Earnings Call Transcript - RSSS Q2 2021

Operator, Operator

Good afternoon, everyone, and thank you for participating in today's Conference Call to discuss Research Solutions' Financial and Operating Results for its Second Fiscal 2021 Quarter Ended December 31, 2020. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Steven Hooser, Investor Relations representative.

Steven Hooser, Investor Relations Representative

Thank you, operator, and good afternoon, everyone. Thank you for joining us today for Research Solutions' second quarter fiscal 2021 earnings call. On the call today are Peter Derycz, President and Chief Executive Officer; and Alan Urban, Chief Financial Officer. After the market closed this afternoon, the company issued a press release announcing its results for the second quarter of fiscal 2021. The release is available on the company's website. Before Peter and Alan 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 projected 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 conditions. 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 press release issued this afternoon. Finally, I would like to remind everyone that this call will be recorded and made available for replay via a link on the company's website. With that, I'd now like to turn the call over to Peter Derycz, Research Solutions' President and CEO.

Peter Derycz, CEO

Thank you, Steven, and thanks to everyone joining us for our second quarter fiscal 2021 results. We hope all of you remain healthy and safe as the COVID-19 pandemic continues to impact us all. Our second quarter results reflect the continued progress occurring across our company. The strategic shift to our Platform offering remains at the forefront of our business model and planning. We are excited to see increased adoption as we continue to add, improve, and enhance our product offering. I am pleased that we added 29 net new deployments in the second quarter and even more pleased that now we have surpassed the $5 million mark for annual recurring revenue, up from $4.7 million at the end of the first quarter of fiscal 2021 and a 35% increase from the same quarter a year ago. We managed this despite the lower year-over-year sales and marketing spend. We are clearly becoming more efficient as we maintain our sales and marketing discipline and continue to focus on the quality rather than the quantity of our spend. In the coming quarters, we will put greater emphasis on strategically growing our Platforms business. Included in this is a more formal M&A plan. I will speak more on the various initiatives we are working on. But first, I'd like to pass it over to Alan to walk through our fiscal second quarter financial results in detail.

Alan Urban, CFO

Thank you, Peter, and good afternoon, everyone. Second quarter total revenue was $7.4 million compared to $7.5 million in the second quarter of fiscal 2020. Our Platform subscription revenue increased 29% to $1.2 million, primarily driven by a net increase of Platform deployments from last year, including 29 new deployments in the second quarter. The quarter ended with $5 million in annual recurring revenue, up 6% sequentially and 35% year-over-year, reflecting our continued sales efforts, including the successful upsell of our renewals and low churn of Platform subscribers. Our transaction revenue was $6.2 million compared to $6.6 million in the prior year quarter. The decrease in transaction revenue is primarily driven by a decrease in paid transaction orders. Total transaction count, which includes paid and unpaid transactions on a year-over-year basis increased 3.5% to 220,000. It is important to note that while our total transaction count is steadily increasing, the amount of paid transactions is steadily decreasing as we continue to transition away from new large transaction customers in favor of higher-margin SMB Platform customers and the amount of unpaid transactions, such as open access and customers' direct publisher subscription and prepaid token content is increasing as we deploy more platforms. Total active customer count decreased from the prior year quarter by 30 to 1,109. Within the total active customer count, academic customers increased by 15 on a sequential basis for a total of 300, and corporate customers increased by 4 to 809 at the end of 2020. Turning to gross margin. Our total gross margin was 32.1%, a 190 basis point improvement over the second quarter of 2020. The increase is due to the ongoing revenue mix shift towards our higher-margin Platforms business, which now generates approximately 42% of our total gross margin dollars. The Platform business recorded gross margin in the quarter of 82.2%, a 70 basis point decrease compared to the prior year quarter. The decrease is primarily attributable to a proportional increase in the allocation of overall labor costs, but still within our target gross margin range of high 70% to low 80%. Gross margin in our transaction business decreased 30 basis points to 22.3%. The decrease was due to a proportional increase in labor and copyright costs. Total operating expenses in the quarter were $2.7 million, a $330,000 decrease from the prior year quarter. Lower sales and marketing, and general and administrative costs were partially offset by higher product development costs. Net loss for the quarter was $261,000 or $0.01 per share compared to a net loss of $592,000 or $0.03 per share in the prior year quarter. Adjusted EBITDA improved to a positive $161,000 compared to a negative $184,000 in the year ago quarter. Turning to our balance sheet. Cash and cash equivalents as of December 31, 2020, were $10.2 million, unchanged from the quarter ending September 30, 2020, and an increase versus the $9.3 million reported at the end of fiscal 2020. There were no outstanding borrowings under our $2.5 million revolving line of credit, and we have no long-term debt or liabilities.

Peter Derycz, CEO

Thanks, Alan. As our results indicate, our Platforms segment remains the centerpiece of our growth strategy. Article Galaxy and Article Galaxy+ offer time and money-saving benefits for both large and small organizations. The deployments within the SMB market carry a smaller average sales price than our larger life sciences customers, but the market is broader, creating a greater long-term revenue opportunity overall. We believe the small and medium business segment offers our greatest growth opportunity. In January, we relaunched the researchsolutions.com website. We're pretty excited about this as it really highlights the value of Article Galaxy to customers and prospects of all sizes. It is search engine optimized and designed to help prospects searching the Internet for solutions to find us easily and to understand our value proposition clearly. We have easier to understand information about our capabilities, including quick links to case studies that describe how research-intensive organizations benefited in their mission by deploying Article Galaxy within their enterprise. I encourage you to take a look and let me know what you think. In addition to the new website, we are expanding our partner network in the U.S., Europe, Japan, and Israel. We welcomed ProQuest Dialog as a new partner, joining other partnerships we announced in recent quarters. These partnerships, as a whole, help us create integrations that help our customer community as well as develop conversations with new prospects, thereby feeding our lead generation engine. Let's speak a bit about product. During the quarter, we established a development partnership program. This program is designed to provide a framework within which Platform customers can engage with us in improving and developing our product. The program gives participating customers a chance to help improve our platform by getting to know Article Galaxy inside and out, previewing what's coming as well as engaging with members of our strategic product development team directly. We have 20 enterprise customers that have joined so far, primarily in the life sciences. We are receiving additional applications and are looking very much forward to receiving direct feedback and advice from our customers to determine ways to improve our products. Additionally, during the quarter, we had a whole host of product improvements in all areas, particularly in automation, reporting, workflow efficiencies, security, user experience as well as connectivity and functionality of our Bibliogo and Article Galaxy Widget modules. These enhancements are designed to deliver an improved customer experience, reduce customer support queries as well as set the stage for the next version of Article Galaxy. As you can see, our newly formed strategic product development group has been busy, just a few months into the department's creation. As Alan mentioned earlier, our transaction count in the second quarter increased, while transaction revenue decreased similar to the prior quarter. There are two primary factors behind this movement. First, we have moved away from targeting new large transaction-only customers in favor of signing new SMB Platform customers. Second, many unpaid transactions, such as open access, direct publisher subscriptions, and token content are included as part of the Article Galaxy platform offering, and these unpaid transactions do not produce transaction revenue. However, we have a much higher gross margin of 82% on our platform versus 22% on paid transactions. Over the past many quarters, our corporate focus has been two-pronged, focused on growing our Platforms business while remaining disciplined in our use of capital and only doing so when it can be done efficiently and with results. In the coming quarters, we will put greater emphasis on strategically growing our Platform business. Included in this is a more formal M&A plan. With the improvement across our debt-free balance sheet over the past year, including the doubling of our cash position and uplisting of our stock to the NASDAQ, we are in a much stronger position to consider the pipeline of opportunities available. Overall, we remain committed to providing our customers access to our expanding library of knowledge delivery, knowledge management, and knowledge creation capabilities in the most efficient and effective way possible. We believe demand for our product remains strong. And as we broaden our reach into smaller and medium-sized businesses through our lead generation and sales efforts, we believe we can build on our deployment and revenue growth trends. This, combined with the potential to grow through acquisitions, thanks to our strong balance sheet, ensures we are well-positioned to deliver additional growth in the back half of fiscal 2021 and in the future. With that, I'd now like to turn the call back over to the operator for Q&A.

Operator, Operator

The first question comes from John Basler with Basler Capital.

John Basler, Analyst

Hey, Peter and Alan, thanks for taking the question. Yes, first, congratulations on surpassing the $5 million recurring revenue. That's great. And then I wanted to ask, what are the priorities for the higher technology and product and development costs? And how should we model those going forward?

Peter Derycz, CEO

Yes. We're not putting a lot of information out in terms of future spend. We are, as you can see, increasing our technology and product spend a bit. We've created a new department. But by creating a new department, it wasn't all new expenditure. It was sort of consolidating a lot of the development resources we had internally into a single group. And we are filling some gaps. So you'll see some additional spend in there, but I'd say it wouldn't be that big of a number.

John Basler, Analyst

Okay. And then can you also touch on what the customer churn is in the Platforms segment?

Peter Derycz, CEO

Yes. We are experiencing an interesting situation called negative churn. We have very few customers leaving and a significant amount of upselling, which results in a negative churn number. This positions us as a leader in the SaaS industry regarding churn rates. While we do experience some customer loss, it's in the single digits when we look at the number of customers who churn. This gives us confidence that our product is strong, valued by users, and that they are even willing to pay more for it next year as long as we continue to enhance its value.

John Basler, Analyst

That's great. And then how does the mix of paid versus unpaid transactions for small and medium businesses compare to traditional large transaction customers?

Peter Derycz, CEO

Large transaction customers, who are typically part of larger organizations, generally have more internal resources. They often utilize subscriptions, tokens, or internal archives that we connect with Article Galaxy to help manage their transaction spending. The SMB market, while not as advanced in utilizing these capabilities, is interested in them. We assist SMBs in unifying their users on a single platform, which we present as their comprehensive library solution, including support. This approach helps them manage their expenditures through guidance on open access, tokens, subscriptions, and building archives. Currently, the SMB market is not as engaged in unpaid transactions in terms of volume and percentage compared to larger customers, but they are moving in that direction as they adopt the platform, which provides all the necessary tools.

John Basler, Analyst

Okay. Maybe I missed something. I thought that the reason transaction volume was down was because the focus on the SMB customer increased the number of unpaid transactions.

Peter Derycz, CEO

Yes. Let's clarify that our sales and marketing efforts in the past concentrated on finding customers to purchase transactions. As the platform developed and we had a higher gross margin business, we transitioned our sales and marketing efforts towards acquiring new platform customers, as the margins were significantly higher. This represents a shift in our focus regarding customer acquisition. We are particularly interested in small and medium-sized businesses because they are a suitable match for our offerings. There are many of them, and they can utilize our platform regardless of the number of transactions they are making.

John Basler, Analyst

I see. So it's really just about the prioritization on the Platform business?

Peter Derycz, CEO

And then that's a big factor. There are also some variations in the different categories of what would be paid versus unpaid, and those will be shifting. We may report from time to time on some of those dynamics.

John Basler, Analyst

Is anything changing there or accelerating? Or is it just in a quarter variance?

Peter Derycz, CEO

We have analyzed the numbers and noted a decrease in paid transactions, although there was an overall increase in all transactions. We are aware of this issue and are examining the data in greater detail. While we don't have specific information to share this quarter, we are undertaking a thorough analysis due to the complexity involved with the various categories of transactions and types of articles. We expect to provide more detailed insights next quarter as we continue to investigate the data.

John Basler, Analyst

Great. And then the last one for me is, when did the agreement with the University of Buckingham Press go live? And how significant are those types of arrangements to your value proposition?

Peter Derycz, CEO

Yes. So I'd call that the supplier side agreement. So we make deals with publishers of scientific information, and we consider them to be our suppliers and partners. So I'd say that's a small publisher. We've done all the large publisher and medium-size publisher deals that there are to be done. So we've got hundreds of agreements now with publishers. So I think when you see new publisher deals, there may be some interesting additions from a subject matter perspective. But in general, we're really working on the long tail now of publisher deals. So we're going after publisher deals that we may be announcing or adding are typically small size publishers.

Operator, Operator

The next question comes from Scott Billeadeau with Walrus Partners.

Scott Billeadeau, Analyst

Several of my questions have been addressed, but I am still trying to understand the distinction between paid and unpaid, particularly regarding the $6 million in transaction revenue. Is that a scenario where we see larger clients converting to platforms? I assume it makes sense to earn 80% from a smaller amount rather than 22% from a larger one. For instance, if someone is generating $250,000 in transactions with you, what would their platform revenue be? Can you provide a bit of insight? I'm trying to determine if your goal is to convert all those clients or if you plan to continue earning transaction revenue. If you do convert one, is there a breakeven point on the revenue side? You mentioned that transaction revenue doesn’t apply for non-revenue generating activities, but the platform revenue will hopefully continue indefinitely, assuming there is no churn.

Peter Derycz, CEO

Yes, I think there's some clarification needed there. So, thanks for asking that. I want to be very clear that when we convert, it's not really a conversion, it's an expansion. Just because you are ordering our article transactions from us and then we upsell you onto the platform, it does not mean that your transactions disappear because you're a platform customer now. You still have to buy those transactions. The platform may help you lower some of the spend on the transactions, but there's no elimination of the spend. For example, if we add the platform for you, now when you add a subscription, we can help you eliminate duplicate purchases and things like that. So, I'd say the bulk of the transaction business stays. It’s really an expansion, not a conversion, and I think that's the best way to put it.

Scott Billeadeau, Analyst

Understood. Okay. Can you clarify where a nonpaid transaction fits in? Is it typically associated with bundling something into the platform?

Peter Derycz, CEO

Yes. I can provide a couple of quick examples. One is when a customer subscribes to a journal and their scientists request an article on the platform. We recognize that they have a subscription to that journal and direct the user to the article that's included in their subscription, thus avoiding an additional purchase. We log it as a transaction since we connected the user to the article, even though it wasn't something we sold them; it was part of what they already subscribed to. Another example is when a company has an archive of articles or related resources that we can link to, allowing us to connect them to their existing internal resources instead of making them initiate a new paid transaction. Additionally, there are articles known as open access, which are free for users. We may direct users to these free articles, marking it as a transaction in the system, but since there is no cost associated with that article, it doesn’t count as a paid transaction. These examples illustrate how our platform adds value by managing these complexities for the customer, making it easier for users to access the information they need without worrying about subscriptions or access types.

Scott Billeadeau, Analyst

Yes, I understand. Definitely. Essentially, if you create a non-paid transaction for them, you should probably highlight that and show them what you've saved them. It's a way of saying, look, you already have this archived. In the past, we might have needed to purchase that, but our system recognized that Fred already bought this two weeks ago. So, here it is again, and this illustrates the value proposition we are offering to you.

Peter Derycz, CEO

Absolutely. We provide reporting to our customers as the platform offers many avenues of value. We document these as we approach renewal. One reason we experience negative churn is that we can slightly increase prices during renewal. This is driven not only by an increase in users over the year but also by documenting this value and communicating it to customers to share the additional value created.

Scott Billeadeau, Analyst

Yes, for the last question, you mentioned M&A. Could you clarify if this represents a more structured approach to M&A or a business development function? Are you taking the lead on that? How do you develop the pipeline? Are there external individuals assisting in bringing opportunities to you? Please provide more insight into the strategy behind this.

Peter Derycz, CEO

Yes. I won’t go into too much detail, but I would say that we find ourselves in a different situation compared to a year ago regarding our balance sheet and our stock listing on NASDAQ instead of the Bulletin Board. Our platforms are growing. Over the last three years, we have successfully pivoted the company to introduce this new platform business line, achieving the $5 million ARR mark. This is undeniably a genuine business line. We have made extensive changes, reorganized our sales and marketing efforts, and now that we have accomplished this pivot, we are focusing on our next phase of growth. We plan to continue selling and marketing, upselling to new customers, and maintaining a low churn rate. We will enhance the platform to make it more valuable, attract more customers, and encourage current customers to seek more features. Additionally, we are exploring pathways to acquire customers and SaaS revenue through M&A. While I'm not providing too many specifics since we are still in the early stages of this first quarter, we are allocating resources and establishing a business development function dedicated to this initiative. We have successfully completed four M&A transactions in the past related to our transaction business, and we believe we can achieve similar success in the platform side, though it is still in the early stages. You will see more information on this as we move forward, and we are very committed to this endeavor.

Scott Billeadeau, Analyst

Great. I trust that the focus is on the platform SaaS aspect of the business. Are there any other extensions to the platform or similar platforms with additional tools or widgets that we can consider? We are certainly looking at how to expand the platform to offer more to our current customers and potentially to attract a different customer base.

Peter Derycz, CEO

Yes, we have various criteria for evaluating the targets we've identified. These criteria relate directly to product capabilities, specifically the potential to enhance Article Galaxy compared to a buy or build strategy aimed at accelerating specific capabilities we want. Additionally, we consider aspects like customer acquisition; for example, if we have 500 paying customers and we acquire another 500, we can expand to 1,000 and begin cross-selling if the customer profiles are similar. Our selection criteria range from product features to customer numbers, all aimed at providing solutions that enhance research and development, making research more efficient while aligning with our goals in knowledge delivery, management, and creation.

Scott Billeadeau, Analyst

Great. All right. Well, thanks, guys. Thanks. Again, nice to see a $5 million run rate. So great job on...

Peter Derycz, CEO

Yes. We're excited. And thank you, thanks so much Scott for your support and really excited about all this.

Operator, Operator

The next question comes from George Melas with MKH Management.

George Melas, Analyst

Congratulations on achieving $5 million in annual recurring revenue. I agree that it is a significant milestone and indicates a solid business. My question is, as you've enhanced the platform in terms of usability and functionality, has the nature of your conversations with customers, potential customers, and even existing customers changed? Additionally, is there a shift in the profile of customers within your pipeline?

Peter Derycz, CEO

Yes, there are some changes happening in that conversation. One change I mentioned in the call is that we want customers actively involved in helping us improve and expand the product. So, we have established a formal partnership development program. There's a website for it where customers can review the program, sign up, and commit to partnering with us in product development. We also make commitments to them, such as providing a preview of upcoming features and access to our product team. This marks a shift in our discussions, reflecting our mutual commitment to advancing the product. Additionally, as we transitioned into this platform business, reached the $5 million mark, and recognized the size of the SMB market, we have seen more contracts being signed and discussions with SMBs increasing. This has given us a broader view of the marketplace. Previously, our focus was primarily on large pharmaceutical and R&D companies as we built our transaction business. Now, we engage with a wide spectrum of customers, ranging from very large to medium-sized and small companies. We often see small companies grow into medium ones or see partnerships form between medium companies that lead to larger entities. The nature of our conversations with large organizations differs significantly from those with smaller ones. We are becoming skilled at adjusting our discussions and talking points to align with our customers' growth trajectories. We start with them as small companies, and as they grow over time, we can adapt to support them in accelerating their research due to our comprehensive understanding of the market.

George Melas, Analyst

Okay. Okay. That's quite helpful. Can I ask you to elaborate on that and about sort of the difference in the type of conversation that you have with large customers and the value that they are seeking and that you can provide as opposed to the smaller customers that probably have a lot fewer systems within their enterprise?

Peter Derycz, CEO

Yes. Larger organizations often have multiple systems they've developed over time, whether acquired, subscribed to, or built internally. We provide a wide range of APIs and connectivity tools for these larger customers that manage both external and internal systems. For them, we're collaborating with internal teams, like information managers, to accomplish tasks. On the other hand, smaller organizations often use various tools informally, with each employee finding their own solutions. For these smaller companies, we offer our services as an integrated team that helps them accelerate their research. When they purchase Article Galaxy, they effectively gain a team that assists with system integration, suggesting systems they should use while evaluating their current tools and connecting everything to advance their capabilities. In that way, we act as a comprehensive information system provider for smaller companies, while for larger clients, we integrate with their existing systems.

Operator, Operator

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

Peter Derycz, CEO

I would like to thank everyone for joining. For those who asked questions, I am always happy to answer your inquiries here or through our Investor Relations team. Please be assured that we are in a strong position with our products and balance sheet, and we are eager to dedicate time, resources, and energy to grow the company and take the next steps forward. We have made a pivot, and now it’s time to continue our growth. Thank you very much.

Operator, Operator

This concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.