Earnings Call Transcript - KSCP Q2 2024

William Li, CEO

Welcome. Thank you all for joining the Knightscope Town Hall and the 2024 Annual Stockholder Meeting. We appreciate each of our investors and are thankful for your time today. Let me cut to the chase. Many companies face tough times, and Knightscope has encountered significant challenges in recent years as a public company. It's a peculiar situation because, internally, we feel we are performing significantly better than during our private phase. However, as I often mention, I believe Wall Street can make mistakes in the short term, though usually gets it right over the long haul. In the meantime, we will persistently tackle these challenges, and I am very optimistic about our future. This situation will improve. We are making meaningful progress toward our internal goals and key factors needed for profitability, and I am enthusiastic about Knightscope’s potential to create long-term stockholder value. Much of this is due to the significant changes we are implementing in the business. Honestly, some days feel like we are altering everything except the logo's color. Our goal is to explore all possible avenues to enhance the company and its financial standing. There is still much work ahead, and we need to concentrate on executing our plans. As the largest stockholder of Knightscope, I have unwavering faith in the team because they show up every day and tackle the complex challenges we face, continually driving progress toward a better future. This relentless work ethic helped launch Knightscope over 11 years ago and enabled us to be among the few startups that succeed and thrive. The outlook is promising; we just need to focus on solutions that empower investor confidence and effectively implement our plans. We have a clear strategy, the right team, and we are making daily advancements. I believe in Knightscope's bright future, and I have immense appreciation for our company, our team, and our investors. I can't imagine working on anything else, and it is a privilege to champion Knightscope every day. Today, I will share my four personal reasons for my confidence in Knightscope and my conviction against criminals: market, technology, operations, and people. First up, regarding the market—investors are eager to know about a substantial market ready for disruption, especially when paired with unique technology and a compatible business model. We believe we are not just targeting a large market, but one with a continual demand. The public safety, law enforcement, and security sectors are ready for disruption, particularly through robotics, AI, and automation. Let’s consider three angles to grasp what we see as a multibillion-dollar opportunity. First, we maintain that robots will become ubiquitous. We view the potential market as massive and resistant to decline since crime is a persistent issue. Think about outdated products like typewriters and pagers—those markets eventually disappeared, but crime is a constant challenge. A property crime occurs every four seconds in the U.S., and a violent crime every 26 seconds. Every American deserves to live in a safe environment. Second, let’s triangulate some data points. There are around one million law enforcement professionals, about 1.5 million security guards, approximately 300,000 law enforcement vehicles, and around 80 million security cameras in the U.S. This certainly indicates a significant market opportunity which demands a large technology portfolio that we’re just beginning to develop. We're aiming for millions of robots in the long stretch, not just dozens or hundreds. Third, applying a percentage approach to these numbers suggests a potential $40 billion recurring revenue opportunity once we have everything lined up. Detailed information is available at knightscope.com/rise. Now that you understand the vast opportunity ahead, how do we address it and what strides have we made so far? Consider our machine-as-a-service subscriptions, which show that a recurring revenue model can work for ongoing societal challenges and has already accrued substantial revenue. We've demonstrated margins exceeding 60% over five years based on data from many of our longest-term clients using our autonomous security robots, validating our financial forecasts. Moreover, clients have consistently renewed our subscription services for extended periods, sometimes up to eight consecutive years. They wouldn’t renew if we weren’t delivering real value. We perceive dwindling competition, as most efforts from both large corporations and startups have failed, giving Knightscope a genuine first-mover advantage. Furthermore, we believe we are the only autonomous security provider approved to contract with the U.S. Federal Government, successfully deploying our first K5 government machine. Our machines have already made a significant positive impact on society, helping solve various safety issues and supporting law enforcement efforts. We foresee a future where autonomous security will become as standard as smoke alarms, marking the tipping point for widespread robot usage. Our newly established Risk & Threat Exposure department has proven effective in maintaining safety, and our engagement with clients continues to grow. In summary, we have a large market that everyone can understand, a potential for recurring revenue, high margins as we scale, proven technology, and a competitive environment where others have struggled. Now turning to technology, Knightscope focuses on public safety, creating tools to protect Americans. We've accomplished tasks that are not only complex to build but also difficult to operate nationwide every day of the year. Our work has given us a real edge, and our focus is on optimization and scaling for growth. We require at least one million machines that can see, hear, feel, smell, speak, and work autonomously, providing officers and guards the tools needed to perform effectively. Talking about AI, we've already integrated numerous AI functions into our systems—such as facial recognition and license plate detection—and we plan to incorporate AI into every aspect of our operations. The most recent advancements in AI will significantly enhance our capabilities. We anticipate our machines will see, feel, hear, and communicate through AI, allowing for cooperation during incidents. For example, they could track suspects from the FBI’s Most Wanted List. Operations are another critical aspect. We spent years focusing on making our technology operational and are now poised to refine and optimize our processes. We’ve instituted numerous changes to improve our efficiency and reduce costs. Our goal is to optimize our operational costs and enhance service quality while ensuring we can scale effectively, expecting that these improvements will reflect positively in our financial results over time. Lastly, our team’s relentless spirit is vital to our success. We’ve made significant changes, including restructuring management to streamline decisions and focusing on creating a cohesive team. Many of our employees have been with us for several years, exemplifying their dedication to making Knightscope a success. A heartfelt thank you to our investors, as your support fuels our mission. I have a personal commitment to better securing the U.S. As we make necessary investments in new technologies to fulfill this mission, teamwork and steadfast belief in our vision will be paramount. We’re building a comeback story, and I invite you to join us in this endeavor. Together, we can make a substantial impact.

Apoorv Dwivedi, EVP & CFO

Thanks, Bill. We know that this journey is challenging, but Knightscope is well positioned for long-term success. With that, let's jump into our second quarter financial performance results. For the second quarter of 2024, we reported total net revenues of $3.2 million. This represents a decrease of $0.4 million or a 10% decline compared to the same period last year, primarily because the gain in our services business was offset by lower year-over-year product revenue. Services revenue increased by $0.1 million to reach approximately $2 million for the quarter, primarily due to ASR subscriptions and as more clients in the K1B product line signed up for recurring maintenance. However, total product revenue, which currently consists mainly of the K1B product, declined by $0.5 million, coming in at approximately $1.3 million because a large one-time sale in the prior year did not repeat. Moving on to costs. If you recall, the company made a few strategic changes in the first quarter aimed at setting a path to profitability. Many of these were directly aimed at reducing our cost of goods and our cost of services. We also acknowledged that these initiatives would initially result in higher short-term costs and that we also expect the disruptions in the impacted activities at the business to directly affect our P&L throughout the year. As a result, we fully expect 2024 to continue to be a transition year. Our cost of revenues came in at $3.8 million, which is an increase of approximately $200,000 from the prior year. This was driven primarily by cost savings that include $0.5 million in lower cost of materials and $0.4 million in headcount savings that were offset by $0.6 million in higher third-party costs, $0.3 million in scrap fees and $0.2 million in other costs associated with the transition. On to gross profit. This quarter, we recorded a gross loss of $0.6 million, a significant change from the gross profit of $9,000 reported in the prior year second quarter. The decrease in gross margin was driven by $0.4 million in lower year-over-year revenues and $0.2 million in higher cost of revenues. It's important to note that our gross loss would have been between $0.1 million and $0.3 million if we exclude the one-time scrap fees of $0.3 million and the one-time transition costs of $0.2 million. Moving on to OpEx. Total operational expenses came in at $6.2 million for the quarter ended June 30. Excluding the $0.3 million in restructuring charges that we took, our OpEx was flat to prior year as it came in at $5.9 million for this quarter. Overall, we saw headcount savings of $0.6 million offset by $0.4 million in higher third-party expenses, primarily legal and financial support costs and $0.2 million in higher R&D costs related to product development as the firm explores a new generation of product design. Restructuring charges of $0.3 million were primarily related to severance costs and moving fees as we closed down the Irvine, California facility to move our production to Mountain View, California. Loss from operations of $6.8 million was approximately $0.9 million higher than the prior year because of the drivers discussed earlier. It's important to note that excluding the one-time restructuring costs of $0.3 million and the scrap fees of $0.3 million and investment in new product development of $0.2 million, our OpEx or operating loss would be flat to prior year on $0.4 million in lower revenues, indicating that the company is working hard to deliver on its operational efficiencies. Net loss of $6.3 million for the quarter came in approximately $1.5 million higher than the prior year, primarily due to the $0.7 million increase in other expenses, coupled with the $0.8 million higher OpEx versus the prior year. The increase in other expenses includes $0.5 million in higher non-cash warrant valuation losses and $0.2 million in interest on the bonds that we closed in the first quarter. Finally, Knightscope's basic and diluted net loss per common share was $0.05 as compared to a loss per share of $0.08 in the prior year. With that, I'll pass it back to Bill.

Stacy Stephens, Executive Vice President & Chief Client Officer

Good afternoon, everybody. Thank you so much for joining the Knightscope Q2 Town Hall. I want to thank Bill and Apoorv. They're going to be joining us live momentarily. I want to go through some quick housekeeping measures. First and foremost, all of your questions, please put them into the chat window so that we can address them. If it's stuff that are just comments and things like that, if you see your comments disappear, it's only because I'm deleting them so I can keep track of the questions. And then I will tee those up for Bill and Apoorv, so you guys can ask them the live questions. So to go ahead and get started. Bill, why don't you, and Apoorv, talk about some of the highlights and accomplishments for the quarter that we're talking about right now, just so people kind of know some of the positive stuff. Obviously, we've got to go through all the financials and everything else. But it's not all doom and gloom. So let's talk about some of the positive changes that have been made. Bill?

William Li, CEO

Good to see you, Stacy and Apoorv. Thanks, everybody. Only a few hundred people online with only a few hundred questions, so we're going to be here a little bit. We'll try to answer as many as possible. As we mentioned, this year is kind of a clean house turnaround year to make a lot of fundamental changes. We expect that those numbers will be choppy. It's not going to be a linear progression as we make substantial changes throughout the entire organization. And as I mentioned in the video, some days, honestly, it feels like we're changing everything except the color of the logo. But I think Apoorv and I and the team are pretty excited despite all the red stuff that you see. On the share price side of things, I think the future is looking pretty good, and we're excited to move things forward. There are things that are less obvious that don't show up in regulatory filings. Obviously, we're not going to share any material nonpublic information here, but we may highlight a few things. Sometimes in all the regulatory filings, things get lost, or frankly, a little too complicated. But I'll turn it over to Apoorv, if you want to kick off some things that will help answer a ton of questions that are flying in here, on things that we have changed that may not be so obvious for folks.

Apoorv Dwivedi, EVP & CFO

We began this quarter by addressing our capitalization structure. When we reviewed our balance sheet from previous years, we noticed that there was about $34 million in preferred shares listed under shareholders' equity, which is atypical for a public company. Typically, these preferred shares convert to common stock automatically during an IPO liquidation event. However, since we opted for a direct listing, this conversion didn’t happen, setting us apart from usual public company practices. In the second quarter, our priority was to convince the majority of preferred shareholders to convert their shares. This step accomplished two key objectives. First, it aligned us more closely with standard public company practices. Second, it allowed us to incorporate that $34 million into our stockholders' equity calculation, which previously was not included. This correction shifted us from a negative stockholders’ equity situation to reporting $11.2 million in shareholders' equity, as reflected in our recent filings. This improvement not only enhances our balance sheet but also enables us to meet NASDAQ’s stockholders' equity listing requirement. NASDAQ has three listing criteria: market cap, equity, and net income. Previously, we only met the market cap requirement, but now we satisfy the equity requirement as well, which is beneficial for us. Furthermore, we have moved to the Capital Markets tier on NASDAQ, which aligns better with our company’s profile. We also raised over $5 million in funding and have a functioning ATM program that we use effectively, which provides a cost-efficient capital source compared to other more complex funding methods. This quarter has been one of our strongest in the past three, showing 40% revenue growth compared to the previous quarter. While there has been some variability due to timing, we believe we are making the necessary progress. Bill, perhaps you would like to elaborate on our partnerships, product developments, and efforts to enhance the customer experience.

William Li, CEO

We need to increase revenues and reduce costs, and merely applying quick fixes isn't enough. This will involve acquisitions and developing our own technology. As a technology company, we have significant opportunities to improve efficiency and reduce costs, especially at higher volumes for greater consistency. I'm particularly excited about the Intelligence Control Module. Our current products utilize different architectures, software, and firmware, which demands extensive staff and engineering resources for maintenance, support, production, and quality assurance. This creates a bottleneck for throughput and service issues. By standardizing our platform, we can speed up production and shipping, while reducing service requirements. The transition to the K5 v5 from the K5 v3 is part of this strategy. I saw a question about how we plan to achieve these changes without significant additional resources. Our goal is to work more efficiently and eliminate the need for staff to manage outdated technology, allowing them to focus on new product development. This approach should yield significant improvements in quality, throughput, and financial performance. While adapting to these changes may be somewhat chaotic, as timing doesn't always align with facility shutdowns or personnel changes, I believe we are moving in the right direction. We will encounter some challenges, but it is essential to set ourselves up for long-term success. I am confident we have the right strategy and team in place, and now it's time to execute.

Stacy Stephens, Executive Vice President & Chief Client Officer

Let's get into some of the questions then.

William Li, CEO

Yes, because there are a lot of questions, and thanks, everybody, for tuning in. I know all of you are pretty busy and have pretty busy lives. So we are grateful for that. The two videos that we just played will show up on YouTube here in a couple of hours or so, on our YouTube channel, and we'll post them on social media. So in case you missed something or you wanted to go back, or like what did Apoorv say? Rewind, you'll be able to do that here shortly. But let's get to the questions you've got here.