KORE Group Holdings, Inc. Q3 FY2021 Earnings Call

Good afternoon, ladies and gentlemen, and welcome to the KORE Wireless Third Quarter 2021 Conference Call. Delivering today's prepared remarks are President and Chief Executive Officer, Romil Bahl; and Chief Financial Officer, Puneet Pamnani. Following their prepared remarks, the management team will open the call up for any questions. Before we go further, I would like to turn the call over to Vik Vijayvergiya, KORE's Vice President of M&A as he reads the company's Safe Harbor statement that provides important cautions regarding forward-looking statements. Vik, please go ahead.

Thank you, Alex. On today's call, we will be referring to the press release filed this afternoon that details the company's third quarter 2021 results, which can be downloaded from the investor relations page at ir.korewireless.com, where you'll also find the latest earnings presentation that supplements the information discussed on today's call. Finally, a recording of the call will be available on the Investor section of the company's website later today. Please note that this webcast includes forward-looking statements. Statements about the company's beliefs and expectations, containing words such as "may," "will," "could," "believe," "expect," "anticipate," and similar expressions are forward-looking statements and are based on assumptions and beliefs as of today. The company encourages you to review the Safe Harbor statements, risk factors, and other disclaimers contained on this slide and in today's press release, as well as in the company's filings with the Securities and Exchange Commission, which identify specific risk factors that may cause actual results or events to differ materially from those described in our forward-looking statements. The company does not undertake to publicly update or revise any forward-looking statements after this webcast. The company also notes that on this call, it will be discussing non-GAAP financial information. The company is providing that information as a supplement to information prepared in accordance with the accounting principles generally accepted in the United States or GAAP. You can find a reconciliation of these metrics to the company's reported GAAP results in the reconciliation tables provided in today’s earnings release and presentation. And now, I'll turn the call over to Romil Bahl, the Company's President and Chief Executive Officer. Romil?

Thanks, Vik. Good afternoon, everyone. Thank you for joining us today for our very first earnings call as a public company. My name, as you've now heard a couple of times, is Romil Bahl. I've been here with KORE right at about four years. And with me is Puneet Pamnani, our CFO, who has been here over three and a half years. The objectives of our call today are to introduce our company to the public markets, discuss our Q3 earnings, and describe why we are so excited about the next five, ten, and yes, even fifteen years. I know for many of you that sounds like an awfully long time, but that is the beauty of our opportunity. We are in the singular growth market of the Internet of Things or IoT, which is poised to grow spectacularly and hence provide our company with excellent tailwinds as we hurdle toward becoming a truly connected planet. In this first call, therefore, I will take a little longer with my prepared remarks to introduce our company. I will provide an overview of our services, which are powered by unparalleled technology and intellectual property, provide an overview of our market and growth dynamics, our strategy and competitive positioning, and bring it to life with customer use case examples. Then, Puneet will cover our financial results, after which I will cover the five-year transformation timeline we have put in place and summarize our competitive moat and investment highlights. Looking at our third quarter, as summarized here on page 3 for those of you following the webcast, we recorded strong total revenue of $67.9 million. Of note, we were aided by the timing acceleration of a significant project with our largest customer, which was to start in Q4 and go through the first half of next year, but has been accelerated into being delivered mostly this year itself. Our EBITDA results and strong connected health performance flow directly from this acceleration, given that our largest customer is in healthcare. Importantly, and since the timing acceleration is merely from 2022 into 2021, we are happy to confirm that we are confident we will exceed our revenue projection for this two-year period, that is 2021 and 2022 combined. While the acceleration of our customers’ LTE transition project will make 2022 look relatively flat with 2021, we expect to beat our combined revenue projections over this two-year stack by a meaningful amount, which will further demonstrate our ability to execute our business and drive growth. KORE’s two lines of business, as depicted on this page, are IoT connectivity and IoT solutions. First up is IoT connectivity. The largest part of which is IoT connectivity-as-a-service, or what we refer to as CaaS. We have been building our global value proposition in this space for almost 20 years, and it allows our customers to connect multiple device types using multiple types of networks in multiple countries and regions of the world. This is why we like to call our independent, world-leading IoT connectivity offering our multi, multi, multi-service. And right until the time this leadership team arrived, this was near 100% of our revenue. To our core business of IoT CaaS, where we charge by subscription and data usage, we have added connectivity enablement services, or CS, where we can license our intellectual property over multiple years to customers who are looking to control their own communications networks. Even as we have added CaaS revenue into our overall IoT connectivity services, we are proud to say that our newer IoT solutions business grew to approximately 26% of overall revenue in 2020 and is trending towards, as it says there on the side on the left, towards 32% of our revenue in 2021. The major categories of our IoT solutions business are depicted on the page as well, from IoT device management to our newer IoT analytics services, including SecurityPro and our location-based services. Both of these are built to customers on a subscription basis just like our CaaS service. Further, we are hoping to accelerate the pace of our growth investments, including investments into pre-configured solutions and private networks. On then to the exciting market that we participate in. Largely in the three categories of connectivity, applications, and platforms, and managed services, the IoT market is expanding from less than $400 billion in 2020 to $7 trillion in 2030. It's been expected to double again to approximately $15 trillion by 2035, driven largely by the exciting use cases that 5G will bring to IoT. This market growth is best depicted by the growth in the number of IoT devices deployed, which will grow from roughly $12 billion at the end of 2020 to approximately $75 billion devices by 2030. This growth is marked by a significant shift in the mix of short-range to long-range devices. It is the long-range devices where our IoT connectivity services fit. While our IoT solutions services actually apply across the entire spectrum of device and connectivity types. While this market growth seems very large, the fact is that there are several trends that deterministically underpin it. Chief amongst these, marked on the page, are eSIM, LPWA going into massive IoT, and of course 5G. One could also look at edge computing and AI IoT where artificial intelligence meets IoT as being the technology developments that can make this growth a reality. This leaves us with two key questions from the standpoint of understanding our market opportunity. One, what really is IoT and does it only apply to highly sophisticated or mission-critical applications? And two, why was the last decade generally disappointing, and why did we not reach the predicted 20 billion IoT devices by 2020? The answers to these two key questions are on this next page. First on the left side are depicted real IoT solutions that we support today. You will note several are everyday items, and they can be relatively simple sensors, but other use cases can be deceptively simple to look at, but making them work is highly complex. And that sort of leads to the right side of the page, which is a summary of the top seven challenges that have held IoT back the past decade. I could spend a lot of time speaking to each of these challenges, starting with security as a foundational challenge at the bottom, all the way around to the middle where we make the point of the fragmented ecosystem that our customers have to find a way to harness. They have to put the Lego blocks together themselves and this is the root cause of the complexity in IoT. In the interest of time, I will just speak about this overall complexity. I remember reading two key statistics back when we were crafting our growth strategy. The fact that it takes the average enterprise 18 to 24 months to launch an end-to-end IoT solution, working with on average 18 partners to do so. And secondly, the fact that almost two-thirds of all IoT pilots and proof of concepts failed or stalled, especially in the early part of the last decade. It is this complexity that we fundamentally target as our growth strategy now, to provide a one-stop shop for IoT to help our customers adopt IoT with ease. So let's look at our growth strategy. What we do for our customers is help them deploy, manage, and scale their IoT applications, whatever those applications are, whatever the use cases are, if you prefer that term. We help them deploy successfully instead of stalling at the pilot stage or failing to expand to multiple regions or multiple carriers, because the costs are exorbitant and the number of partners required are unmanageable. We help them manage their deployments with world-class support and a series of managed services they can outsource to us, so they can focus on their own growth, and this in turn helps them scale confidently and securely. So if that is what we do, the how we do it is through connectivity, solutions, and analytics. Three simple words and yet they represent a lifetime's worth of opportunity. As we transform and grow our product catalog, KORE will grow. We have a billion dollars in revenue squarely in our sights and we have confidence we can get there sooner than many might expect. Now, clearly, there is a lot of detail on many of these simple words, and I could peel the layers of the onion slowly describing our portfolio of services under each dimension. But in the interest of time, I'm going to go straight to a bit of a detailed framework we use with our customers. We call this our seven by seven framework, and it represents the seven big deliverables required under each of the seven stages it takes to launch an end-to-end IoT solution. It doesn't matter the complexity of the solution; it needs to go through each of these steps. This picture instantly explains to you why IoT is so complex and why one enterprise might need to have 18 partners to launch one end solution, and that's an average. In some cases, like in the case of our largest customer, you might need an order of magnitude more partners. So as customers hear about KORE and hear about our IoT in a box approach, we believe they will engage with us earlier in the process, not just when they need connectivity. We will work with them to ensure they understand everything they need to map what they have sorted on this chart versus what we can help them with. And of course, we transparently tell them what we do ourselves, which is everything in green on the chart, including, of course, our core business in step three of core connectivity management, plus device management, plus data management. What we do with partners, which is everything in blue on the chart, and what we fully outsource to partners, the items in red. Customers can ask us to sort of prime their solution or give us some portion of these 49 steps, and our commitment to them is we will make it work and we will speed their time to market. This takes us to the picture on Slide 10 that best tells our pure play IoT story. We are an enabler. The end solution, the part of the iceberg that's visible above the waterline belongs to our customer. That is the value proposition they sell to their end customers, businesses or consumers, and that is what they should be singularly focused on themselves. The majority of the work that needs to be done, represented by the 90% of the iceberg under the surface, can be supported by us and this represents a lot of growth. Further, it represents stickiness. As our customers grow, we grow with them. This makes us one of the best ways to play the growth of the connected world and the IoT market. Not a singular bet in any one use case or any one industry, but a diversified pure play enablement way to play IoT. So the last part of the company overview I want to provide you before we go into our customer use case is our go-to-market approach. Increasingly, we go to market by industry. When we were just an IoT connectivity player, we were inherently horizontal. But to holistically enable our customer solutions, we need to know their use case and speak their language. This is only possible with an industry orientation. And so just this year, we launched our first two industry practices, connected health and fleet management. Even as we anticipate these industries growing in the near term, we believe the next three verticals will grow even faster over the next two years as those segments adopt IoT solutions. One of the key levers of our growth strategy is launching and growing these industry practices organically and inorganically. Now to Slide 12 for the use case, our number one customer. The customer is an instantly recognizable large med tech enterprise, and one of the use cases that they participate in is cardiac rhythm monitoring, which is one of the early use cases in the exploding space of remote patient monitoring. This is an incredible story of enabling IoT adoption. Bottom line, this customer just sends us a purchase order every quarter with a number of devices they need for the following quarter and then we go to work. The third-party hardware manufacturer ships the devices to us. We take care of the configuration, provisioning, testing, labeling, recording, packing, shipping, and reverse logistics services that are needed, and help our customers ship to approximately 57 countries and actually gather data from over 150 countries on their behalf and made sure that data gets to the appropriate data cloud and then to the cardiologist and caregiver portals in a highly secure manner. The customer reached almost 1 million subscribers last year and would likely go over that number this year as they have been growing at roughly 20% each year. To give some sense of why they are our largest customer, let's go one further slide and overlay on the seven by seven chart that you just saw all of the services that we perform for customer number one. That then is the goal. Not that every customer will buy multiple services from us or even that there will be many that will buy so many of our seven by seven services. But getting more of our 3,600 plus customers buying more of our services is a key growth opportunity that we refer to as our cross-sell opportunity, and this is another key reason we are bullish about our future. With that, I will now hand the call over to Puneet to cover the financials in more detail. Puneet?

Thank you, Romil, and good afternoon, everyone. This is Puneet Pamnani, and I'm the CFO of KORE Wireless. As Romil noted, we are pleased to report a strong third quarter, which exceeded our internal projections. Total revenue for the third quarter 2021 was $67.9 million, growing 22.8% compared to $55.3 million a year ago. $41.5 million of our total revenue was from IoT connectivity, representing 61% of our total revenue. IoT connectivity grew revenue 4.9% compared to $39.6 million a year ago. The remaining $26.3 million of our total revenue came from IoT solutions, which represented 39% of our revenue. IoT solutions grew 68.2% compared to $15.7 million a year ago. Although, as Romil mentioned, we were aided by the timing acceleration of a significant LTE transition with our largest customer. For revenue growth drivers, we track and externally report two key metrics, total connections and dollar-based net expansion rate (DBNER). Total connections represent all of IoT connectivity services connections, including both CaaS and CEaaS connections, including the contribution of eSIMs. The growth in total connections clearly drives the growth of IoT connectivity services, which were 61% of our total revenue. So this is an important metric. However, not each connection is the same; therefore, IoT connectivity will not always grow in the same proportion as total connections. This is because the revenue generated per active connection can vary widely depending on the data plan the connection is on. On a 1MB plan, the revenue can be 20 times lower or even less than on a 1GB plan. So higher bandwidth connections are clearly more valuable. In Q3, we ended the quarter at 13.6 million total connections, up 23.6% from a year ago, which is significantly higher growth than our IoT connectivity growth during the same period, driven by several factors, including LTE transitions. Additionally, a few large customers have added a large number of non-revenue generating SIMs in the same period. Some of these SIMs are likely to convert to revenue-generating SIMs in the future and help our future growth. The other key metric we track is DBNER, which tracks the combined effects of cross-sell and upsell to our existing set of customers. We calculate this metric by dividing the revenue for a given time period from go-forward customers by the same revenue from customers a year prior. Further details on this metric are available in our public filings. For the 12 months ended September 30, 2021, DBNER was 114% compared to 103% a year ago. We are pleased with this result; it indicates success in customer retention and growth. We do not, however, expect the growth of this ratio to be linear. In fact, it will vary; there will be quarters where it will be affected by large customer cleanups. However, our goal is to maintain this ratio above 100% and continue to grow this metric over the long run. As it happens, this was a good quarter for DBNER. Importantly, we are ahead of our publicly stated business plan 2021 September YTD. As Romil had mentioned, we expect to beat our combined '21 and '22 revenue plan as well. In IoT connectivity, our five-year business plan had us growing at 14% in the medium to long run with total connections growing in the high teens and some erosion projected in the revenue per connection. This is less than 4.9% that you experienced this quarter compared to the same quarter a year ago. In 2021 and ‘22, we expect and have previously communicated, IoT connectivity revenue growth will be affected by the loss of one-time churn customers and the shutdown of 2G and 3G cellular networks at certain large carriers, notably AT&T, T-Mobile, Sprint, and Verizon. We had already factored these one-time churn customers and technology transitions in our business plan and projected relatively newer IoT connectivity growth in ‘21 and ‘22. Some of our customers have been delayed in these technology transitions because of device shortages, which are now prevalent. This has helped year-to-date 2021 IoT connectivity revenue, which is ahead of our business plan. However, these network shutdown dates are locked now and we do not anticipate any further delays in these technology transitions in 2022. Once these technology transitions are over in 2022, we expect to ramp to our medium to long-term growth rate of 14% plus. In IoT solutions, we have a significant amount of cross-sell and growth potential. In our business plan, we expected to grow this area 30% less growth rates. We continue to be optimistic, but we need to be cautious in interpreting the 68.2% growth in the third quarter of 2021. A significant portion of this growth is derived from our largest customer, which is in healthcare. This customer is transitioning a large number of 2G and 3G devices to LTE, and we are assisting in the journey by helping select and providing the LTE devices, configuring and testing these in our facilities and device management as in program managing this effort. Most of the additional revenue from this LTE transition was anticipated in 2022 in our business plan, but now most of it is expected in the third and fourth quarters of 2021 with some revenue carrying into Q1 2022. This acceleration is good news for both us and the customer’s transition. However, we find it helpful to break this revenue out in order to look at the trend without it in terms of the largest customer. The other noteworthy factor in our growth story is the semiconductor and therefore IoT device shortage prevalent in the market. The large majority of our revenue and IoT solutions is proportional to the number of IoT devices deployed, completed, and sold. Therefore, the shortage is most certainly affecting our short-term growth in IoT solutions. The gross margin percentage in the third quarter was 48% compared to 54% in the year-ago quarter. This percentage decrease was largely a function of accelerated growth from IoT solutions revenue, which comes at a lower gross margin compared to IoT connectivity revenue. We also had a percentage gross margin decrease within IoT solutions, mostly because of the growth of our largest customer, which I've previously spoken about, which has a lower than average gross margin. Despite some fluctuations, IoT connectivity gross margins were relatively stable in the third quarter. Operating expenses in the third quarter increased to $38.4 million compared to $31 million in the year-ago quarter. The key factors in this increase were higher sales commissions and bonuses, which would return to normal levels in 2022 and increases in salary and benefit items due to constrained job market conditions, along with materially higher than expected public company costs. Finally, as reported, operating expenses are also affected by adverse foreign currency movements, with certain countries where we have global or regional shared services centers experiencing currency appreciation. For the third quarter of 2021, we recorded a net loss of $4.5 million, an improvement compared to $5.6 million a year ago. Adjusted EBITDA in the third quarter was $15.9 million compared to $15.4 million. This increase was primarily a function of increased order revenue and increased gross margins, which I spoke about, balanced by higher operating expenses, which I had already previously mentioned. Now let's turn to the balance sheet. As of September 30, 2021, we had $73.1 million of cash and restricted cash compared to $11.9 million in the year-ago quarter. The increase was primarily a function of net proceeds from the business combination and the previously announced backstop agreement. KORE grew $93.4 million net of financing costs from the previously announced backstop agreement during the business combination. Subsequent to September 30, 2021, we drew an additional $25 million from the backstop agreement. We expect to use this additional liquidity provided by the business combination to accelerate capability development, both organically and inorganically. The business used $9.4 million in cash flow from operations year-to-date September 2021, mostly due to the ramp-up in accounts receivable, inventories, and prepaid expenses associated with the ramp-up of revenue at our largest customer. In the same time period, the business also used $9.8 million in cash flow from investing due to capital expenses required in maintaining and growing our business, notably our KORE One platform and the use in product. Year-to-date September 30, 2021, cash flow from financing provided $81.8 million of cash from the proceeds of the business combination and backstop financing, balanced against the paydown of preferred equity and certain other items. In summary, we had a solid growth quarter. I have clarified that there are some timing and acceleration issues that I have highlighted, which is expected to make Q3 the largest quarter of 2021. Additionally, we should see accelerated effects of 2G/3G network shutdowns over the next 12 to 18 months. Despite this, we are confident we’ll exceed the combined revenue guidance for ‘21 and ‘22. Now I will turn it back to Romil for some additional comments.

Thanks, Puneet. Again, a very solid set of results, and I will wrap up our prepared comments with just two more slides. The first depicts our transformation and the crystal clarity with which we view our five-year strategic plan. We have a three-phase plan in place, and as 2021 comes to a close, we are focused on closing out Phase 1, even as Phase 2 has already kicked off earlier this year. In Phase 1, we focused on strengthening our core IoT connectivity business and launched our newer services, which we now report under IoT solutions. By all measures, this has been a highly successful phase and we have leapfrogged the market with our technology and platform development. Earlier this year, as a part of launching Phase 2, we launched two industry practices, connected health, as we call it, and fleet management. That leaves three industry sectors to launch, which we will, both organically and inorganically, over the coming period. The other priority in Phase 2 is to take global leadership with eSIM or eUICC, and we are well on our way with this key enabler of IoT growth. The next phase will focus on 5G leadership and leading with analytics. Finally, we at KORE, have already built a distinct competitive moat. Rather than read each bullet, each differentiator to you, I will leave this chart up while we take your questions. Further, we wanted to summarize our top investment highlights on this slide. Starting, we are the only pure play IoT company in the world, attacking one of the most exciting growth markets of all time, to having a world-class strategy and the intellectual property to give us a solid foundation for execution. We have high recurring revenue and a large set of customers rounding out our platform for growth. As our near-term headwinds dissipate with the 2G/3G network sunsets getting closer, we believe our growth in the future will accelerate. So we are focused on continuing to execute on our clear strategy with our ambitious goals in place and I am confident that we are well positioned for future growth and value creation. I want to take a moment to thank our entire global team of IoT-ers for their hard work and commitment to KORE. With that, we'll take your questions. Alex?

Our first question comes from Mike Latimore with Northland Capital Markets.

Congratulations on being public and a strong start with your first quarter here. So just a clarification on guidance. You talked about being able to beat your original 2021 and 2022 guidance. What is driving that confidence? Is it a vertical, is it ARPU, something else?

I mean, I guess, you could argue it's a little bit of all of that, because really what it is what we hope we can continue, a solid business, executing well and sort of a U-pod mindset. The sort of under promise, over deliver sort of mindset. I think that's what you're really seeing coming out in 2021 and 2022. Of course, we had this rather interesting year where we went public really just in time for the fourth quarter. But if you look at this two-year period together, which is the only sensible way to look at it given we are coming out so late this year, we feel really good with, first of all, the results we've already put out. We've revised the guidance, of course, for this year, as you saw. We think if you put those two years together, the 2.19 and the 2.38 that we put out, the 4.57, we're very comfortable we will beat it given momentum and all the things you said, Mike. ARPUs are stabilizing, business volumes are good. If it wasn't for these supply chain issues, I'd be sitting here saying I’d be significantly beating the two-year period. But we have seen that slow us down here a little bit.

And then in the past you talked about getting kind of past 3G to 4G ARPU headwind and the legacy churn headwind in 2023 where you potentially see some acceleration. I guess, any more color on that dynamic and whether you might even see some of the sequential benefits, let's say, of that in the second half of 2022.

I appreciate your acknowledgment of our near-term challenges. We are currently addressing these issues, but their resolution has been somewhat delayed. This situation is affecting us, as our customers are struggling to obtain their devices, which is hindering their transition to LTE and 4G due to equipment shortages. Consequently, this has slowed down our transition timelines. As mentioned by Puneet, the sunset dates for certain services are established and are unlikely to change, so we expect to overcome these hurdles by the end of next year with the North America sunsets. What remains is whether the supply chain will improve, allowing us to meet the existing pent-up demand, which our customers have not been able to fulfill.

And then just a housekeeping question. But are you going to give gross margin on IoT connectivity and solutions separately?

We already provide that information in our Management Discussion and Analysis. In our MD&A, we break down both revenue and cost of services by IoT connectivity and IoT solutions, while also including products and services in our public Profit and Loss statement.

Our next question comes from the line of Lance Vitanza with Cowen.

I wanted to start with the customer case study that you walked through. Thanks for doing that. And just one question that comes to mind is, as the customer goes from 1 million and I think you said 1 million installed devices is growing 20%. So maybe there's 1.2 million devices installed next year. To what extent does KORE participate in the revenue growth there? Is it linear? Are there point thresholds? I guess, another way to ask the question is, who captures the operating leverage, you or your customers in these contracts and arrangements?

For most customers, we benefit from operating leverage, especially as we improve and automate our demand fulfillment processes. We're relocating to a new warehouse in the Rochester area for our IoT solutions business, which is 2.5 times larger, and we plan to enhance efficiency further. Overall, this is positive for us. However, with this specific customer, due to the additional volume they provided and the gross margin dollars involved, we agreed to reduce our pricing, which is impacting us. As mentioned, our IoT solutions margins are under pressure due to customer concentration with our largest client, and we've conceded a bit there. Nonetheless, operating leverage is advantageous for KORE.

And exclusive the pipeline, I guess, what I’ll call, full suite business like you're doing on that case study. Could you talk about how that pipeline has developed over the past few months, whether with new customers or whether converting existing customers? I mean, what's the outlook look like, and anything you could share with us there would be helpful.

The team did a good job last year, and we mentioned in our documentation when we went public that about 180 of our customers purchased multiple services from us. Typically, our main customers are those seeking connectivity. Over time, we aim to cross-sell them into additional services while also upselling within IoT connectivity. Last year, that number reached 182, and we have increased it this year. However, I wouldn't say I'm completely satisfied with our progress. We need to improve our ability to bundle our services and cross-sell more effectively to our current customers. Interestingly, it seems easier to have in-depth discussions with new customers, particularly those early in their deployments. This is something we're observing closely. I can provide more details if you would like, but I want to ensure I'm addressing your question.

I wanted to talk about the LTE transition, which had a significant impact on this quarter's numbers. You've been discussing this for the past few months, so it's not unexpected. Can you explain what this means for connectivity volumes? Given that you now have more 4G devices than you initially anticipated six months ago, what are the implications for these volumes? How does this affect pricing and margins moving forward due to the acceleration? I understand that one-time revenue will be recognized earlier, but will there be any long-term impact on the business from having converted these devices?

Let me try and parse down that response for you. So first of all, of course, the large engagement that was supposed to actually kick off here in October, in the fourth quarter this year, and then go for about the first half of next year, obviously, having that execute largely this year. Date, if you will, pull forward, to use your words, some revenue and orders of magnitude. We thought we'd get about $5 million off this project this year, and we're going to get something closer to $20 million when it's all said and done. I can't tell you exactly what it will be because it depends on when, during the holidays, we stop shipping, and the customer stops accepting, and all this sort of stuff. So that's a material pull forward. The fact that we're, as a team, remaining committed to trying to still hit the number we put out for this year despite that shows you that we’re confident and want to try to get after that. But now let's go to the other implication. It’s interesting; when you have a 2G/3G sunset, and your customer goes into LTE land, the first generation of that, of course, is 4G. It’s really just a negative thing for people in the IoT connectivity business because your ARPU is going down. Sometimes through those transition periods, when a customer has to change out a device, they might look to RFP, they might look to even change you out completely if you don't give them a really great price. But in general, it's not a good thing; these sunsets are why we can't wait for them to be done and get back to our projected growth. It's neat, as a much more diversified enablement one-stop-shop company, to have the ability to actually turn these sunset transition-type projects into a good thing. So this revenue we're talking about, you can complain about a little bit of noise moving it from one quarter to another quarter, but it's really a good thing. It's a great thing for our customer that we've been able to one-stop-shop them and give this to themselves. In general, I view this as a high positive. I view this as a sign of our strengthening strategic relationship with this customer, etc. And then the final part of this is, yes, I mean, sure, look, there are going to be the ARPU implications. I'm sure you've already noticed that connectivity here in Q3 was a smidge off from Q2 sequentially. Those are the kinds of things happening when you go to LTE. That’s sort of how you unpack that, Lance. Is that helpful?

It's great to see the performance in EBITDA exceeding our expectations. However, considering that this seems to be the time for KORE to focus on growth investments, I wonder about the outlook for margins going forward. I don't anticipate continued improvements in EBITDA numbers as we move ahead.

I think that's certainly very fair. We plan to provide guidance when we release our fourth quarter results in a few months, so we'll hold off until everything is clearer. As you've mentioned, as a new public company, we aim to create positive changes, which is excellent news. My Board of Directors is eager to engage in constructive discussions about how to boost our top-line growth. Over the coming months, we'll implement a series of confirmations and plans as we finalize budgets and determine the best way to move forward. This will require some of the profits we had previously projected. Additionally, there are several other factors to consider. Puneet has already highlighted these, including public company costs that are higher than anticipated and some adverse foreign exchange effects that he has addressed. These issues aren't going to resolve themselves quickly. There are various reasons for this, but the one I’m most enthusiastic about is figuring out how we can accelerate our growth and get things headed in the right direction.

Our next question comes from the line of Matt Niknam with Deutsche Bank.

Thanks for taking the question, and congrats on your first quarter as a public company. Maybe just to go back to the last question. You talked a little bit about EBITDA margins, but I also want to understand some of the puts and takes on gross margins because year-to-date, I know gross margins are down about 300 bps as well. So I'm curious, A, if we could just clarify the drivers between any supply chain constraints, any sort of mix shifts between solutions and connectivity, and then how to think about gross margins going forward. And then one other clarification, maybe for Puneet. You mentioned Q3 would be the largest quarter before 2G and 3G transition picks up. I assume that's in reference to absolute revenue, but I just want to see if I can get a clarification there.

I will begin with the latter question. It pertains to this year's absolute revenue, which will be our highest for the year. Now, regarding the gross margins, a significant portion of our gross margin comes from connectivity, and there should be no pressure in that area. As I mentioned earlier, it is where we anticipated it to be, possibly a bit higher. The pressure we are experiencing is in IoT solutions. When viewing the gross margin pool as a whole, the percentage declines because IoT solutions have much greater growth rates. The existing IoT solutions tied to the LTE transition project, which is our largest customer, also have lower gross margins compared to the average. This is the main factor impacting it. I appreciate your inquiry about the semiconductor shortage, as it partially affects the percentage as well. We have experienced price increases in the device costs for that project and some others, which we typically pass on in full to customers. However, when we see an increase in both revenue and costs, it lowers your percentage. All these factors contribute to the situation.

Our next question comes from Megan Marshall with Morgan Stanley.

A couple of questions from me. As you look at your pipeline, are there certain verticals that you can call moving faster than expected versus verticals that are maybe taking a little bit more time, and are there any kind of trends to go from there? And then just maybe a second question, as you’ve kind of talked about contract negotiations with customers based on pricing, just could you give a sense of when those contract negotiations normally happen as they expand from a connectivity to an IoT solutions customer, or is it when they go from generation to generation? Is it on kind of an annual cadence? Just trying to figure out kind of when those negotiations take place or when to be mindful of kind of gross margin impacts or pricing impacts?

So look on the industries, I guess there's a couple of different ways I could address that question. I mean, but I'm going to take it on sort of the area that I just want to make sure we've all understood, as I showed the transformation and talked about Phase II launching, we've literally only launched two industries. In terms of having individuals, whether they were here at the time we launched them or indeed we've hired them in as we've made those bets in those two industries, there's only really two industries. So it wouldn't surprise you to say, hey, you know, the ones that are getting traction right now are the ones we've launched. And sure enough connected health is the big one of the two that I would point to today. We're also, as we're launching, as we're investing in our pre-configured solutions, these are still enablement solutions; we don't compete with our customers but are put together, I'll say, more pieces and parts together so that they can be even easier to adopt and enable your IoT solution time to market. I think by the way those pre-configured solutions will have, over the long run, a positive impact on our margins. Right now, they're a drag because I'm investing well ahead of getting revenue for these pre-configured solutions. But why did I bring that up in this context? Because we're coming to market now with the first couple of those, one in the pure connectivity area with failover and cellular as a primary and one actually in our connected health. We just announced at Mobile World Congress in LA our Connected Health Telemetry Solution, which we're incredibly excited about. We will continue to focus and take advantage of this explosion we're seeing with remote patient monitoring companies coming to the market every day, especially in the United States. That’s where we see the money.

Just contract negotiations and when those normally happen?

The classic KORE IoT connectivity business isn't typically a dynamic part of our operations. A customer approaches us with their business projections, saying they aim to reach a specific number of lines over a certain period. We agree on contract terms based on those projections. If the customer is performing significantly better, they might want to discuss pricing even before the contract ends. Conversely, if they start falling short on minimum payments, a different conversation may arise. These discussions are more about the solution's performance, its momentum, deployment, and the overall commercial arrangements. Once we deploy a device, it generates revenue for five, seven, or even ten years because it's often too costly to replace that SIM card.

Our next question comes from Walter Piecyk with LightShed.

Hey, Romil, can you just comment on, I mean, I know this is the biggest customer, because I assume that stuff like this will be a rare occurrence, or should we expect some level of lumpiness as customers kind of move there, or accelerate, or slow down different deployments? And also Puneet can perhaps give what that growth rate would look like in that segment if you just kind of pulled out this pull forward that occurred in the revenue?

Look, I mean, certainly something of this scale, I don't know that it's going to repeat itself, Walter. I mean, I think you correctly gauged that one. Largely, the sunsets are done in the next 12 and 15 months, largely in at least the North American ones. The chance is that anything really, really that large could come is low. I wouldn't hold my breath. If they do come because some customer really needs the help to try to get their transitions done, come on over to the one-stop shop day because we would love to help. I don’t think this kind of timing acceleration and lumpiness, as you called it, is a thing to stay at all. Puneet, do you want to take the second one?

We already broke down the top customer revenue. We can provide you some more information on the total top customer revenue of $18.9 million, the three months. Maybe about $11 million is from that transition project, which should help you to calculate the number you’re trying to calculate.

Yes, I would've thought some of that $11 million would have happened anyway. So I'm just looking for the incremental to get to what the growth would have otherwise been. This is mostly hitting in the third quarter. I know you said Q3 was peak, but you're going to see some acceleration or pull forward helping the fourth quarter as well of '21.

We observed some of this in Q2, as mentioned in our press release. You are correct that there is a peak, and we expect a decrease in Q4. However, Q4 will benefit from this project.

I mean, given the complexity of IoT solutions, as you've described them, obviously, this should hopefully be kind of a reference client. If you get this done quickly for them. So on the revenue for '22, when I remember that slide that you have where you show so much percentage of your revenue is already contracted. So the flip side of that is like how long is the lead cycle to layer on new organic revenue opportunities in '22? Is that a heavy lift or is there still this an opportunity to, obviously, you've got this revenue pulled into '21, you've got all this other revenue already contracted for '22. How quickly can you contract additional revenue to deliver and further upside?

Our objective is to determine how to effectively address the significant portion of revenue that has been pulled forward. We are exploring various strategies for 2022, some of which we believe will be beneficial. To specifically address your question about the ease or difficulty of this process, connectivity tends to progress slowly. In our smaller customer segment, many small customers take their time to establish their value propositions, often fluctuating in and out of our consideration. While some new customers may succeed, we don't anticipate significant results next year. New revenue from this year's customer cohort, as well as next year's, generally grows slowly unless there is a substantial deployment, which is uncommon. Therefore, we need to focus on our IoT solutions to explore these opportunities. Your observation is spot on: we should leverage case studies to enhance our marketing strategies for customers navigating their transitions. We aim to use supply chain delays to our advantage by reaching out to clients and offering support when they receive their devices, especially if they lack the in-house capability or expertise. These are the strategies we are contemplating. Our best chance of achieving next year's targets, despite the revenue pull forward, is through IoT solutions.

And then my last question, I guess, is now you have this extra cash ahead of time, which is nice. You mentioned pulling down another $25 million post-quarter. When I look at that seven by seven chart, what's the low-hanging fruit for inorganic opportunities as you enter 2022? What's at the top of your wishlist as you continue to look to fill in additional opportunities or products and services, however you want to describe it?

I think fleshing out these industries, Walter, is my number one sector. You can think about that a couple of different ways. You could say, hey, go do a sizable acquisition, put this cash to work, put this currency, this stock to work and go get yourself an industrial or an asset type practice because you just acquired it. I'm also quite intrigued about doubling down in connected health. This thing is going places. We have a real competitive moat. We have real differentiators. Could there be a better place to make a bet? I don't think so. We still have to be responsible; we have to be creative and all of those things will apply in the end. But I'm actually relatively pleased, Walter, with the reinvigoration of our M&A funnel over the last few months. I think we will get a deal or two done next year, which we couldn't unfortunately this year just given everything going on. It will largely, again, be industry-focused. Could it be some tech or some 5G pieces or some AI IoT pieces? Maybe. It's just not number one; I think you asked me what my number one was.

To follow through on your other question on how much is over this pull-through, we weren't expecting anywhere near the $11 million. It’s closer to about $2 million.

Thank you. Currently, this concludes our question-and-answer session. I would now like to turn the call back over to Mr. Bahl for closing remarks.

Hey, thank you, Alex. I do appreciate everyone taking the time to listen in to our very first earnings call. We hope everyone is staying safe and enjoying these four months. We look forward to speaking with our investors and analysts again when we report Q4 early next year. Have a great evening everyone, happy holidays, and see you soon in 2022. Thank you very much.

Ladies and gentlemen, this concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.