting notable struggles around device backlog, smartphone security and encryption, old-fashioned approaches to reviewing digital evidence, weak chains of custody, and lack of proper training. Our customers' budgets continue to grow each year as both digital forensic units and investigative units allocate more resources to disruptive technologies like ours that can help them address these issues. But Cellebrite's ARR and revenue growth is about more than just a healthy market. We are succeeding with the land and expand go-to-market model that supports multiple growth vectors. Upselling and cross-selling into our installed base of more than 5,000 public sector customers, expanding our public sector footprint by winning new logos, implementing annual price increases, and continuing to expand our business in the private sector. Now I'd like to briefly elaborate further. Gaining more wallet share with existing customers is the single biggest driver of our growth, and we expect this trend to continue well into the future. Part of this existing customer growth comes simply from capacity growth in the digital forensic units as they add more licenses for our traditional collection of new resolutions to support operational expansion. However, most of our growth is the result of upselling and cross-selling. More specifically, more existing customers are turning to Cellebrite for advanced collect and review solutions to help them lawfully access and extract digital data from a broader range of more sophisticated smartphones and digital devices. Now, we are still in the early stage of what we expect will be a multiyear upgrade in upsell cycle for our collect and review portfolio. Not only is the adoption of Premium building more momentum, but we plan to command sales of our new UFED Ultra in early 2024. We're also capitalizing on cross-selling opportunities as we tap into new buying centers to address emerging areas, such as case management and evidence management within the digital forensic units and investigative units within that space. Now, these dynamics are helping us close more deals that involve multiple products. For example, our Premium suites was involved in almost every large deal in Q3, while Pathfinder or Guardian were part of nearly one-third of our large deals. We continually refuel our ability to drive existing customers' growth in the public sector by winning new logos. Now, although these customers are often small in size and contribute modestly to our ARR growth at the start of the relationship, our experience is that the spending from new customers grows meaningfully over time. We are also optimistic about our growth potential in the private sector. We are making good progress in winning new logos and in expanding business with existing customers, both enterprises and the service providers who support them. Sales in the private sector have continued to trend favorably this year with low 20% revenue growth in the third quarter. Our recent success reflects positively on the way our sales team has intensified their focus on large accounts as well as on investments we've made to broaden our offering. Over the past two years, we have augmented our traditional on-prem solutions with new SaaS offerings that allow for the remote collection of data from phones, computers, and cloud applications. Turning to Slide 6. I would like to share some thoughts on our top four strategic priorities going forward. More specifically, these priorities include: One, increasing our leadership in the digital forensic units; Two, accelerating our growth within investigative units; Three, building our business in the private sector; and Four, harnessing the power of the cloud. I'd like to expand briefly on each priority and will highlight some important third quarter customer wins in the process. Addressing the needs of digital forensic units has long been a major strength for Cellebrite. Not only are our collect and review offerings pervasive within the digital forensic units, but our end-to-end capabilities further embed Cellebrite in the workflows from the intake of digital devices through to sharing the digital evidence with investigators and prosecutors. Our Q3 revenue reflects strong demand for our premium software suite, which provides lawful access to the most advanced smartphones in ways that our competition is unable to match. For example, due to the differentiated capabilities of Premium, a large U.S. federal agency significantly increased its Premium footprint to over 100 sites. As a result, our ARR in this account grew by over 80% to USD 6.5 million. Now as we move forward, we are excited about our potential to help these customers reduce backlog, increase efficiency, and accelerate justice. To that end, we plan to further evolve how we pack our collect and review capabilities to optimize value, add more automation and new AI capabilities, provide greater deployment flexibility through the cloud, and enhance the user experience to achieve their objectives. The second priority is to accelerate our growth within the investigative units of our law enforcement customers. We recently expanded our offering for the investigators to deliver an end-to-end set of offerings with the introduction of our SaaS-based Smart Search solution. Smart Search utilizes the open-source intelligence technology we've gained by acquiring Digital Clues in late 2021 to securely automate the collection and review of publicly available online data, including social media platforms. In addition to Smart Search, we are seeing ongoing traction with our AI-powered Pathfinder investigative analytics, which is used by investigators to advance cases faster by surfacing relevant leads and discovering valuable connections within the vast volume of digital data that resides on a wide range of devices. For example, during the third quarter, we expanded our relationship with a major U.S. state police department, which licensed Pathfinder and Premium as a service to help it expedite cases involving digital evidence. Now this deal increased our ARR in the account by a factor of five to USD 900,000. In addition to leveraging AI to support digital forensic units, we continue to enhance the AI capabilities for data analysis and visualization in Pathfinder to help streamline and accelerate investigations involving digital evidence. We are also focused on the opportunity we see to build our business in the private sector, where our solutions are currently used by enterprises and service providers in the area of corporate investigations and eDiscovery. Now as noted earlier, we are seeing that offering, an integrated portfolio with the deployment flexibility to optimize data collection for the hybrid work environment is resonating strongly with customers. During the third quarter, we continued to close new Endpoint Inspector Mobile deals, which is helping to establish this offering as a leading internal investigation solution for content-based mobile data collection involving employees outside of the office. We also expanded our relationship with a leading nationwide eDiscovery company for our on-premise offering, increasing our ARR in this account by 20% to approximately USD 600,000. The fourth strategic priority is to help our customers harness the power of the cloud to cost-effectively and securely address their pain points and drive operational efficiencies without taxing limited IT resources. Over the past 18 months, we have taken major steps forward to introduce cloud-based alternatives to our traditional on-prem software offerings as well as launched powerful new SaaS-based solutions. For example, we have continued to make good progress with Guardian, our SaaS-based solution for end-to-end case management and evidence management. We won double-digit Guardian deals in Q3, and the number of users on this platform continues to grow. In terms of SaaS offerings, as I mentioned a moment ago, we see promising potential for Smart Search within investigative units. We are excited that one of the Smart Search early adopters is among the largest police departments in the United States. These customers went live with Smart Search in Q3 as part of a deal that increased our ARR by over 30% to more than USD 650,000. And going forward, we plan to accelerate the full cloud enablement of our portfolio, including achieving important public sector certification such as FedRAMP later next year. So I would like to move to Slide 7, which covers our outlook. We moved into the final quarter of 2023 with three strong quarters behind us. Our pipeline in all regions continues to expand as both digital forensic units and investigative units allocate more resources to modernize their investigative workflow. Based on our results to date and the near-term opportunities we see, we have updated our 2023 expectations. As Dana will detail in a few minutes, we have increased the midpoint of our 2023 revenue outlook. Given the strength in our near-term sales pipeline, we have also raised our 2023 ARR range. We also increased our 2023 adjusted EBITDA target range above our prior expectations, primarily reflecting the combination of solid revenue growth, meaningful gross margin expansion, and prudent spending. Now as we work hard to bring 2023 to a successful conclusion, we are also advancing our planning process for 2024. We expect that our business will continue to benefit from healthy budgets in which more money will be directed towards Digital Intelligence solutions. We see meaningful opportunities across each of our customer segments to drive continued growth in 2024, and we are investing accordingly, including advancing our go-to-market approach in the United States federal markets. We do believe it is an exciting time to be part of Cellebrite. And to help us take our business to the next level, we also announced today that Marcus Jewell, a technology sales veteran with an impressive track record, will join Cellebrite in the newly created role of Global CRO. Marcus brings a unique blend of sales and operational excellence as a proven CRO at fast-growing successful companies like Juniper Networks, Brocade Communications, and others. We look forward to his contributions as we build our momentum and accelerate our top line growth over the long term. And on a final note, final but important, before I turn the call to Dana, I would like to thank our customers, our partners, our friends in the industry, and those of you in the investment community who reached out to us, express your concern about the situation in Israel. It means a lot to me and it means a lot to my colleagues at Cellebrite. We are fortunate that the ongoing conflict has not meaningfully impacted our business so far. Nevertheless, we have taken steps to prioritize the safety and well-being of our employees in Israel while striving to maintain a business-as-usual mentality, as much as possible. To that end, our offices in Israel remain open with ongoing collaboration with our teams in the United States, Europe, Middle East, Africa, and Asia Pacific. Our focus on addressing the needs of our customers has never been sharper. And although these are challenging times, morale remains at a very high level. So I'm grateful to my colleagues at Cellebrite around the world for their support of one another and for their courage, hard work, resilience, and commitment to Cellebrite's mission of protecting and saving lives, accelerating justice, and preserving privacy around the world. And with that said, I'll ask Dana to start a review of our financial results. Thank you.

Thank you, Yossi. The financial review begins on Slide 9. Third quarter revenue of $84.2 million grew 17%. Our top line growth was fueled by a 32% increase in subscription revenue, partially offset by a 43% decline in other non-recurring revenue and a 22% decrease in professional services revenue. The decline in other non-recurring revenue reflected lower perpetual license revenue and decreased usage fees. The decrease in professional services revenue primarily reflects lower Advanced Services revenue as small customers adopt our Premium solution and reduce their outsourcing. In terms of our Q3 geographic mix, the Americas remain our single largest geography at 57% of total revenue, followed by EMEA at 31% and Asia Pacific at 12%. Cellebrite has essentially completed its transition to subscription with 87% of our total quarterly revenue coming from software subscriptions, up from 78% one year ago. Slide 10 details our ARR growth, which we believe helps investors better appreciate our prospects for future revenue growth over the coming year. Our ARR grew 27% year-on-year to $295 million at the end of Q3. Diving deeper into this metric, the majority of our existing customer growth continues to be fueled by expanding awarded share within the digital forensics units of our customers, driven primarily by ongoing adoption of our Premium offering. In the investigative units of our public sector customers, we continue to enjoy very strong growth from Pathfinder and are optimistic that our newly launched Smart Search offering will augment our momentum in this area over the coming quarters. Slide 11 details the historical trends for our non-GAAP gross margins and non-GAAP operating expenses, which exclude share-based compensation, amortization of intangible assets, and acquisition-related expenses. We reported a third quarter gross margin of 85.2%, up 500 basis points from 80.2% one year ago, due primarily to the growth in our higher-margin subscription software offering and to a lesser extent a decline in lower margin professional services. In terms of operating expenses, third quarter operating expenses were $52.5 million, a 3% decrease from the prior year, primarily due to the timing and phasing of hiring activity, the timing of certain marketing programs, and favorable changes in foreign exchange rates tied to the Israeli shekel. In terms of the sequential change in our operating costs, our third quarter expenses declined by a little more than $2 million from the second quarter, due largely to the contribution of certain onetime strategic projects in the second quarter. We ended September with 989 employees, down slightly from the start of the year but up slightly from 966 at the end of Q2. We believe that we are on track to end '23 with our total headcount above 1,000 people. Turning to Slide 12. The combination of higher revenue, strong gross margins, and disciplined spending produced excellent third quarter adjusted EBITDA performance of $20.8 million or 25% on a margin basis. This type of performance is consistent with the historical trends in our business as our profitability in the second half of the year benefits from the seasonal uplift in revenue and more limited expansion growth against the first half levels. Our Q3 non-GAAP operating income was $19.3 million with a non-GAAP net income of $21.3 million or $0.09 on a fully diluted basis. We finished the third quarter with $283.2 million in cash, cash equivalents, and investments, up $38.7 million from the end of the second quarter. The increase primarily reflects another very good quarter of cash generation with $29.9 million in cash provided by operations. Let's move to Slide 13. As detailed in our press release and as Yossi highlighted, we've updated our financial 2023 targets. Cellebrite's prior and updated guidance is displayed on this slide. In terms of a full year 2023 revenue, our current trajectory has increased the low end of our prior revenue range by $5 million to $350 million, which in turn modestly raises the midpoint of our prior guidance range. This implies Q4 revenue in the range of $83 million to $88 million, anchored by strong subscription revenue growth. We have raised our ARR target for '23 based primarily on our ongoing strategic progress in increasing our leadership in the digital forensics unit and expanding our business with investigative units. We anticipate a strong close for 2023 with a healthy pipeline of opportunities, including those involving our investigative analytics and case and evidence management. However, since many of the deals involved in increasing our ARR range are expected to close later in the quarter with limited initial revenue recognition and fairly muted professional services revenue, we have left at the high end of the financial year '23 revenue range unchanged. We expect Q4 gross margins to remain in the 83% to 84% range. We anticipate that our Q4 operating costs will increase sequentially to the high $50 million range primarily as a result of the fourth quarter marketing activities, higher incentive compensation, and expediting hiring to support our 2024 objectives. Accordingly, we anticipate another quarter of strong profitability, and we have raised our full year 2023 adjusted EBITDA and adjusted EBITDA margin targets above our prior expectations. While we are still advancing the planning activities required to complete our '24 budget, we believe that a strong finish to 2023 will help move Cellebrite's business forward and achieve the ambitions that Yossi outlined earlier, even as we fund the investments necessary to advance our strategic priorities. In summary, Cellebrite delivered an outstanding performance in the third quarter, and our teams around the globe remain focused on finishing '23 on a strong note. While we have taken important steps this year to execute our strategy, accelerate our revenue growth, and improve our profitability, we are not content to rest on our laurels. We are focused on taking necessary actions that will help fulfill Cellebrite's mission and realize our full potential as a market and technology leader.

Our first question will come from Mike Cikos with Needham.

Mike Cikos from Needham. Yossi, good to hear. Thank you for the update on Israel as well. I guess my first question would be for Yossi. And it's really with respect to this newly created global chief revenue officer position. Can you help us think about with Marcus' appointment and him stepping in tomorrow? What are some of the strategic conversations that you guys have had in the lead-up? And what is it that's expected of him that maybe Cellebrite either didn't have previously or that he's looking to accelerate? Can you talk to the new position and what Marcus is expected to bring?

Absolutely. Mike, thank you very much for your kind words. There's genuinely no better time to improve than during favorable periods, as I often say. We are achieving excellent results in 2023, marked by three consecutive quarters of outperforming expectations. This indicates our strong performance. Bringing someone like Marcus on board at this moment clearly reflects our belief in the potential for accelerated growth as a company. To achieve this acceleration, we need to recruit experienced individuals with a proven track record, and Marcus fits that profile perfectly as our Global Chief Revenue Officer. In this role, he will oversee the entire revenue operations across both the public and private sectors, as well as customer experience, bringing the necessary expertise to help us scale effectively.

Got it. And if I could just ask Dana, I'd like to understand the updated ARR guidance we have. I realize we have about three or four years of historical information. Typically, the net new ARR generated in Q3 is similar to or greater than that in Q4. However, today's guidance indicates that Q4 is expected to be lower than what we generated in Q3. I wanted to know if this is due to the timing of deals or if there are other factors at play. Since we have limited historical data, I’m looking to gain more insight into any seasonal trends you might highlight.

Thanks, Mike, for the question. In principle, in the last two years, once it was almost the same. And in '21, the NRR was even reduced 1 or 2 points between Q3 and Q4. This is part of the seasonality of these two quarters. We are basing it based on our current opportunity analysis, which we still believe this will create a great NRR for the year-end.

I have one last question for you. I know you mentioned the expected operating expenses in Q4, which you indicated might be in the high $50 million range. There are some marketing costs, incentives, and hiring involved. Can you help us understand which of these components, if any, might be more one-time in nature? I realize it might be too early to discuss guidance for calendar year '24, but I'm looking for a clearer picture of how the operating expense base will carry over as we consider '24, particularly if any of those Q4 expenses appear to be one-time, especially the marketing events.

Yes. So for sure, you're right on the point. The marketing activities in Q4 are heavily focused on the launching of the new UFED Ultra that we expect to do in Q1. So there are some onetime aspects of it. Same goes with the incentive-based compensation, having such a great year-end; we do expect it to be higher than the ongoing expense on a regular basis.

Our next question comes from Jonathan Ho with William Blair.

I also wanted to echo our support and thoughts and prayers for everyone impacted by the recent conflict. Just with regard to your margin outperformance this quarter, can you help us understand where you saw more opportunity to realize cost savings? And do you need to drive more headcount increases in order to sustain growth for future periods?

So it's not really about saving; it's growing our OpEx sequentially in a very controlled manner. And as I mentioned, we are heading into the 1,000 people club towards the end of the year, because we will need to get more headcount to secure our performance for 2024.

Got it. And with the release of Ultra in 2024, how should we think about the uplift in pricing relative to Premium and your basic solution as well as the potential benefit to ARR?

First of all, this has been a mix because the mobile Ultra, which is going to be launched, is bringing more value to customers. We are discussing something that we have stated in the past, which is an all-in-one solution and end-to-end for the digital forensic unit environment. It involves utilizing cloud capabilities and other features that were part of the Premium offering, like the full file system. I want to highlight this because it provides significant value to the customers. Consequently, it will lead to an opportunity for a price increase to sell and offer more value.

Yes. We just say that the packaging of the UFED Ultra with additional benefits is beyond price increase. It's a repackaging, rebranding our capabilities with the right and attractive pricing structure to our customers.

Just one last one. In terms of the FedRAMP opportunity, once you become FedRAMP certified, can you talk a little bit about how much opportunity that opens up in the U.S. Federal Government and maybe other agencies when you receive that approval?

Absolutely. To put it simply, there is an enormous opportunity ahead. We are already well positioned in the federal sector, having secured the right customers and connections. With the introduction of FedRAMP and an enhanced structure that we plan to establish within our team, we will have the capability to grow our existing business across all areas of our product portfolio. This includes both collection and review processes, particularly in investigative analytics. Regarding our cloud solutions, such as Guardian, investigative analytics, and all SaaS offerings tied to collection and review, there is significant potential for growth.

Our next question will come from Jeff Van Rhee with Craig-Hallum.

And congrats to the team and we're really impressed with execution in light of the Hamas attack to get us really just outstanding quarter, particularly on the ARR sequentially here. So congrats to you and the team. Yossi, on the cloud enablement of the product suite, maybe just a little longer-term thinking. How do you think about the product evolution and the point at which we might be all cloud or very close to all cloud? How do you think about that from a product evolution standpoint?

First of all, we have stated multiple times that we are continuously focused on on-prem solutions. This approach is important for our customers, especially due to concerns related to sensitive investigations in the cloud. However, we've often discussed the growing trend of customers adopting cloud solutions, and we are committed to delivering cloud offerings alongside on-prem solutions to provide value. This will enhance collaboration and efficiency for our customers. We see significant opportunities in the cloud, not just as a business avenue but as a means to boost productivity and modernize investigations. Our initial efforts will focus on the collection and review stages in the cloud, and as we progress, we envision a comprehensive cloud infrastructure for our entire product offering.

And then on the Global CRO, Marcus Jewell. I'm sure you've looked through a lot of candidates. What in particular did you go looking for and find in Marcus?

I believe I've mentioned this before, but I'll reiterate. First, we have the ability to accelerate and a strong mix of experience with transitioning from on-premises to a cloud environment. We can scale effectively, and I must emphasize we have an outstanding application in terms of sales capabilities. Additionally, we have consistently highlighted our solid presence in the United States, and we plan to scale and grow our efforts here. This is why we are intensifying our focus on Europe and enhancing our capacity in the Asia Pacific region. Marcus brings a valuable combination of American experience and the international perspective we need. This encapsulates the key qualities we were looking for in our choice of Marcus as a candidate.

You've discussed strategic mergers and acquisitions over time. I'm interested in your views on the current market and the likelihood of finalizing a deal in the coming quarters. Additionally, could you share your observations regarding pricing, specifically related to Magnet and GrayShift, over the past year?

Firstly, concerning mergers and acquisitions, we have mentioned multiple times that M&A is a key part of our strategy. Our balance sheet demonstrates that we have sufficient resources to pursue strategic opportunities in this area. We are continually looking for possibilities that can expand our reach, increase our customer base, and speed up our market entry in ways that align with our organic growth, but we could achieve them more quickly through acquisitions. That's all for M&A. Regarding our competitors and pricing, I’m pleased to report that our market and customers recognize value and are willing to invest in it. This year, we have observed price increases in our market, and we anticipate this trend will continue from both our competitors and ourselves.

Our next question comes from Tal Liani with Bank of America.

I understand you don't provide guidance for 2024, but I have a question about EBITDA margins. The average for this year is 16.5%, mainly due to a strong third quarter. The guidance for the fourth quarter is 15.5%, indicating there is about a 100 basis points headwind if you consider the ongoing rate. My question is about next year. Can you share any insights on the factors affecting the EBITDA margin for next year? Starting from 16.5% due to the strong third quarter, do you think that presents a difficult comparison for the year, or do you believe there is room for improvement as the year progresses?

I believe that the fourth quarter is showing a strong EBITDA performance following an exceptional third quarter. As I mentioned, we are planning for 2024, and I want to emphasize that we aim for continuous improvement in our overall EBITDA margins in line with our long-term targets of 20% revenue growth and 20% EBITDA margins. It's important to consider the seasonality of revenue, which also affects the seasonal variations in EBITDA between the first and second halves of the year. Through efficient operating expense spending, we expect to see modest improvements in our EBITDA margins.

Our next question comes from Jamie Shelton with Deutsche Bank.

Brilliant execution and it's glad to hear you're all doing okay. Just a quick question from me to start with. Can you provide us what percent of the usage base is now connected to Premium enterprise? And then I've got a couple of follow-ups.

I would say that regarding Premium penetration, the Premium suite of solutions is experiencing significant growth. There has been consistent progress, and in Q2, we were in the mid-teens. Now, heading into the end of Q3, we expect to be in the high-teens. The increase has been steady, and it's important to note that in terms of Premium, we are adding capabilities and a mix of offerings that our competitors cannot match. This relates to our emphasis on the comprehensive offering within the Digital Solutions Unit, which is a crucial part of our value proposition. Premium enhances our end-to-end capabilities within the digital forensic units, and what we do with Guardian strengthens our impact on collection activities linked to our review capabilities. We believe we are making good progress, but we still have significant potential ahead of us. I hope I've answered your question.

Yes, very clear. And just a similar question. What percent of your business from analyze and investigate portfolio? And where do you think this could go over the next few years? And I've got one final question.

Our business, excluding the collection and review segment, accounts for around 10%, and the structured business also represents about 10%. The majority of our focus is on investigative analytics, where we see significant potential.

Yes. I would like to say, first of all, nothing to add regarding what Dana said regarding these components. But Pathfinder is a key element of the investigative activity for the investigative units and Guardian is a key element of case and evidence management, are pretty much strategic solutions and clear, I would say, elements in the growth and in improving the efficiency of both digital forensic units and investigative units. We've got, at this stage, a very good positioning regarding both of them. And as I stated, I think, yes, I did in my previous speech, the pipeline was growing nicely in terms of Guardian. In Pathfinder, we are penetrating very well. I would say that we should expect a very meaningful growth from this solution along the road, both in digital forensic units and investigative units in the years to come. I would like also to emphasize that the investigative unit part of the company side-by-side with the digital forensic unit is a very meaningful growth engine as part of our long-term strategy.

And then last one for me. Price has been touched on a couple of times, and it's highlighted as the growth drivers in the deck, obviously. But outside of natural ASP uplifts from Premium products, how much leverage do you have to just core price increases? And what is the methodology you adopt internally?

We believe the primary driver of growth in the next two years will be the launch of the UFED Ultra. It's not merely about raising prices; it's focused on a new packaging of capabilities that offers the right value for this new offering. We feel that every customer and every holder of our installed base deserves the benefits we are introducing to the product. Together with the Premium offerings and the new features of Guardian and investigative analytics, this will contribute to our growth over the next two years.

I want to emphasize that our discussion is focused on price increases, which are tied to our offerings like Pathfinder and Guardian and are linked to increased usage and data. This is something that will take place. The upcoming launch of the UFED Ultra is not about raising prices; it introduces a new pricing structure for a groundbreaking solution that will significantly transform the way digital forensic units collect and review data. I say this with great confidence, as we consistently see a healthy market with available budgets from our customers. We have developed this solution with a deep understanding of our customers' needs and are viewed as a trusted advisor with strong relationships. I am confident that there will be a favorable reception for this enhanced value associated with the new pricing.

Our next question comes from Hugh Cunningham with TD Cowen.

We extend our thoughts and prayers to all of you and your families and friends. I have a couple of questions. First, regarding the question Yossi just addressed about Pathfinder and Guardian, I'm considering what existing solutions both of these might replace. Initially, it seems like you may be replacing certain processes on the Guardian side, while there may not be an existing solution for Pathfinder at many of your customers. Can you discuss how easy or difficult it is to replace the systems your customers currently have in place that perform the functions of Guardian and Pathfinder?

So we are talking a lot about the drivers for the growth. And I was talking about it earlier; one of them is about inefficiencies and the need to bring more digital intelligent solutions into our customer space. Because as much as people are sometimes surprised, there is not much to displace. It's more about creation and about improving processes with destructive technologies like ours that come and basically make things smarter, faster, efficient and by that, enable productivity. The Pathfinder, according to very thorough market studies, and as I said, we know our customers, investigative analytics so analytics BI for investigation is in the, I would say, single-digit penetration at this stage of our strategic and mid-high prime accounts. That gives us a place to grow. It's not about replacing. The onboarding of those solutions such as Pathfinder is indeed longer. There is a need to educate the customers. There is a need basically to invest in customer success in order to make it. But we are not displacing. We are coming and solving a pain with solutions which don't exist. Same goes to Guardian in terms of evidence and case management. I would say that if I need to display something is actually help our customers to stop manual and saving of evidence on USB drives and stuff like that. It's more about creating a better or bringing technology that will create more efficient, more efficiency, save manual work and by that, increase the chain of custody. And that's in a nutshell. So we are in the upgrade and displacing manual work and inefficiencies with lots of efficiency, smart, fast, and more productive.

On the federal side, does FedRAMP help you not only with federal clients but also with local, state, and potentially private customers who might view FedRAMP as a shortcut or a form of validation? Additionally, do you anticipate any effects from a possible shutdown of the U.S. Federal Government?

To the first question, yes, we definitely benefit from that. Regarding the potential shutdown, we have no concerns for Q4 2023. We have conducted a thorough analysis. If a shutdown occurs, it will depend on various factors as I think ahead to 2024. From our past experience, shorter shutdowns tend to have less impact, while longer ones require more consideration. We are currently assessing the situation, but for Q4 2023, we anticipate no impact on our results.

And then for the Endpoint Mobile Now, it's great to see that announcement. Can you talk about the differences in your approach as you target the public sector versus private sector? I know Endpoint Mobile Now targets the private sector. Can you talk about the differences there? And then just to wrap up on FX, could you remind us about your hedging policy? I know, I think Dana mentioned, part of the OpEx improvement was related to FX moves. Can you talk about your hedging policy there?

I'll discuss Mobile Now and focus on the private sector. Our company sees significant opportunities in the private sector, especially given our strong foundation in the public sector business. Overall, we made good progress in Q3. As part of our innovative initiatives and product offerings, we launched Mobile Now. This is our first SaaS product, designed specifically for small to midsize private sector customers. As stated in our press release, this is a preliminary step before we introduce a complete endpoint solution on the SaaS platform, which is scheduled for Q4. This upcoming offering will cater to our larger paying customers. Dana, would you like to...

Yes, for sure. So our hedging policy is mainly aimed to protect the expense in Israeli shekels, which is mostly payroll paid in Israel. We have a four-quarter rolling policy. Usually, the coming quarter is covered 80% to 100%. Then next quarter, we'll go to 70% and so on and so forth, and we are on a monthly basis based on the currencies updating the hedging that we are executing.

Our next question comes from Douglas Bruehl with JPMorgan.

We'd also like to extend my thoughts and support to you guys and all the Cellebrite employees. Maybe we could continue a bit with U.S. Federal. Did you see any budget flush coinciding with the end of the fiscal year? And then how did federal spending trends in Q3 compare to prior years?

In general, we did not encounter any challenges this year, particularly when comparing Q3 to Q2 in relation to federal budgets. The environment appears to be quite healthy. There are discussions regarding limiting the cap related to the federal budget for 2024 and 2025, but when evaluating our performance linked to the budget, we noted significant growth comparing Q3 2023 to the previous year.

And then maybe one more. Given that the new SaaS offering for enterprises that you released in the quarter, any commentary on private sector traction or trends that you're seeing lately?

The private sector is increasingly important to us and is on our radar. We are seeing notable trends in this area, particularly in eDiscovery and incident response. Firstly, there are increased budgets. Secondly, there has been a continuous trend for the need for remote collection, which began around 2019 and 2020, especially among large and midsized organizations. Additionally, there is a clear demand for a unified platform as we look towards 2025 and 2026. These are the primary trends we observe, and we plan to operate in accordance with them.

This does conclude the Q&A portion of today's call. I would now like to turn the floor over to Cellebrite CEO, Yossi Carmil, for any additional or closing remarks.

First of all, again, thank you all for joining. And I would like to end by thanking you for the interest and support. Again, I would like to give a big thank you to the Cellebrite employees and emphasizing the fact that especially during such times, so macroeconomic conditions, plus what we are experiencing the conflict in the Middle East, we succeed to continue with our strategic plans and deliver above and beyond and beat our targets. So a big well done and a big thank you from my team. And thank you for joining us today.

This does conclude today's Cellebrite third quarter 2023 financial results conference call. Please disconnect your line at this time, and have a wonderful day.