Mitek Systems Inc Q2 FY2021 Earnings Call

Good day and welcome to the Mitek Systems Second Quarter Fiscal 2021 Financial Results Conference Call. Today's conference is being recorded. At this time I would like to turn the conference over to Todd Kehrli, MKR Group. Please go ahead, sir.

Thank you, Operator. Good afternoon and welcome to Mitek's Second Quarter Fiscal 2021 Earnings Conference Call. With me on today's call are Mitek's CEO, Max Carnecchia; and CFO, Jeff Davison. Before I turn the call over to Max and Jeff, I'd like to cover a few quick items. This afternoon, Mitek issued a press release announcing its second quarter fiscal 2021 financial results. That release is available on the company's website at miteksystems.com. This call is being broadcast live over the Internet for all interested parties, and the webcast will be archived on the investor relations page of the company's website. I want to remind everyone that on today's call, management will discuss certain factors that are likely to influence the business going forward. Any factors discussed today that are not historical facts, particularly comments regarding our long-term prospects and market opportunities should be considered forward-looking statements. These forward-looking statements may include comments about the company's plans and expectations or future performance. Forward-looking statements are subject to a number of risks and uncertainties which could cause actual results to differ materially. We encourage all of our listeners to review our SEC filings including our most recent Form 10-K and 10-Q for a complete description of these risks. Our statements on this call are made as of today, April 29, 2021, and the company undertakes no obligation to revise or update publicly any of the forward-looking statements contained herein, whether as a result of new information, future events, changes in expectations, or otherwise. Additionally, throughout this call, we'll be discussing certain non-GAAP financial measures. Today's earnings release and the related current report on Form 8-K describe the differences between our non-GAAP and GAAP reporting and present the reconciliation between the two for the periods reported in the release. With that said, I'll now turn the call over to Mitek's CEO, Max.

Thanks, Todd. Good afternoon, everyone. Thank you for joining us today. I hope you and your families are staying healthy and safe. First, I want to commend the Mitek team for their continued hard work. Because of your dedication and determination, Mitek delivered record second quarter revenue with exceptional performance across both lines of business. For the second consecutive quarter, our identity verification revenue grew more than 40% year-over-year, highlighting our leadership in this high-growth market. Our deposits business also continued to deliver solid revenue growth driven by increasing consumer adoption. All of this resulted in revenue of $28.8 million, up 24% year-over-year. Also, we delivered non-GAAP net income of $7.3 million or $0.16 per diluted share, up 34% year-over-year and cash from operations of $7.3 million. We remain energized by the rising momentum in the identity verification market with digital identity solutions rapidly emerging as the nexus to building trust and doing business online. More and more of our existing customers are expanding identity verification well beyond the initial onboarding use case. And this quarter, we added numerous new customers outside of financial services, as we helped organizations in telecommunications, marketplaces, and technology establish an appropriate identity verification solution. Identity verification has never been more relevant. Rapid advances in artificial intelligence are enabling novel forms of fraud and increased scale and frequency of data breaches. All of which is adding heightened pressure on organizations to protect customers' data and access. As I recently wrote for the Forbes Business Council, being able to secure users' data has become a business imperative. To prosper long-term, companies that rapidly transitioned to online commerce now must demonstrate to customers that they can be trusted to protect their data online. Organizations no longer have the luxury to simply verify access at the point of onboarding; instead, they need to continuously authenticate and know exactly who their customers are across channels and throughout the customer lifecycle. According to Javelin's annual identity fraud study, $56 billion was lost in combined identity fraud and identity fraud scams in the United States in 2020. 39 million American consumers were impacted with a loss per fraud incident of $1,350. Most alarming was that more than half of the consumers victimized by identity fraud experienced total account takeover loss across multiple accounts. These numbers are staggering and validate the significant new investment being made in identity verification as an integral function to fight fraud online. The growing usage of digital channels for commerce presents the perfect opportunity for criminals to commit fraud. So we need to come together as an ecosystem and deliver stronger forms of authentication. Javelin recommends, and I quote, 'biometric and behavior analytics should be used from beginning to end across digital platforms to help continuously authenticate transactions.' Well-authenticated identity verification using both passive and active biometrics is primed to solve this problem. Identity verification is rapidly becoming an integral element of most organizations' technology stack, and we believe the next decade of fraud prevention will be defined by an organization's approach to the lifecycle of continuous identity and access management capabilities. Mitek is the only enterprise-class provider in the identity category and our standards of service remain unchallenged. Our approach is to provide advanced linked and layered identity signals from initial onboarding with documents, devices, and biometrics to authentication, re-verification, and continuous identity fraud detection. Our customers globally represent hundreds of the world's best-known brands and banks, and our proven track record of success continues to grow as we expand our reach into this fast-growing market. Mitek's ambition is to be an indispensable partner in fighting identity fraud for the markets and geographies we target, and the momentum we are experiencing is evident. Looking forward, our pipeline of potential new customers is strong. Our existing customers are expanding their use of mobile verify across multiple use cases, and our channel partnerships are gaining traction. As the industry-leading solution for identity verification, we are committed to maintaining product superiority and expanding our reach into this large and growing market. We are committed to innovation and delivering products that are simple and intuitive to use while protecting organizations from the growing threat of fraud. Turning to our deposits business, mobile banking usage continues to increase every quarter. This quarter, JPMorgan Chase reported a 9% increase in mobile banking users to 41.9 million customers, and Wells Fargo reported active mobile banking customers increased 8% to 26.7 million. Along with this increase in mobile banking adoption, mobile check deposit was rated the most valuable mobile banking app feature in 2020 according to a recent Forbes survey. Similarly, 70% of consumers surveyed by Cornerstone Advisors in 2020 said depositing a check was one of the most important mobile banking features, and 85% intend to continue depositing checks using their mobile devices in 2021. As a result of this increase in customer adoption, our highly profitable deposits business continued to grow during the quarter, with its revenue increasing 18% year-over-year. Surprisingly, 42% of consumers surveyed used mobile deposit for the very first time in 2020, indicating the sizable opportunity for growth and continued adoption. The 7,500 financial institutions that use our mobile check deposit solution are pushing for mainstream consumer acceptance as it represents a significant cost savings for them. So don't be surprised when you see a TV ad featuring Samuel L. Jackson, Charles Barkley, and Magic Johnson telling you that using mobile deposit is a magical experience. It is. We look forward to continuing adoption of our deposits product as more and more consumers discover its ease and convenience. In closing, our strong results show the central role that our products play in this digital economy. The acceleration and demand for our identity verification solutions is ongoing. Our record revenue demonstrates how we are strengthening our market position in 2021 and beyond. Now I'll turn the call over to Jeff to discuss the financial results in more detail, and following Jeff's remarks, we'll open the call up to questions. Jeff, please go ahead.

Thanks, Max, and thank you everyone for joining us this afternoon. Let's start with the Q2 revenue and operating results. For the second quarter of fiscal 2021, Mitek generated record revenue of $28.8 million, a 24% increase year-over-year. Software and hardware revenue was $13 million, an increase of 14% year-over-year. Services and other revenue, which includes transactional SaaS revenue, maintenance, and consulting services, was $15.8 million for the quarter, an increase of 34% over Q2 last year. This increase is due to growth in transactional SaaS revenue, which increased 50% year-over-year to $11 million. The transactional revenue was positively impacted in the quarter due to higher revenues from a few customers with related increased transaction usage. While we are very happy with the significant growth year-over-year, this revenue may not continue at these increased levels in the next quarter. Also, as we look forward, I would point out that Q3 will be our first comparable quarter on a year-over-year basis since the pandemic began. As you may recall, in Q3 last year, we saw significant increases in transaction volumes related to the pandemic, which will impact the comparable growth rates. For Q2, deposits revenue increased 18% year-over-year to $17.2 million. Identity verification revenue increased 35% year-over-year to $11.6 million. We delivered strong software and hardware gross margins of 95% for the quarter. Gross margin on services and other revenue was 80% for the quarter. Total gross margin for the quarter was 87% compared to 86% in Q2 last year. Total GAAP operating expenses, including cost of revenue, were $26.4 million compared to $22.1 million in Q2 last year. This increase is due to increased cost of revenue associated with higher revenues and increased expenses due to investments to grow our identity business. Sales and marketing expenses for the quarter were $8.5 million compared to $6.7 million a year ago. R&D expenses were $6.7 million compared to $5.6 million last year and our G&A expenses were $5.7 million compared to $5.2 million a year ago. GAAP net income for the quarter was $1 million or $0.02 per diluted share. Our diluted share count was 44.6 million shares compared to 42 million shares a year ago. As a reminder, our earnings release includes a reconciliation between GAAP and non-GAAP net income. We believe non-GAAP net income provides a useful measure of the company's operating results by excluding acquisition-related costs and expenses, stock comp expense, litigation expenses, amortization of debt discount and issuance cost, and the related tax impacts of these items. Non-GAAP net income for Q2 increased to $7.3 million or $0.16 per diluted share compared to $5.4 million or $0.13 per diluted share a year ago. Our non-GAAP adjustments include $3 million of stock comp expense, $1.7 million of acquisition-related costs and expenses, $1.1 million of amortization of debt discount and issuance costs, $1.6 million in cash tax difference, and $275,000 of litigation expenses for the quarter. This was all offset by the income tax effect of pre-tax adjustments of $1.4 million. Turning to the balance sheet, we generated $7.3 million in cash flow from operations during the quarter and completed a successful convertible debt offering, adding approximately $150 million in cash to our balance sheet, bringing our total cash and investments at March 31st to $219.5 million. Our accounts receivable balance of $14.2 million represents a DSO of 50 days. In closing, we are very pleased with our results, which include record second quarter revenue and non-GAAP net income as well as strong cash flow from operations. We look forward to reporting our continued progress in the coming quarters as we help our customers and partners accelerate their digital transformation, while at the same time mitigating fraud. Operator, that concludes our prepared remarks. Please open the line for questions.

Thank you. We'll take our first question from Bhavan Suri with William Blair.

Hi, everyone. This is actually Jake on for Bhavan. I'm just curious, interested to hear how you're thinking about capital allocation given the recent raise. How are you balancing investment sales and marketing versus the potential for inorganic M&A just given the recent growth you're seeing in ID verification?

Hey, Jake. Thanks for calling. Thanks for the question. Yeah, I think we just tilted up the converted cash at the beginning of February. So it's still relatively fresh and we talked about the use of proceeds, at that point, primarily focused on acquisition. I think that's number one on the list. Number two on the list. Number two on the list. And then get down to number four and it's probably other things within the business with the top three priorities there would be around acquisition.

Awesome. And then just as a follow-up, just curious if there is any update on the CFO search and how the process is tracking?

The process continues to roll along. It's a great question, and we're very fortunate to have Jeff in the safe set of hands here to help us. So we're going through this. I would kind of fit your expectation. We're still probably a couple of months away from getting that fully resolved, but stay tuned.

Next, we'll hear from Mike Grondahl with Northland Securities.

Thanks. This is Michael on for Mike. Thanks for taking the questions. Maybe just first like Salesforce positioning as we move like towards later half of this year. Is there any thoughts about that certain industries or use cases where it's generally expected to see a lot of strong growth? Can you just talk about that?

Mike, I appreciate your question. This year, we have maintained a focused approach to our go-to-market strategy, both in the domestic and international arenas, concentrating on sectors such as financial services, FinTech, and marketplace accounts. We have identified key targets within these sectors, prioritizing direct engagements and partnerships with our channel partners. We're currently midway through our fiscal year, and our strategy is not expected to change. As we begin planning for next year, we may consider ways to broaden our scope, but it is too early to make any concrete predictions on that.

Got it. Thanks. And just on mobile deposit, it's safe to say that some of that kind of rolls for the way those contracts are structured with resellers where the benefit we saw for the last 12 months or so is going to still kind of push forward a quarter or two.

Yeah, I'll let Jeff add some comments on how that revenue model works, but yeah I think that with everything that's been issued by the government. I mean that's out there, but we haven't necessarily seen that kind of work its way through the resellers in the core service providers to actually show up as increased revenue for us yet. I don't know, Jeff, do you want to add to that?

Yeah, I just add, I think you understand the way the contracts work and that will flush through the system as they re-order the depleted inventory. I would add though that this quarter we continued to see a 20% plus increase in usage over the last year in mobile deposit, and that's just on checks being processed. So it's still remains very strong. Now next quarter should be the first anniversary again on the pandemic, so we'll see how that one year lapping impacts that increase in check usage next quarter, but this quarter was still strong over 20%.

We'll now hear from Hamzah Mazari with Jefferies.

Good afternoon. Thank you. Regarding identity in the M&A pipeline, could you provide some details on its size and explain how your offering differs from some of the bureaus that have made deals like Kount and Mastercard? Please discuss the pipeline, how your offering stands out, and whether there is fragmentation and opportunity in this space for you.

Yeah, Hamzah, I think you start with the answer right there. Identity it's still in early, digital identity particularly is in the early stage category. It's fast-growing. It's extremely fragmented and for the things that we do, we find it to be very localized, meaning the way that identity is validated and then authenticated in different countries is subject to the local laws. So, yeah, with so many companies out there, having entered the space and so many different approaches. I'm not going to name companies. I'm probably not even going to name categories, but we just think staying close to our customers and taking this market-first approach, where we've got some of the largest banks in the world and some of the most advanced fast-growing FinTechs in the world telling us what they're looking for and how they want it laid out, how they want it orchestrated, how they want those signals to work, we're going to use that as our guiding light as to who we should be talking to as far as potential targets for acquisition.

Got you. And just my follow-up question. I'll turn it over, on the deposit side, do you have sort of an idea of where adoption sits today? I know you mentioned post-COVID there's clearly greater adoption during COVID and maybe post-COVID too, but maybe touch on where adoption sits and are you seeing some of the smaller banks also increasingly use mobile deposit? I know you mentioned some of the larger names already? Thank you.

Yes, let me take the back half of that question first. Small bank, big bank, community bank, regional bank, credit union, digital bank, big bank all used mobile deposit, that's the 7,500 financial institutions represent the head of the snake and the long tail of the US financial industry. So everybody, if you want to do mobile deposit, you're showing up with Mitek. The front end of that question is a harder one to take on. Before the pandemic adoption we were being told by the banks that on average, the adoption was about, for retail checks, the high teens and something like 17%, 18%, 19% retail checks were being deposited via a mobile device. And then there's a lot of information out there and how folks are kind of forced to adopt because branches were closed, so they don't want to touch ATM machines, but we don't have a good handle on is on average across those 7,500 institutions is that now mid '20s, is it higher, is it slightly lower, so I'm sorry, not to be able to give you something more precise or higher confidence. What we do talk about internally with your strategic planning and what our customers have validated for us is there is no reason that over time the adoption of mobile check deposit should not be at least half of all retail checks. There's just no longer a good reason for that, and I think we've shown that the adoption when forced can happen pretty quickly, but we will take the action as we get better information, so we're happy to share it with how that adoption trend continues to mature.

We'll hear from Mark Schappel with Benchmark.

Hi. Thank you for taking my question and nice job on the quarter. Jeff, starting with you in your prepared remarks, you noted that some of the Q2 transactional revenues likely won't repeat next quarter. I just wonder if you could clarify why this revenue is likely not to repeat, why some of it anyways won't repeat?

Sure. So, in the second quarter, we had a handful of customers that just reached higher transaction levels that are more likely to be not repetitive maybe one time in this quarter. So they may not repeat next quarter. So that was my really the crux of my point there. There's specific transaction to specific customers.

Okay, great. Thanks. And then, Max, in the past you've noted that there may be some opportunities for price increases in mobile deposit and I was wondering if that's still an ongoing initiative at the company and then whether you've had any success on that front?

Thanks for that question, Mark. Regarding price increases and the overall enhancement of economics in our contracts during renewals and renegotiations, we have consistently addressed this over the last six or seven quarters. We are taking a firm approach, not because we want to impose high prices, but because our customers derive significant value from our products. The terms of the contracts established many years ago, sometimes decades ago, were not equitable for Mitek. Therefore, we continue to pursue this issue, which is a gradual process. We evaluate the outcomes in our quarterly business reviews every 90 days and the trend is steadily improving. It’s not explosive growth, but a consistent upward movement, and we will keep working on this.

Great. Helpful. And then finally here with respect to your ID business. I was wondering if you saw any strength or weakness in any particular geography?

Last quarter we saw strength in just about every geography. It was a strong quarter. I know Jeff touched on some of these one-time things, but when you take the really good year we had in FY20, the strong quarter we had in Q1, and now an even stronger quarter in Q2. We can feel it. It's there and we're seeing it across geography, across industry. This is a problem that just about every organization needs to figure out how to take care of.

And that will conclude today's question-and-answer session. I will now hand the conference over to Todd Kehrli for any additional or closing remarks.

Okay. Thank you, Operator, and thank you, everyone for joining us today. We look forward to updating you again next quarter. Our call has concluded. Have a wonderful day.

And that will conclude today's conference. Thank you for your participation. You may now disconnect.