Research Solutions, Inc. Q2 FY2024 Earnings Call

Good day and welcome to the Research Solutions, Inc. Second Quarter 2024 Earnings Conference Call. Please note, this event is being recorded. I would now like to turn the conference over to John Beisler, Investor Relations. Please go ahead.

Thank you, Betsy and good afternoon, everyone. Thank you for joining us today for the Research Solutions second quarter fiscal 2024 earnings call. On the call today are Roy W. Olivier, President and Chief Executive Officer; and Bill Nurthen, Chief Financial Officer. After the market closed this afternoon, the company issued a press release announcing its results for the second quarter of fiscal 2024. This release is available on the company's website, researchsolutions.com. Before Roy and Bill begin their prepared remarks, I would like to remind you that some of the statements made today will be forward-looking and are made under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those expressed or implied due to a variety of factors. We refer you to Research Solutions' recent filings with the SEC for a more detailed discussion of the risks that could impact the company's future operating results and financial condition. Also on today's call, management will reference certain non-GAAP financial measures which we believe provide useful information for investors. A reconciliation of those measures to GAAP measures is included in the earnings release issued earlier this afternoon. Finally, I would like to remind everyone this call is recorded and made available for replay via a link on the company's website. I would now like to turn the call over to Roy W. Olivier. Roy?

Thank you, John and thanks to everyone joining us for our second quarter fiscal 2024 results. While there are a lot of moving pieces in this quarter's results which Bill will help walk you through, I do want to take a minute to report a few milestones for the business. First, our core platform revenue from Article Galaxy and references is above $10 million in ARR for the first time. Second, our total ARR is now over $15 million for the first time. Third, the addition of scite and Resolute are positioning the company well for the future. The new products from these acquisitions and the products we can build using the combined technology of the three companies position the company to provide competitive and unique functionality across the research workflow and into other departments in most research-intensive organizations. I'll speak more about that in detail after Bill walks you through our fiscal second quarter 2024 results. Bill?

Thank you, Roy and good afternoon, everyone. Before I begin, I'd like to remind everyone that our second quarter results include a full quarter's contribution from the acquisition of ResoluteAI on July 28 and approximately one month of contribution from the scite acquisition which closed on December 1. For fiscal year-to-date numbers, there are approximately five months of ResoluteAI and one month of scite factored into the numbers. Another item I would like to discuss before going deeper into the numbers is that the scite acquisition brings with it a material amount of what we classify as B2C recurring subscription revenue. This is revenue from individual subscribers who are typically students or research professionals that subscribe to the services through scite's website and make automatic payment on either a monthly or annual subscription basis. I wanted to help everyone understand how we are accounting for those subscriptions from both an annual recurring revenue, or ARR perspective and from a revenue recognition perspective. For the purposes of calculating ARR, in our financial and operational summary tables, we have separated out what we call B2B ARR and B2C ARR. B2B ARR consists of annual subscription agreements with corporations, academic institutions, and government entities. We have contracts with those entities across the Research Solutions, ResoluteAI, and scite product platforms, and everything is aggregated across those product lines for the purposes of calculating B2B ARR. B2C ARR consists of individual subscriptions, some of which are annual but most of which are month-to-month. For the purposes of calculating B2C ARR, we aggregate the monthly subscriptions by taking their monthly subscription amount and multiplying it by 12. Please see today's press release for further information regarding how we define and use annual recurring revenue and other non-GAAP terms. Lastly, for the purposes of revenue recognition, all revenue resulting from our portfolio of B2B and B2C software products is flowing through the platforms line in our profit and loss statements. With that, I'll start going through some of the numbers. Total revenue for the second quarter of fiscal 2024 was $10.3 million, an 18% increase from the second quarter of fiscal 2023. Our Platform subscription revenue increased 48% to $3.1 million. The year-over-year growth was primarily driven by the acquisitions of ResoluteAI and scite, as well as organic growth in our core Article Galaxy platform. We ended the quarter with $15.6 million in annual recurring revenue, up 77% year-over-year. scite contributed almost $4.4 million of the ARR which was a good outcome when you consider that at the time of acquisition, we announced that their ARR as of the end of October was roughly $3.6 million. Article Galaxy also had a strong quarter with net incremental ARR for the quarter being the best result in the last four quarters. On a stand-alone basis, Article Galaxy ARR is now over $10 million. The growth in scite and Article Galaxy was offset by some churn in ResoluteAI. We do expect some continued churn in that product over the next six months before it stabilizes. However, we still feel there is tremendous value in the technology that was acquired as part of that transaction. Our Transaction revenue increased almost 9% from the second quarter of fiscal 2023 to $7.2 million and our total active customer count for the quarter was 1,398, a net increase of 175 from the same period a year ago. The increases are primarily due to organic growth, notably in the academic segment of the business, which was enhanced by higher transaction volumes and contracts transferred related to the FIZ Karlsruhe acquisition effective January 1, 2023. I will note that we are now at a point where the FIZ transaction will anniversary itself starting in our Q3. This will slow the growth rate we have seen over the past four quarters in transactions. However, we still do expect organic growth on this line for the foreseeable future. Gross margin for the second quarter was 43.5%, a 450 basis point improvement over the second quarter of 2023. The increase is due to the ongoing revenue mix shift towards our higher-margin platforms businesses, as well as some modest increases in transaction margins. The Platform business recorded gross margin of 84.4%, a decrease compared to 88% in the prior year quarter. The decrease is related to the inclusion of Resolute's platform revenues which generate a lower margin. Gross margin on Article Galaxy remained consistent with recent history and the gross margin of scite's products are similar to that of Article Galaxy. Gross margin in our Transaction business increased 230 basis points to 25.7%. The increase was primarily due to increased copyright margins, aided by better fixed cost coverage due to the higher order volume. We did lower some copyright reserves in the quarter which also contributed to the increase. So I would expect this number to fall back to somewhere between 24% and 25% on a more normalized basis going forward. Total operating expenses in the quarter were $4.9 million compared to $3.7 million in the prior year quarter. A little over $700,000 of the year-over-year variance comes from the addition of the cost basis of Resolute and scite. In addition, this quarter's results included roughly $300,000 in costs associated with the acquisition of scite, as well as other M&A activities in the quarter. Net loss for the quarter was $54,000 or roughly breakeven on a per-share basis compared to a net loss of $256,000 or $0.01 per share in the prior year quarter. Given some of the churn in Resolute, we did reduce a portion of their contingent earn-out liability which generated some below-the-line income in the other income category of our operations statement. Adjusted EBITDA for the quarter was $318,000 compared to $201,000 in the year-ago quarter. It is important to note that the adjusted EBITDA result includes the aforementioned $300,000 of acquisition-related expenses in the quarter and as a result, would have been $625,000 on a more normalized basis. Turning to our balance sheet. Cash and cash equivalents as of December 31, 2023, was $2.7 million versus $13.5 million on June 30, 2023. The decrease was primarily attributable to the cash used for the Resolute and scite acquisitions, which was approximately $10 million. We also had heavy outlays in Q1 related to the proxy issues which have since been resolved, as well as costs related to our M&A activities. Despite continuing to incur expenses related to the M&A activities in Q2, we were able to generate $300,000 in cash flow from operations in the quarter. We expect our cash flow to improve as we move on from a number of these one-time expenditures and more fully integrate the acquisitions into our business. Additionally, we have experienced some good growth in cash in the early part of Q3. As we look ahead, Q3 and Q4 will be much cleaner from an expense perspective which will give us an opportunity to demonstrate the profitability of the business. We will have some M&A-related costs in the first month of Q3 but should not incur much after that. From a year-to-date perspective, recall that, one, we had roughly $700,000 in costs related to the proxy matter and an additional $300,000 in M&A-related expenses. In Q2, most of the proxy costs were behind us but we still had $300,000 in M&A-related expenses. Those expenses collectively total about $1.3 million year-to-date and are included in the year-to-date adjusted EBIT loss of $100,000. In Q3 and Q4, we are aiming to produce a more normalized adjusted EBITDA result and see that results improve over time as we further integrate the acquisitions. From a cash perspective, we are targeting to improve cash flow as well. However, it should be noted that cash flow will likely lag behind adjusted EBITDA for the next six months. This is related to working off some deferred revenue associated with the acquisitions, paying off some of the one-time-type items that were previously discussed and paying down some severances that were previously expensed. All this said, I think Roy and I feel very good about where the business stands today. Despite some of the proxy matters in Q1 which affected our profitability and cash position, we were able to execute on our acquisition strategy and now feel like we have the pieces in place to grow the business and realize the profit potential that will come from our ongoing mix shift to higher-margin platform revenues.

Thanks, Bill. I'll cover several topics in today's call, starting with our plans for acquisitions and the products we've acquired. Scite is an advanced discovery tool that focuses on scientific, technical, and medical content. It features full tech search capabilities for most published articles and has a user-friendly interface. Moreover, it provides a citation badge to help researchers see how frequently an article has been cited by others. This not only indicates the number of citations but also the supporting, mentioning, and contrasting statements within that article, thanks to scite's unique learning model. You can think of it like a FICO score or a Rotten Tomatoes score for academic articles. It has found success in both the academic and corporate markets globally. The annual recurring revenue for our B2B corporate and academic segment stands at approximately $400,000, while the B2C version for researchers amounts to about $4 million as of the end of the quarter. Scite’s success is mainly due to its comprehensive tech search capabilities, AI assistant, and distinctive citation badge. Resolute has a comparable advanced discovery tool, but it includes additional features. In addition to searching scientific, technical, and medical content, Resolute's products connect to more than 10 external databases, allowing search results to reflect scientific content plus information from those databases when enabled. These databases encompass clinical trials, patents, FDA data, financial information, and more, offering a comprehensive view of search results beyond just STM articles. The advanced version of Resolute’s platform enables enterprise search capabilities, allowing users to search their internal databases for scientific notebooks, videos, and other data. While Resolute has created a flexible and capable product, it lacked specific workflows for addressing particular customer issues. I believe the Resolute technology was a highly capable system that required programming to perform specific tasks like identifying key opinion leaders and conducting post-market surveillance. Consequently, the user interface and workflow were developed largely on a case-by-case basis. Moving forward, we are implementing a one search strategy to integrate these tools and build tailored solutions for our customers addressing specific challenges they face. Scite will serve as our front-end and user interface layer, with Resolute providing external and enterprise search capabilities. Scite will operate as our STM search tool, while scite Pro combines scite with Resolute's external databases, and scite Enterprise integrates scite with Resolute's enterprise search and external databases. We will utilize these tools to create new solutions that cater to the requirements of various departments in research-heavy organizations. Initially, we will develop technology landscape solutions, clinical trial solutions, key opinion leader identification, competitive intelligence modules, patent data, and more. Additionally, we plan to release an enhanced post-market surveillance module and a patent module, which are crucial for our long-term growth goals. The tech landscape module is set to launch this quarter, with clinical trials expected in Q4 of fiscal 2024. The other modules will be rolled out either late in this fiscal year or in the first half of fiscal 2025. So how does this impact our total addressable market? The answer is straightforward: it expands it significantly. Our current investor relations deck illustrates that a few years ago, our solutions addressed only one segment of the life sciences innovation value chain. Before these acquisitions, we had internally built additional capacity to cover four areas of the value chain. Now, with the additions of Resolute and scite, we will be able to serve 13 different areas moving forward, including segments beyond scientific, technical, and medical content and life sciences. Two years ago, I set a big hairy audacious goal of reaching $20 million in annual recurring revenue within three years. By October 2024, I will have officially been CEO for three years. We're currently at $15.6 million in ARR as of December 31. Therefore, I am confident we will approach the $20 million mark by October, albeit likely falling a bit short. I'm pleased we refrained from making aggressive acquisitions when valuations were at their peak. That being said, we've increased our target to $30 million in ARR by the end of fiscal 2026, nearly double our current level. We believe this goal is achievable solely through organic growth with our existing product portfolio and without additional acquisitions. Additionally, we anticipate margin expansion as we work toward this target, expecting our overall EBITDA margin to reach double digits at that point. I want to emphasize that this is not guidance; it's our aspirational target. However, this does not imply we won’t continue to seek out acquisition opportunities that align with our shareholder’s return objectives and our overall business strategy. We will maintain a strong focus on providing solutions across the research workflow and the innovation value chain. Regarding what I recently referred to as acquisition number four, we have chosen to no longer pursue that opportunity. While we were excited about the technology, certain aspects revealed during our due diligence did not meet our criteria. We will remain disciplined in our acquisition strategy moving forward. There are other opportunities we are exploring, but we will adopt a more selective approach over the next couple of quarters to ensure our focus remains on implementing our new strategy and integrating the various products. The early outcomes from Resolute have not met our financial expectations, as we have faced some customer churn, which we partly anticipated when we made the acquisition. We've established a solid pipeline for new prospects, but it’s important to note that these products have the longest sales cycle compared to any we offer. Conversely, scite has exceeded our expectations in both B2C and B2B markets. We believed we could cross-sell scite to our academic and corporate customers through our existing sales teams, which are currently being trained to conduct demos. Recently, we secured $50,000 in new ARR from what was a $400,000 B2B business, and we have a robust pipeline ahead. We're excited about the prospects of integrating scite’s outstanding capabilities with Resolute’s extensive external and enterprise data functionalities, all aligned with our industry-leading document delivery platform. In conclusion, the entire management team is optimistic as we have set the foundation that will allow us to transform Research Solutions from a document delivery company into a competitive software solutions provider in this sector. We're thrilled about our future and will keep you informed of our progress in upcoming calls. Now, I’d like to hand it back to the operator for Q&A.

The first question today comes from Allen Klee with Maxim Group.

Congratulations on the quarter. Can you explain why scite has been performing so well? Additionally, you mentioned that Article Galaxy had its best quarter. What do you believe contributed to that improvement?

Yes, Allen, in terms of scite, I would say a couple of things. One is, I think, scite being part of a larger public organization has really helped its B2B prospects feel more comfortable with acquiring that platform. So I think that's helped accelerate some sales or even close some sales that maybe would not have closed because scite was a small independent company with a few employees. We now offer 24/7 technical support. We have a whole onboarding team to help onboard customers. We have a larger sales and support organization. So I think that's really helped increase the velocity of some of the B2B business. The B2C business has a very predictable investment return conversion rate. In other words, if we invest in digital marketing, it typically results in a certain amount of trials and those trials convert at a very predictable rate. So we have been ratcheting up digital marketing spend on the B2C side and we see those results literally in days or weeks, whereas, as you know, we have at least a 20-week or typically about an average 20- to 22-week sales cycle for Article Galaxy and a longer sales cycle for Resolute. So we're able to basically move that needle very quickly by investing more in marketing. Bill, anything you want to add to the scite comments?

No, I think that's good, Roy.

Yes. Regarding the Article Galaxy comments, we're noticing that the new sales teams are gaining momentum and performing well. We have successfully closed several substantial deals, including the largest deal we've achieved since my tenure with the company during this quarter. It's encouraging to see strong performance with larger deals, especially after a time when we secured many new clients, but the average revenue per customer was lower than desired. The new sales efforts are showing positive results, partly due to effective marketing driving a good number of leads to the sales team. Our upcoming challenge will be to replicate the successes of the Article Galaxy new sales team in upselling, as well as with scite and Resolute products. Bill, do you have anything else to add?

Yes, I believe this was our best quarter in the last year, but keep in mind that the previous four quarters had been steadily declining. This quarter showed a nice rebound for us, and we experienced a good bounce back. The sales increase was at an acceptable rate for us, but still not at the levels we encountered before we began discussing some economic challenges affecting the sales process. New sales are coming in strong, but we're still experiencing some difficulty this year on the expansion upsell front. Last year, we launched References, which was a significant driver for upsells, but we don't have as many catalysts entering the fiscal year. We are a bit behind in that area, but it was encouraging to see the platform sales improve in Q2, and we hope this trend will continue for the remainder of the fiscal year.

Then also on scite, you mentioned that most of the ARR is with the B2C business and that while you have some annual customers, it's mostly under monthly subscription. So do you have enough data to have a sense of the churn of that? How confident can we say those monthly customers will be annual customers? Do you have a sense of that?

Do you want to take that, Bill?

Yes. I would say, we don't have enough data yet. And that's part of the reason we definitely wanted to separate this out on a separate line to really isolate it and give investors a view of sort of the changes in that over time. We are going to kind of look at it and continue to monitor it. I also will say that we do recognize that B2C tends to have obviously higher churn rates. We did see higher churn rates from that business in the diligence. However, what I would say is, we're already hard at work on things to do to basically make that product more sticky and reduce the churn rates in that segment. So there's some software we're using to help reduce churn but there's also things that we can do from a pricing and packaging perspective, we think, to reduce churn in that segment. And so, I think as we learn more over the next few quarters, we'll be able to discuss that in a little more detail with investors.

Yes. And I would just remind everybody that the net churn rate in scite B2C is higher than we want it to be. That said, it's net ARR growth for the short time that we owned it went from $3.6 million to $4 million. So it continues to show a really strong growth profile in spite of its churn, we all, I think, are on the same page in terms of if we can cut that churn down. It's just going to accelerate the growth even more.

My last question is about incremental ARR. Given that you have more moving parts now, do you have an internal target for what you aim for each quarter?

Well, Research Solutions definitely had very detailed budgets of what we expected in all of various sales categories. scite did not but we have applied our kind of planning to scite. So we now do have specific targets for B2B. We really don't have specific targets for B2C other than to continue the growth rate you're growing because that is a new kind of animal to us. We've been a strong B2B player for years. B2C is relatively new for us. That said, scite has some very experienced B2C people that are doing a great job. And then I think on Resolute, we did put a plan together. And I think on the top line, Resolute's not where we wanted them to be on the EBITDA line they are. scite's overperforming on both lines and Research Solutions is doing a nice job on new sales. But we continue to see a little bit of softness on upsells and more churn than we would like to see.

This concludes our question-and-answer session. I would like to turn the conference back over to Roy Olivier for any closing remarks.

Yes. Thanks, everyone, for joining us on our call today. We will be participating in the ROTH Conference in Dana Point, California on March 18 and 19. Qualified investors that would like to attend or schedule a meeting should contact their ROTH sales representative. We look forward to speaking with you in May to discuss our third quarter results and have a great day.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.