Digimarc Corporation Q1 2023 Earnings Call
Speaker 1: The.
Speaker 2: the conference, please press star zero to reach a live operator. As a reminder, this conference is being recorded. At this time, it is my pleasure to turn the call over to Joel Meyer. Sir, the floor's yours.
Speaker 3: Thank you, Karen. Welcome to our Q1 conference call. Riley McCormack, our CEO and Charles back, our CFO , are with me on the call. On the call today, we will provide a business update and discuss Q1 20203 financial results. This will be followed by a question and answer for them.
Speaker 3: We have posted our prepared remarks in the Investor Relations section of our website and will archive this webcast there. Before we begin, let me remind everyone that today's discussion contains forward-looking statements that have risks and uncertainties. Please refer to our press release for more information on the specific risk factors that could cause actual results to differ materially.
Speaker 3: Riley will now provide a business update. Thank you, Joel. Hello, everyone. Our goal is to digitize the world's products. To accomplish this, we must be easy to begin doing business with and excellent at guiding customers along their DigiMark journey. These simple truths drive everything that we do.
Speaker 3: We have two distinct ways of going to market. On the direct sales side, by building a growing number of our own accretive products upon our world-leading product digitization engine, the DigiMark Illuminate platform, we are not only ensuring a customer is able to solve the problem that brought them to us today, but also providing them a frictionless path to solve the problems they want to solve tomorrow.
Speaker 3: Moreover, because our products are recreative, which means that the standalone value they provide is increased by the adoption of additional Digimark products, this frictionless path for not just solves new problems, it compounds returns for all products existing in new.
Speaker 3: On the channel sales side, by licensing the DigiMark Illuminate platform to a growing number of value-added resellers, or VARs, we not only gain quickly scalable and high-margin revenue as our VARs go to market with our own products and services built upon our world-leading product digitization platform.
Speaker 3: We also increase the amount of items that are digitized using our technology.
Speaker 3: This creates an ever-increasing number of upsell and cross-sell opportunities for both us and our VARs.
Speaker 3: You might recognize these words as they are verbatim from our last earnings call. These words describe where we are going and how we are going to get there, and thus are worth repeating, especially as I appreciate that we are a much different company than we were just a short while ago.
Speaker 3: Last quarter, after providing this preamble, I spent the rest of the call discussing a few of our products. This quarter, I want to spend time discussing our platform, because both technologically and commercially, our DigiMark Eliminate platform is quite literally foundational to everything we do.
Speaker 3: As mentioned earlier, each of our products is built upon our Digimarko Luminate platform.
Speaker 3: This allows each of them to benefit from the unique and powerful capabilities that comprise our best-in-class product digitization platform and also allows them to add a creative value to each other.
Speaker 3: These two facts are key contributors to our extremely wide modes.
Speaker 3: And thus it is our platform that ultimately powers our product success.
Speaker 3: Moving to our Q1 results, while simply a 1-quarter snapshot, the majority of both our new logos and our upsells were Digimark Illuminate customers, including one var that signed a 6-figure deal.
Speaker 3: This far is a large company and a category leader, and we are excited they have begun their DigiMark journey.
Speaker 3: We are already in discussions with them about licensing additional capacity as they educate their end customers on the value of product digitization.
Speaker 3: Q1 also signed another nubar who came to us in response to one of their competitors having a product that is powered by the DigiMark Illuminate platform and their realization they need our product digitization hyperscaler to compete.
Speaker 3: And then of course there's the DigiMark Illuminate deal we announced today. A 32 million dollar five-year contract to protect the authenticity of precious metals, critical building materials, and a National Deposit Return System or DRS for recycling.
Speaker 3: There are five things about this deal I want to highlight. First of course is the size of the deal, both in terms of revenue and duration.
Speaker 3: they signed a five-year license for each of their products, rollout of which will occur in a staggered fashion for the rest of this calendar year. Second, there is upside to this contract beyond the 32 million dollars. This upside comes from two different areas. An increase in the amount of capacity needed for any of these three products.
Speaker 3: or an increase in the amount of capacity needed because of the launch of additional products.
Speaker 3: of our platform, but the credibility, reputation, and expertise we have earned while working with the World Central Banks for these last 24 years.
Speaker 3: We don't talk a lot about our team working with the central banks because we can't talk a lot about that team or the amazing work they do. But across all of our commercial activities, and especially as we enter the world of security printing, this team's history of absolute excellence provides us a vote as deep and as wide as any other we enjoy.
Speaker 3: Fourth, the third product covered by this deal, the one guarding the integrity of a national deposit return system, represents our entry into an important and exciting new market adjacency.
Speaker 3: Our ability to help power a more circular world doesn't begin and end with Digimarc Recycle.
Speaker 3: Our entry into the quickly growing DRS market has three important implications.
Speaker 3: It provides synergistic benefits to the Denmark recycle and vice versa.
Speaker 3: on our planet. Fifth, the three products being powered by DigiMark illuminate align perfectly with our purpose.
Speaker 3: safer, critical building materials, and more sustainable DRS world. Our greatest strengths always has been, is, and always will be our people. For a lot of our team, it is their belief in our purpose that drives them to excel. On a personal note, I find it pretty darn cool this single deal covers all three. I will now turn the call over to Charles to discuss our financial results.
Speaker 4: Thank you, Riley, and hello, everyone.
Speaker 4: Before I dive into our Q1 financial results, I want to provide some more details on the financial impact of the large new revenue contract Riley mentioned. As a reminder, the annual minimum contract value is 6M per year with a contract term for the 3 products each spanning 5 years.
Speaker 4: The contract provides additional payments from the customer if they require more capacity on our DigiMark Illuminate platform.
Speaker 4: The first year commercial booking will be $5.1 million in the second quarter as the contract was signed in April .
Speaker 4: The contract provides the customer the ability to use our platform for each of its three products, each with different start dates and payment dates.
Speaker 4: As a result, $900,000 of the initial $6 million annual fee is payable after the 12-month anniversary of the contract effective date. These fees are non-cancellable, but given the timing of when the payments are due, they do not meet the definition of first-year bookings.
Speaker 4: It's important to note the remaining 900,000 will not be reported as a first-year booking in subsequent quarters due to the way we calculate and report this metric.
Speaker 4: The fact we are signing more and more multi-year committed deals has been reducing the value of our reported first year bookings number, as the out years of multi-year deals never show up in a reported booking number, whereas a renewal would. This is a wonderful trend for our business that we are heavily pursuing, but it comes at a cost of understanding our underlying growth to all of you.
Speaker 4: We are evaluating additional metrics to share in the future that will better capture our true underlying growth rate.
Speaker 4: Now onto our Q1 financial results. There are four important trends I want to highlight before digging deeper.
Speaker 4: During the 1st quarter, we generated 21% subscription revenue growth on our current products.
Speaker 4: We realized 80% subscription gross profit margins.
Speaker 4: We realized 80 percent subscription gross profit margins, and we significantly reduced our recurring operating expenses.
Speaker 4: First year commercial bookings were $2.3 million during the first quarter compared to $3.8 million in Q1 last year.
Speaker 4: Bookings in Q1 last year included $900,000 for Holy Grail project work related to Phase 2, which is now complete, and $300,000 related to our former Piracy Intelligence product.
Speaker 4: Excluding these two one-off items, first year commercial bookings would have been $2.6 million in Q1 last year.
Speaker 4: The timing of contract renewals also impacted the trend in bookings year over year as we had two six-figure contracts that renewed in early Q2 this year instead of Q1, both with sizable upsells.
Speaker 4: Total revenue for the quarter was $7.8 million, an increase of $400,000, or 6%, from $7.4 million in Q1 last year. Excluding revenue from our former Piracy Intelligence product, revenue increased $1 million, or 15%, year over year. Subscription revenue, which accounted for 50% of total revenue for the quarter, was $7.8 million, and was $7.4 million, which is $7.4 million.
Speaker 4: was $300,000 but after that it essentially went to zero. So this headwind to reported year-over-year growth rates will go way in the second half of 2023. Service revenue grew 9% from $3.6 million to $4 million.
Speaker 4: The increase is due to a larger annual budget from the central banks for project work in 2023 than 2022, which includes both higher billing rates and project hours.
Speaker 4: Subscription goes profit margin improved from 73% in Q1 last year to 80% in Q1 this year. The large increase year-over-year reflects two positive trends.
Speaker 4: First, a favorable mix of subscription revenue to our newer products, which carry higher gross profit margins than our legacy products.
Speaker 4: Second, as we foreshadowed on the last earnings call, our product infrastructure costs are declining, even with increased usage by customers on our platform.
Speaker 4: We expect these trends to continue, resulting in further expansion to our subscription gross profit margins. On the last earnings call, I stated we expected to drive our subscription gross profit margins to north of 80% in 2023.
Speaker 4: After the first quarter, we are nearly there with room for continued margin expansion. This is an important development to note given our focus on growing subscription revenue.
Speaker 4: Service gross profit margin improved from 49% in Q1 last year to 57% in Q1 this year.
Speaker 4: The increase reflects lower professional services costs this quarter, as we have streamlined our operations function since the acquisition in January last year.
Speaker 4: We anticipate service gross profit margin to remain in the mid-50s on average going forward, with some fluctuation quarter to quarter depending on labor mix.
Speaker 4: Operating expenses for the quarter were $19 million compared to $21.4 million in Q1 last year.
Speaker 4: Included in the 19 million of operating expenses was one time cash severance cost of 1.5 million and 600,000 of stock compensation costs, as a result of our previously announced restructuring plan this past February .
Speaker 4: Excluding these one-time costs, operating expenses would have been $16.9 million, representing a 21% decline from Q1 last year. As you will recall, Q1 last year included costs related to the everything acquisition and integration, as well as higher headcount related costs than as compared to today.
Speaker 4: non-GAAP operating expenses for the quarter were $15.5 million compared to $17 million in Q1 last year. Included in the $15.5 million was one-time cash severance costs of $1.5 million as a result of the February restructuring plan.
Speaker 4: Excluding the one time costs, non-GAAP operating expenses would have been 14 million, representing an 18% decline from Q1 last year.
Speaker 4: As a reminder, the restructuring of our business, which has now been completed, will result in approximately 8 million of annual expense savings with 7.4 million of those savings being cash-related costs.
Speaker 4: We continue to be focused on ways to further reduce our non-headcount related costs and drive greater efficiency across the organization.
Speaker 4: We are working to streamline our processes and leverage new technologies to provide for greater scale without having to make material new investments in HEPCO.
Speaker 4: Matt and Loss were coming chair for the quarter with 70 cents versus 103 cents in Keith one last year.
Speaker 4: non-GAAP net loss per share, which excludes non-cash and non-recurring items, was 45 cents versus 69 cents in Q1 last year.
Speaker 4: We ended the quarter with 43 million in cash and investments.
Speaker 4: We used $9.5 million of cash investments during the quarter compared to $16.7 million in Q1 last year.
Speaker 4: Included though in the 9.5 million is 1.5 million of one time cash severance costs. Excluding the one-time costs, cash usage would have been 8 million, a considerable reduction in the trend of cash usage for last year.
Speaker 4: We anticipate that cash usage will continue to decline in 2023 as we continue to grow our revenue, reduce our product infrastructure costs, and focus on continued operating efficiencies. For further discussion of our financial results and risks and prospects for our business, please see our Form 10-Q that will be filed with the SEC.
Speaker 3: I will now turn the call back over to Riley for final remarks. Thanks, Charles. In thinking how I wanted to end this call, I realized that how I ended the last call also still rings true word for word.
Speaker 3: This consistency and message is made possible by an incredible team all rowing in the same direction, aligned in their focus on changing the world. I also realized that by dedicating today's prepared remarks to talk about our platform, it is possible one might question what's going on with our products.
Speaker 3: Similar to it being possible that leaving the last call the universe concern could have been true and recent events would have quickly proven unfounded. I am thus going to end this call like I began it, reiterating what I said just a few months ago. With added emphasis on one key area, I perhaps didn't emphasize enough last time.
Speaker 3: 2022 saw us set the foundation for the years ahead, and we are excited to continue to build upon that foundation in 2023 and beyond.
Speaker 3: We are seeing momentum across all areas of our business and are hard at work continuing to increase that momentum as we create a market that is unique that we are
Speaker 3: uniquely positioned to lead for years to come. A market that at scale has the opportunity to be as large, if not larger, than the other legs of the digital transformation stool.
Speaker 3: a creative value as we digitize the world's products.
Speaker 3: Karen, we will now open up the call for questions.
Speaker 2: Thank you. Ladies and gentlemen, the floor is now open for questions. If you do have a question, please press star 1 on your telephone keypad at this time. Again, that's star 1 if you do have a question or comment. Please hold as we poll for questions.
Speaker 2: And we'll take our first question from Jeff Van Ree from Craig Hall and please go ahead, as Jess.
Speaker 5: Great, thanks for taking the questions. Several, obviously a lot going on here. Maybe, Riley, just start with the use cases. I mean you hit them pretty quickly but go a little deeper. What are you doing in each of these three cases because they're in some ways similar but in more ways they're not similar. Just talk a little deeper about what exactly you're doing in each of those use cases.
Speaker 3: We are
Speaker 3: the customer is using Illuminate to protect the packaging of those items and then on the DRS it's similar it's you know using Illuminate to digitize items products that would be part of a DRS system. Is this when you say protect packaging are you talking about serialization so each
Speaker 3: that any of our VARs can take advantage of to build their own products. Again, so if you're familiar with all of the capabilities in Illuminate, they have access to Illuminate and they're building their own products using those capabilities.
Speaker 5: Yeah, that's some of the challenge. It's very diverse in terms of what it does, but I appreciate the privacy requirements. Charles, in terms of the contract itself, forgive me, but maybe you could revisit. The RevRec, is this going to be ratable? And then I was unclear. You said a little bit about the bookings and the recognition of the bookings, but I'm curious on the cash collection and the revenue recognition.
Speaker 4: Yeah, so we're working through the revenue recognition right now. I would suspect that it's going to generally be ratable. There are 3 different products though that started different points in time. So, you're not just going to be able to take the 6M and radically take it from there because each of the projects project excuse me products are phased.
Speaker 4: and that's the same with the cash and that's why $900,000 of the cash falls outside of the first 12 months of the contract and therefore doesn't meet our definition of a first-year booking.
Correct.
And then revenue will ramp as those products come online.
Okay and the timelines, I mean obviously we got to build a model, can you give us some sense of timing on when these three are going to layer in? How do we approach that?
Well the majority of it's being paid in the first year so it's all of the products are starting within one year.
Okay. All right. And... And...
Okay. All right.
Okay, got it. And then obviously, you're not naming the VAR, but these are pretty diverse use cases. I mean, I don't know just what, you know, like how many other VARs are there similar to this? This is, you know, I don't know, a unique customer. I'm trying to understand exactly what their practice is.
A ton of ours out there that we haven't even begun to talk to yet.
Okay. Okay. And just to be clear, the 6 million roughly year is... And then, yeah, maybe one way to follow up. I mean, think about...
Jeff, there are trillions and trillions of items produced every year. Each of those are produced with a broad ecosystem, right? So there's just
trillions and trillions of items produced every year. Each of those are produced with a broad ecosystem, right? So there's just a ton.
I'll leave it at that. Yeah. Okay, I'll leave it there. Thank you.
go ahead. Hey Riley, great quarter. Thanks for taking the question. Are you able to share with us any more insight as to which country this National Deposit Return System for Recycling is referring to?
No, we've shared what we can share, unfortunately. Okay, so I've got to get on a plane and travel the world with my Digimox Discover.
Thank you and we'll take our next question from Matt Tollard from PCB Advisory. Please go ahead Matt.
Hey Riley, hey Charles, great quarter, congratulations. Could you Riley, could you talk for a little bit with the maturing of these VAR relationships? You know, you started signing them last year.
and you're continuing to sign them and obviously it sounds from the tone of the call the activity continues to spike. In these VAR discussions, how is there enthusiasm or how is there interest in the Illuminate or the products that DigiMark offers?
enthusiasm is growing. Yeah, you know, it's growing. I mean, it's, you know, if you think about
are most likely VAR candidates, and some of them are publicly known, right? These are people in the packaging space that...
that what we have currently in Illuminate, what we're building in Illuminate, it's a full-time job, right? And so the ability to have a hyperscaler, I think I use the word hyperscaler during the prepared remarks on purpose. I think most people think of hyperscalers and AWS Azure.
CPU and memory hyperscalers. We're a product digitization hyperscaler for people who don't have the capacity or the interest or you know for whatever reason where they don't want to invest in the platform to build their own platform for product digitization but produce packaging.
scenario of great excitement and it's a mutually beneficial win-win-win actually for us, for the VAR and for the end customers. I talked a little bit Matt on the last call, actually you and I discussed it in the Q&A on the last call but it's pretty exciting. Great and I guess to build on that it seems like the enthusiasm
from the virus, you know, we look at historically, obviously, we've got this holy grail effort kind of looming, if you will, and, you know, as shareholders, we're all looking towards the end game where there'll be some legislative support for recycling and for your extended producer responsibilities and all that, but it doesn't seem like
all of ours are coming to you with much different propositions, much different
the challenges that need solutions versus thinking ahead towards that end game. Yeah, so DigiMark Recycle is a product we've built on our platform. So again, just taking a quick step back, right? DigiMark Illuminate platform control contains all of our capabilities, right? Everything we can do. We either license the platform to the VARs to build their own products and services or that's what we use internally to build our products and services.
to the world's brands and retailers.
the world's brands and retailers.
All right, I'll jump back in the queue. Appreciate it. Thanks, Matt. Thank you. Once again, that's Star 1 if you do have a question or comment. And we'll take our next question from Harvey Morka. Please go ahead, Harvey.
Thanks for taking the call. Based on our low share price right now and the large moat that we have and the
extensive patent library. Is there anybody taking a look at us as far as an acquisition?
Harvey, I think every time you're on the call you ask the same question. The answer is no.
However, I think every time you're on the call, you ask the same question. The answer is no. Nobody's looking yet.
Okay. Thank you. Thank you. And we'll take another question from Jeff VanRee from Craig Hallam. Please go ahead, Jeff. Yeah, great. Thanks for the follow-up. You commented on the restructuring and the reduced cash burn expectations. Can you put some numbers around that? How should we think about the remainder of the year in terms of cash burn?
Okay, and then Riley, you commented on the VARs, you know, you can sell product or you can sell platform. This is a platform to the VAR to go build applications. What's the, to the extent they have to go build something yet, what does that look like?
Depends on each relationship, right? I think, Jeff, maybe the best way to picture it is just picture what AWS and Azure and GCP offer people, right, it's outsourced, it's hyperscaler for compute and for memory, and some people build really, really intricate products and services on top of those, and some people just do too.
build very little. So it really depends on on the VAR and the products that they want to build. Okay and then from a from a margin standpoint I think I know the answer but if you're selling this to the VAR and you're not providing any of the service then this is just a pure licensing deal there's no other so this should be
almost pure gross margin. Yeah I mean there's obviously cost so the way we meter out access to our platform is what we meter out access right so we have cost of goods sold of the platform but you're right and the nice thing about the VAR there's a lot of wonderful things about about the VAR.
quick ability to ramp. These are VARs. They're building something internally, and then a lot of times they have hundreds and hundreds of customers that they're going to roll it out to. But it's also extremely high margin.
Okay, great, thank you.
And we'll take our next question from Kevin Hanrahan from KMH. Please go ahead, Kevin. Hi, Charles. I had a question about the NOL. I know you did your 10K recently. If you had that number, could you update us? And if you don't have it, could you give me that number offline? Yeah, I don't have the number memorized. I'll send you a note. It looks good.
And we'll take our next question from Kevin Hanrahan from KMH. Please go ahead, Kevin. Hi, Charles. I had a question about the NOL. I know you did your 10K recently. If you have that number, could you update us? And if you don't have it, could you give me that number offline? Yeah, I don't have the number memorized. I'll send you a note. Okay, that's fine. Thank you, Charles. Okay, thank you. Thanks. Thanks. Thanks. Thanks. Thanks. Thanks.
As a reminder, that's star 1 if you do have a question or comment. And there appear to be no further questions at this time. I'll turn the floor back.
Great day.