Earnings Call Transcript - PLTR Q3 2022

Operator, Operator

Good morning. Welcome to Palantir's Third Quarter 2022 Earnings Call. We'll be discussing the results announced in our press release issued prior to the market open and posted on our Investor Relations website. During the call, we will make statements regarding our business that may be considered forward-looking, including statements about our third quarter and fiscal 2022 results, management's expectations for our future financial and operational performance, and other plans and expectations. These statements are not promises or guarantees and are subject to risks and uncertainties that could cause them to differ materially from actual results. Information regarding those risks is available in our earnings press release distributed before the market opened today and in our SEC filings. We have no obligation to update forward-looking statements, except as required by law. Additionally, during today's call, we will refer to certain adjusted financial measures. These non-GAAP financial measures should be considered alongside, rather than as a substitute for, GAAP measures. More information about these non-GAAP measures, including reconciliation to comparable GAAP measures, is included in our press release and investor presentation provided today. Our press release, investor presentation, and SEC filings are available on our Investor Relations website. Throughout the call, we will refer to various growth rates when discussing our business, which reflect year-over-year comparisons unless stated otherwise. Joining me on today's call are Alex Karp, Chief Executive Officer; Shyam Sankar, Chief Operating Officer; Dave Glazer, Chief Financial Officer; Ryan Taylor, Chief Business Affairs and Legal Officer; and Kevin Kawasaki, Global Head of Business Development. To start today's call, we'll begin with highlights from Foundry Con, where you'll hear from Alex and representatives from Jacobs, Tyson Foods, William, Apache, Swiss Re, and Space Systems Command.

Ryan Taylor, Chief Business Affairs and Legal Officer

We generated $478 million in revenue this past quarter and $37 million in adjusted free cash flow, marking our eighth consecutive quarter of positive adjusted free cash flow. Despite significant geopolitical and macroeconomic uncertainty, our government business surpassed the $1 billion revenue mark on a trailing 12-month basis, and our U.S. commercial business grew for the ninth quarter in a row, rising 53% year-over-year. The number of customers using our software, including leading commercial and government enterprises in the U.S. and overseas also increased substantially this past quarter, rising 66% from this time last year. We increased our U.S. commercial customer count to 132 at the end of Q3, a 124% increase year-over-year. Our expanded footprint within the market is a reflection of our ability to both reach additional customers and grow existing relationships. In particular, we closed 273 deals this past quarter representing an increase of 63% year-over-year. 19 of those deals were at least $10 million in total contract value, 32 were at least $5 million and 78 were at least $1 million. We have come as far as we have by consistently engaging with some of the hardest problems that the world and our customers have faced since our founding. For example, our work in supply chains, which is increasingly scaling into ecosystems is powered by Foundry's data integration capabilities. This year alone, we have started 25 supply chain projects. This includes the expansion of our work in shipbuilding at Hyundai Heavy Industries bringing the partnership to over 45 million and the expansion of our work with the FDA to modernize food supply resilience to preclude shortages like the one we experienced with infant formula earlier this year. The total value of contracts that we have closed in the third quarter reached $1.3 billion, a new milestone for us, which includes nearly $1 billion of contract awards from the U.S. government alone such as our most recent contract worth up to $229 million with the U.S. Army Research Lab to deliver AI ML capabilities across the DoD. We recognize that our path to growth is not always linear, but with the opportunity that lies ahead, we continue to recruit and retain the top talent at a time when other companies in the technology sector are slashing their plans and cutting workforces. I'll hand it over to Shyam for further discussion regarding our business and product strategy moving forward.

Shyam Sankar, Chief Operating Officer

Thanks, Ryan. We have spent the last two decades building our products for the world in which we actually live. The disruption and uncertainty that we're seeing around us from Ukraine, the pandemic and inflation, it's driving customers towards us and to our software. As the world continues to struggle with concurrent supply chain and energy crises, Palantir customers have been able to use Foundry to connect and integrate decision-making within their value chain, from their suppliers to their customers to instantly trade off possible courses of action. You just saw highlights from two flagship events we held in Palo Alto and London for our customers to share their experiences with each other. Customers underscored the significant impact our software is having across industries. Executives at Tyson Foods shared how they generated $200 million of annualized savings in 24 months. Jacobs Engineering shared how our software has reduced energy consumption by one-fifth at its first wastewater plant running on Foundry, with the potential to generate $90 million of annualized savings across their 300 plants. Swiss Re shared that they saved more than $100 million in the first year of use alone. More than 35% of employees at Swiss Re use our software on a regular basis. In this moment of macroeconomic uncertainty, that differentiation has never been more valuable to the market than today. These customers consistently focus on our ontology as the decisive factor in delivering results quickly. Our strength, particularly in the U.S. commercial market has also received increasing recognition across the industry. Gartner ranked us as a visionary in data integration. IDC ranked Palantir as the number 1 AI software platform worldwide by 2021 market share and sales, beating Microsoft, IBM, Amazon and Google. Forrester named Palantir as the leader in artificial intelligence and machine learning platforms. And there is no place where time to kinetic impact is more important than on the battlefield. In the government sector, Gotham has become the choice for U.S. and allied defense organizations around the world. We have now officially received DoD IL-6 accreditation, a critical milestone for our broader government business, further enabling our SaaS offering on secret networks. And our new Fed start offering builds on Apollo to enable software companies to achieve FedRAMP authorization in record time and at a fraction of the cost. In addition, we had our TITAN vehicle on display at the annual AUSA conference, where it was met with positive reactions from the U.S. government, partner nations and the industrial base. From the kill chain to the supply chain, our products ensure that there are no missing links. I'll turn it over to Dave to take us through the financial results from this quarter.

David Glazer, Chief Financial Officer

Our U.S. business continues to be the most significant driver of our growth. U.S. revenue grew 31% year-over-year to $297 million, and on a trailing 12-month basis, U.S. revenue grew to $1.11 billion. Our commercial revenue in the United States grew 53% year-over-year to $88 million, and our core U.S. commercial revenue, which excludes our strategic investment program, grew 47% year-over-year and 7% sequentially. U.S. government revenue increased 23% year-over-year to $209 million. On customer count, our net new U.S. commercial customers grew 124% year-over-year and 11% quarter-over-quarter, marking seven consecutive quarters of sequential growth greater than 10%. Turning to our global top line results. Third quarter total revenue grew 22% year-over-year to $478 million, ahead of our prior guidance even when factoring in an additional $1.4 million currency headwind since we issued guidance. Overall net dollar retention was 119%, remaining constant quarter-over-quarter. Commercial revenue increased 17% year-over-year to $204 million. Our international commercial business was roughly flat year-over-year and continues to be affected by both macroeconomic conditions and the strengthening dollar. A number of our customers in the United Kingdom, Europe and Asia enter into contracts denominated in U.S. dollars. And as a result, the strong dollar has been a significant headwind for them. Government revenue increased 26% year-over-year to $274 million. We saw our government business cross another major milestone this quarter as we generated $1.02 billion on a trailing 12-month basis, surpassing the $1 billion mark for the first time. Our customer count continues to increase at a significant rate. We added 33 net new customers in the third quarter, bringing our Q3 2022 customer count to 337, a 66% increase year-over-year and an 11% sequential increase. We added 25 net new commercial customers, which represents 98% growth year-over-year and 12% quarter-over-quarter. Our revenue within our existing customers also continues to expand. Trailing 12-month revenue from our top 20 customers increased 15% year-over-year to $48 million per customer. Third quarter billings were $509 million, up 47% year-over-year. In the third quarter, total contract value or TCV was $1.3 billion. U.S. TCV booked was $1.1 billion, 90% of which was attributable to our U.S. government business. The third quarter TCV figure was driven significantly by renewals and expansions of existing U.S. government contracts, a portion of which have already been funded to date. For total remaining deal value, we ended the third quarter with $4.1 billion, a 17% increase quarter-over-quarter. The quarter-over-quarter growth in total remaining deal value was driven by our unusually strong performance in TCV. As I previously mentioned, the TCV of our U.S. government contracts accounts for both funded and unfunded contract value, and we're seeing this pass-through to our total remaining deal value. We saw headwinds to remaining deal value as a result of executing on our previously announced plan to cancel all remaining unfunded strategic investment commitments. We ended the third quarter with $1.3 billion in remaining performance obligations, up 43% year-over-year. As a reminder, RPO is primarily comprised of our commercial business as it does not take into account contracts with initial term of less than 12 months and contractual obligations that fall beyond termination for convenience clauses, both of which are common in our government business. Turning to margins and expense. Adjusted gross margin, which excludes stock-based compensation expense, was 80%. Third quarter adjusted expenses were $397 million, up 9% sequentially. The sequential increase was driven primarily by headcount-related expense as we had 450 net headcount additions in the quarter, our largest hiring quarter of the year, including 141 new graduates who joined in the quarter. Third quarter adjusted income from operations, excluding stock-based compensation and related employer payroll taxes was $81 million, representing adjusted operating margin of 17%, 600 basis points ahead of our prior guidance. Our adjusted operating margin significantly exceeded our guidance as a result of several factors, but primarily driven by cloud and deployment efficiencies representing around $9 million of outperformance, and the elimination of certain discretionary spend across the business, particularly in G&A, representing approximately $14 million of outperformance. We expect to continue to see efficiencies in the fourth quarter, and we'll remain disciplined in our approach to discretionary spending in this macroeconomic environment. Third quarter adjusted earnings per share was $0.01, which includes a negative $0.02 impact driven by losses on marketable securities. We generated $47 million in cash from operations and our adjusted free cash flow was $37 million, representing a margin of 10% and 8% respectively. This marks our eighth consecutive quarter of positive adjusted free cash flow. On a trailing 12-month basis, we generated $231 million in adjusted free cash flow and $238 million in cash flow from operations. We ended the third quarter with $2.4 billion in cash and cash equivalents and no debt. We retain access to additional liquidity of up to $950 million through our $500 million revolving credit facility and $450 million delayed draw term loan facility, both of which remain entirely undrawn. Our balance sheet leaves us well positioned to capitalize on opportunities that may arise in the current macro environment. Now turning to our outlook, for the full year 2022, despite a negative $6 million currency impact since our prior quarter's guidance, we are reaffirming our revenue guidance of between $1.9 billion and $1.902 billion. Excluding such impact, we would expect full year 2022 revenue of between $1.906 billion and $1.908 billion. We are raising our outlook for adjusted income from operations for the full year. We now expect adjusted income from operations of between $384 million and $386 million. For the fourth quarter, after factoring in a negative $5 million currency impact since our prior quarter's guidance, we expect revenue of between $503 million and $505 million. Excluding such impact, we would expect fourth quarter revenue of between $508 million and $510 million. We expect adjusted income from operations of $78 million to $80 million. With that, I'll turn it over to Ana to start the Q&A.

Unidentified Company Representative, Unidentified Company Representative

Thanks, Dave. We'll begin with two questions from our shareholders before we open up the call. Our first question comes from Ryan who asks, can you speak about the current competitive landscape and elaborate how Palantir products stand out against the newly launched Microsoft data platform, Salesforce Genie, and the Snowflake platform that are attempting to offer an all-in-one solution like Foundry?

Ryan Taylor, Chief Business Affairs and Legal Officer

Shyam, do you want to take this?

Shyam Sankar, Chief Operating Officer

Sure. Well, thanks, Ryan. The answer is really the ontology. It's why our platforms remain far ahead of the competition. And that's because the ontology, it's the missing link in terms of what you need to realize value from all of these investments. It's the component and the architecture that's required to get data apps to actually deliver value on top of cloud data warehouses or to get AI to scale throughout the enterprise or to turn your digital twin into something that's actionable and operational within the enterprise. And we've spent 15 years investing in a roadmap that's deep and built upon the ontology, and it continues to be the focus of all the core investments that we're making around product. We're deepening the capability that we're offering our customers here. And that's happening against the backdrop where the competition has yet to understand what the ontology really is, but they will. And that's really my main conclusion from our Foundry Con events in Palo Alto and London is that our customers were so clearly articulating the role of the ontology, the value they credited it as really the decisive factor in delivering results quickly. And there are two things there that should not be taken for granted: results that are quick. And so that's, I think, a key focus here. You heard from Deutsche Telekom, they talked about how they don't even bother connecting to data sources that won't be modeled in the ontology because they see so much value in reduced effort and increased outcome for the use cases that they're able to build on top of the ontology. We heard that from Rio Tinto, where they talked about at the Oyu Tolgoi mine in Mongolia, how they originally modeled risk in operations. But because they did it in ontology for free, they got an opportunity data set that helped them drive increased production, which is obviously the front end of the business there. In Palo Alto, we heard from Tyson Foods where they were able to use the ontology to quickly go from an initial use case around COVID response to a set of use cases that got to $10 million of value and then quickly to $40 million and then finally to $200 million worth of value.

Alexander Karp, Chief Executive Officer

Just to add a different perspective to what Shyam mentioned, the success of users with our product highlights that many believe these solutions are easy to implement. Regardless of whether it involves PG, Nexus peering, GAIA, or Foundry, many individuals at otherwise successful companies transition from basic presentations to minimal technology with the misconception that they can merely tweak the ontology or use the same terms and impose them on their inadequate software systems, which are often outdated yet marketed by new sales teams. This approach doesn't yield success. Our capabilities are what empower the U.S. Government and military operations. Foundry has even played a crucial role in saving approximately 500,000 lives in the U.S., particularly among those from disadvantaged backgrounds during the COVID crisis. We need our competitors to communicate the necessity of our solutions to the world, but they significantly underestimate the challenges involved. We've been navigating these complexities for 15 years, uncovering numerous hidden issues that other companies likely overlook, including matters related to the cold chain and supply chain. It's exciting that more people are beginning to understand these challenges, but building these systems will take decades. Even if you can replicate our level of construction, you still need to identify the problems. That's why our clients on the evangelism tour, primarily in the U.S., are energizing the market and driving these impressive outcomes. However, the level of difficulty is fundamentally underestimated.

Unidentified Company Representative, Unidentified Company Representative

Thank you, Shyam and Alex. Our next question comes from Garrad who asks what are Palantir's plans to grow the business in this challenging macro environment.

Alexander Karp, Chief Executive Officer

We've been expecting a tougher macro environment than what we're currently facing for the last 20 years. We've been working closely for 17 years, and our products are designed for a fragmented world where integration is necessary, especially in military contexts. When underlying systems fail to perform as promised, we deliver results quickly even in chaotic situations. This approach is why we've generated eight consecutive quarters of free cash flow. It's no coincidence; we were preparing for this scenario. We have $2.4 billion in the bank and no debt because we understood the reality of the situation. You could say we're a prepper company. We've been ready, equipped with our technologies and financial strength—our solutions and resources define who we are.

Unidentified Company Representative, Unidentified Company Representative

Our next question is from Brent with Jefferies.

Brent Thill, Analyst

Dr. Karp on the government business at the beginning of the year, you had a bigger aspiration for deals to come into the pipeline. I think you brought a close assumption down. I'm curious where you see the pipeline of the government transactions for the back half of this year into '23.

Alexander Karp, Chief Executive Officer

I believe you were asking about the outlook for government revenue. Palantir has experienced a compound annual growth rate of 35% in the U.S. Government sector. This figure includes three years of flat growth, leading to some unpredictability which is not ideal for anyone. We anticipate that future growth will align more closely with the traditional 35% rate rather than this year's figure in the upper 20s. The evidence for this is evident in how our products, such as Nexus peering, Foundry, and GAIA, are being leveraged in significant events, which you may have heard about in the news. Furthermore, our total contract value in the U.S. Government is nearly $1 billion, a substantial amount. The timing of when that will translate into GAAP revenue remains uncertain, but we are confident it will because the contracts are finalized, and we are engaged in critical missions that are fully funded, as seen in our contractual agreements.

Unidentified Company Representative, Unidentified Company Representative

Thanks, Alex. Our next question is from Mariana with Bank of America.

Mariana Perez Mora, Analyst

With rising expectations for a global recession next year, I realize it might be premature to delve into the specifics of the 2023 outlook. However, could you share your thoughts on the positive and negative factors related to a global recession or the possibility of one? I view it as a potential positive driver for disruption and a heightened demand for operational efficiencies and Palantir services, although it might also lead to reduced corporate profits. How do you perceive this?

Alexander Karp, Chief Executive Officer

We differentiate the world into regions: America, Canada, the U.K., and our historically significant market, Europe, primarily driven by Germany. Disruption is currently benefiting us in the U.S., resulting in impressive outcomes in the U.S. commercial sector. Over the last 12 months, we recorded approximately $327 million, reflecting about 102% growth. The TCV number in U.S. Government indicates strong performance. Additionally, U.S. revenue growth has accelerated to 61%, up from 49% two years ago and expected to reach around 70% soon. The disruption's positive impact is substantial, while the negative effects from Europe, particularly Germany's slow pace, will have a diminished influence on us. However, it is important to note that we will still experience negative impacts due to a strong dollar and the slow adoption of new technologies in Europe. This situation is already affecting our business. If we exclude the European market, our U.S. business's last twelve months results amount to just under 40%. Clearly, while our overall results are strong, they could be significantly better without the challenges from Europe. The pressure will remain but is expected to lessen. It's crucial to acknowledge that this environment poses risks, especially for many in tech. The current climate will not favor weak or non-valuable solutions that merely present data without substantial value, as both government and commercial sectors in America demand more. The global market may not hold the same expectations, which presents a long-term challenge for them and a short-term challenge for us. Nevertheless, there is a considerable opportunity for us as competitors may falter while we thrive.

Shyam Sankar, Chief Operating Officer

I don't know what, look, disruption has always been a huge opportunity for us. I think that's exactly right. And those geographies are where we're focused.

Unidentified Company Representative, Unidentified Company Representative

Our next question is from Gabriela with Goldman Sachs.

Gabriela Borges, Analyst

We appreciate the case studies at Foundry Con about the tens of millions of savings that some of your customers are realizing. So two questions on my end. One is, how are you thinking about evolving the pricing model towards a value-based pricing? Give us an update on how you're thinking about capturing the upside from value-based pricing while also giving your customers flexibility with their initial price points? And then the second question is for deployed engineering model, how is that evolving as you start low commercial value customers on the ACV side? Does that essentially shift your mix away from the forward deployed engineering model over time?

Shyam Sankar, Chief Operating Officer

Yes, we began with value-based pricing, which is our core approach. Over time, we've adapted to models like usage-based pricing that allow enterprise customers to start with smaller use cases. This lets them explore how our solutions fit within their organization, leading them to realize the benefits of the ontology and eventually expand its use across their operations. This process is evident in case studies like Tyson, which started with a COVID response and then expanded to broader applications. Some customers transition from usage-based pricing to larger enterprise contracts as they grow. Our goal has been to demonstrate flexibility in meeting customers where they are. Regarding our forward deployed engineering models, I see that largely as our R&D perspective. It's about how much time our team spends at the ground level, asking critical questions like whether our software truly adds value to the institution. During this period of significant macroeconomic challenges, we want to ensure we are making a meaningful impact rather than just processing data without purpose. Those at the forefront bring the insights needed for future development and effective product roadmaps. We will continually adjust how we position our team based on various factors, including government projects in the U.S., activities in Europe, and our customers' operations. Our engineers are observing large-scale mining operations in Mongolia to help guide our R&D initiatives.

Unidentified Company Representative, Unidentified Company Representative

Alex, we had a lot of individual investors on the line who submitted questions. Is there anything you'd like to say before we end the call?

Alexander Karp, Chief Executive Officer

You know, we built this company for really tough times. The times are tough and they're going to get worse. We feel that Palantir, we know Palantir shines whether it's in the anti-terror context, the war context, the COVID context, or the U.S. commercial context when times are tough. This is a long-term play. We are watching our products and how they're absorbed in the market. And I really appreciate your support. Our individual investors mean a lot to us and to me. And we are planning to continue to go into battle every day. We are living in this world, not in some meta-fake world that you may enjoy until you wake up and you are poorer, your brain works less well and you hate your neighbor. We are the size and depth and quality of our revenues matter to us and to you. We believe we are making the West a stronger and better country. We see in America an ability to adapt like no other country, to be open to people who present things in ways that look crazy, and if they work, they don't really care, and they give you an ability to buy in. We celebrate that. We are enormously proud of our work defending the West, especially the U.S. military and its allies. I wish I could tell you more about what we're doing and how much it's transforming the world to be a better place. How much it scares our adversaries. What we deliver scares our adversaries; how much we were underestimated by our adversaries because of the informational technology and products we built over decades. The quality of the people we have here, the pain we go through to deliver and our commitment to win.

Unidentified Company Representative, Unidentified Company Representative

Thank you, Alex. That concludes today's call.