Modelon AB (publ) (MODEL) Earnings Call Transcript

So good morning, everyone, and a warm welcome to Modelon's investor presentation for Q4 and the year-end report. My name is Jenny, and I will moderate the Q&A session at the end of the presentation. [Operator Instructions] And this presentation will, of course, be recorded and available on Modelon's IR website. So without further ado, I would like to hand over to the CEO, Magnus Gafvert; and the CFO, Jonas Eborn. Let's go.

Thank you, Jenny, for that introduction. And yes, welcome, everyone, to this presentation of Modelon's Q4 and year-end report for 2023. So my name is Magnus Gafvert, I'm the CEO of the company and also one of the co-founders. And Jonas is with us today, also my colleague, the CFO and also one of the co-founders, sitting in the next room.

Good morning, everyone.

So today, I will start by providing some bullet highlights of the quarter, then give a very brief overview of the company, then walk through business highlights of the quarter before handing over to Jonas, who will provide the financial update for the period. And then we conclude with the Q&A. As Jenny mentioned, you're all very welcome to provide your questions for that. So Q4, we continue our double-digit growth in software and service revenues. And notably, we see a sequential ARR growth of 6% or SEK 3 million, which is actually the strongest sequential growth we have seen in the past 2 years. Also, in the quarter, we are observing an increased pipeline activity, so ending the year on a positive note and good starting point for 2024. For the full year, we see a revenue growth of 17% compared to 2022 and with a good 21% growth on our professional services business. The ARR growth for the full year of 11% is, as we have reported previously, suppressed by the cloud transition that we have been conducting throughout the year. And we're pleased to report also that -- then that the development efforts related to this cloud transition, aiming at scaling -- setting us up to scale, the Modelon Impact business is completed in the fourth quarter, another positive note at the end of the year and providing a good starting position for 2024. In the quarter, we have also announced the -- our User Conference upcoming. I'll tell you a bit more about that later. So with that, a quick introduction to the company, Modelon. We are a business-to-business software company in the system simulation sector. And that means that we're helping our customers, technology enterprises across industries and around the world, to digitize engineering workflows related to the innovation, development and operation of high-technology products and systems. And that can be anything from an aircraft to a car or a power plant in whole or in parts. And in digitizing such workflows, you need to have at hand a digital representation of your product or system that can predict or reproduce the behavior and performance of that system in the digital domain. And that is precisely what we provide, software to create such models, digital representations, and to use them for these purposes. And this brings tremendous benefits to our clients. It means that they can develop their products faster, cheaper and arrive at higher quality and better performance in the end. And our flagship product, Modelon Impact, is pioneering the simulation industry in that -- in being the first cloud-native SaaS platform for system simulation. It is based on a proven high-threshold technology that we have been developing for now close to 20 years. This product -- this platform was released in the third quarter of 2020, so like 3 years from now. And since then and still, we are investing in this platform to grow and accelerate our annual recurring revenue business. And we are pleased to see that since release, we have been consistently growing our annual recurring revenues year-by-year, as you can see from the graph on this slide. We are a highly internationalized company for our size. We are around 100 people in offices in Europe, North America and Asia. That means that we are close to our key markets and our customers, who are typically international and global companies, which is a strong advantage. We are headquartered here in Lund, Sweden, where Jonas and I sit. The simulation and analysis market is very large. It's estimated at more than $9 billion in 2022 and with a projected 10% annual growth for foreseeable future. This, in combination with the strong positioning of our product and also our international presence, makes us set ambitious financial targets for our company to achieve an ARR growth of 35% in the medium term, to turn cash flow positive in the short term and to approach and exceed EBIT margins of 20% in the longer term. So with that, let's go into some specifics of the fourth quarter. So again, we're seeing an ARR growth amounting to 11%, taking us to SEK 50.9 million. For the full year, this growth is again suppressed by the cloud -- strategic cloud transition that we've been conducting, which notably then again, we see that in the fourth quarter, we have a strong growth of the sequential ARR of 6% or SEK 3 million, mostly driven by upsell. And this is also, looking back at the pipeline activity we have reported in the previous quarter, we are now seeing the effects of that. Software revenues in the same period, growth amounts to 15%. So that also includes some nonrecurring revenues that we are winning in particular in the Asian region. The Modelon Impact ARR growth amounts to 4% compared to previous years. So this is where we see the slowdown related to this cloud transition. That has meant some bottlenecks in delivery for us throughout 2023. And we are pleased to report then that we expect this to be resolved in Q4 with related development activities completed. And in Q4, we also see contributions to the software sales from our entry-level Library Suite product line like in the previous quarter. So that's also a positive. Digging and drilling deeper into the quarter, I'll start with introducing the key market segments where -- sectors we're working in the energy and process industry, industrial equipment, automotive and aerospace and also demonstrating or showing the type of customers we have, typically leading global innovation-driven technology companies, many of them very well renowned and demanding in terms of choice of suppliers and so on. So we are, of course, very pleased to have earned the trust from them to use our solutions. So I'm sure you recognize several of the logos on the slide here. And notably also, many of these companies represent very strong potential for upsell. We typically enter these accounts with a moderate -- small to moderate initial transaction and then there is a potential to grow. There are many potential users in many of these companies, so a potential to grow often more than 10x from the initial business. So looking a bit at the wins in the fourth quarter that includes new accounts of the type listed here and also... [Technical Difficulty]

Magnus, you need to switch microphone. It suddenly stopped working. Just roll back like 30 seconds or something.

Okay. So I'm assuming that we're starting on listing wins that we have done in the fourth quarter. So several wins in both new accounts on the same character that's listed here and also upsell on several of our existing accounts. So in the energy process, we see an Italian multidisciplinary research institute. They are working using Modelon Impact in the context of hydrogen-based energy systems. We also see a U.S. fuel cell company that's one of the long-term leaders in that space with decades of history, so very strong player. On the industrial equipment side, we have a Swedish-Swiss multinational leader in electrification and automation. They are using some of the fairly unique capabilities that we offer in Modelon Impact related to dynamic optimization. We have a Spanish industrial automation company that's a consultancy. And they had a fairly broad palette of use cases for Modelon Impact. I know that they are starting with the robotics applications, but they have also been looking at microgrid systems and similar, where we have strong offerings. We have a U.S. multinational heating ventilation air-conditioning company. That's a long-term customer, working mostly on large buildings, equipment for large buildings, commercial buildings and so on. So they are adding seats to their installed bases. On the automotive side, we have a Korean automotive company. That's one of the famous brands from that region using our solutions in the context of vehicle dynamics, engineering, adding seats, again an upsell from a long-term customer. A U.S. global automotive motion control technology company, that's a fancy name for a company that develops steering systems, power steering systems for the road vehicles, like hydraulic or electric power steering systems or steer-by-wire systems and so on. I think that's actually a company that's coming back to us after some couple of years interruption, and that's also nice to see. We have a European automotive Tier 1 supplier in the air-conditioning or thermal management domain. So that's one of our really strong domains. This is then the upsell, again one of our long-term customers and an upsell that's contributing to the strong sequential growth we see in Q4. On the aerospace side, we have a Chinese commercial aircraft corporation. They are using Modelon Impact in the context of more electric aircraft and also hydrogen-powered aircraft. So this is something we'll talk a little bit more later in the presentation here, the hydrogen trend. And we also have a U.S. supplier of aerospace products, one of the leading companies in that domain. They are -- again, this is an upsell, long-term customer. They are using our solutions and Modelon Impact in the context of air management systems for commercial aircraft. So it's a nice mix of new and upsell. And I remind that we do have this land-and-expand strategy, meaning that we start with moderate transactions typically and then we have the ambition to grow these accounts over time. In our industry, the time scales for such growth is such that we expect -- for a successful customer, we expect first upsell typically in the next year after the initial sale. Sometimes it's sooner and sometimes it's later. But that's the typical expectations. So we do expect that having added new accounts quarter-by-quarter, we will also start to see this upsell side of our business gaining momentum over time. And we're also pleased to see in Q4 that we have a good and increasing pipeline activity and that relates both to new accounts and upsell business. So yes, and why are these customers using Modelon Impact? Well, they are subject to the same trends as all the companies out there in these industries, big trends that is also driving the growth of the simulation industry largely, that of digitalization of engineering work to save time and money. And again, this is precisely what Modelon Impact is designed for. Then they are also subject to the clean technology, sustainable energy requirements of societies. And that requires, in turn, a very high pace of innovation to come up with new good solutions and concepts. And Modelon Impact is particularly strong in these kind of applications because we provide thousands of prebuilt component models that can be used for this kind of systems and products, so -- and we're pleased again to see that the majority actually of our customers are using Modelon Impact for such purposes. And then most are also looking at adopting cloud SaaS because -- to benefit from that in terms of convenience, collaboration, remote distributed work and so on. Again, Modelon Impact is unique in that respect, in the system simulation segment. So very, very good, strong positioning related to those trends. And Modelon Impact is continuously improving, of course. So on this slide, which also sort of gives an overview of our value proposition to the market, I'll actually start there. So you can say that we see our market, the technology industry is at the bottom here, the different types of systems. Using Modelon Impact, our customers can create digital models of these systems. And then they can use these models to perform engineering workflows throughout their product life cycle, starting to the left here with concept development, innovation, product planning research, then go into more system requirements, definitions, the design of detailed components, integration and testing, verification, validation and then finally, deployment and operation of the final system. And system simulation work-based workflows can be -- are important and can be employed in all these phases -- throughout all the phases here. And looking at Modelon Impact, the capabilities of Modelon Impact, we divide into four categories. So the first is build capabilities. That's then the -- to build the system, the digital models that the customers need. And here, we also see part of that is our Library Suite that contains all the prebuilt model components that our customers can use for convenience. We have a graphical good editor for building models. Then we have the analyze category. And that's where you perform your experiments in the digital domain. You prepare experiments to explore different design alternatives, sizing of systems and so on and then also evaluate under various operating conditions, in poor conditions and so on, and explore the results visually. Then we have a category we call collaborate. That's much related to the cloud aspect of Modelon Impact, the use of workspaces, sharing tools, collaboration, connectivity. We mention here the FMI Toolbox, a product that we have also that we mentioned sometime is one of connectivity tools into Modelon Impact. And we have the learn, which is our online and embedded Help Center and training for users so that they don't get stuck and get productive quickly. And in the fourth quarter, we have seen improvement. We have worked on improvements pretty much all over these categories. And in preparation for the new major release, 2024.1, that's coming out in Q1, and actually, started to roll out yesterday to our SaaS customers, we also again completed the work on this cloud transition development here, specifically that's the streamlined offering for our on-premise cloud installations. That was completed and successfully pilot-tested with customers in Q4 and is now part of this 2024.1 release coming out in Q1. We also continue to work on information security, hardening our product to meet the market requirements on that respect. And also, during the quarter, we had done some minor releases drops with improvements for our SaaS customers. And another big thing for us really in the fourth quarter also related to information security is that we concluded the work that's been going on for close to -- or about 2 years now, where we have been working to meet a global information security standard called TISAX. It's developed by the German automotive industry. And it is important for us because we have a good set of customers in that space. The standard is also broadly recognized as one that's not really that easy to meet. So in the fourth quarter, we were completing our work there. And we were assessed by independent auditors related to this standard. And this is a milestone for us. And this type of work, the structure-focused efforts that we're doing on information security, will -- it's a strong tool for us to grow our business and, very importantly, to establish confidence with our customers with respect to our information security maturity. So very, very, very good, again end of year positive note, something we start 2024 on a new level. From that, let's turn to a customer testimonial that we received in the fourth quarter, a really good one, exciting area. So this is a U.S. innovator, Universal Hydrogen, that has a mission to decarbonize aviation. And they have a very interesting approach to that, which is sort of, let's say, pragmatic and realistic, a fast path to come for this industry to a state of meeting the Paris Agreement obligations. And it's -- two things you can say. So one is that they have a very clever system, modular system for distribution of the hydrogen fuel in capsules. So capsules that could -- you fill at the green production site somewhere in the world and then you can transport to airports. And you plug these capsules into the hydrogen-powered aircraft. So it's like a logistics distribution system that also builds a lot of existing infrastructure. And then they also have -- are developing a conversion kit, where you can take existing aircraft and retrofit with hydrogen propulsion based on these modular capsule system. So -- and they did successful test flights in last year, during 2023. This company is backed by very strong strategic partners and investors. So it's a very, very exciting company to be affiliated with as a supplier. And they chose to work with Modelon Impact. We have strong support for hydrogen-based technology. Of course, they need to make a lot of critical design decisions. They also want to work collaboratively. And they chose to use Modelon Impact. They're testifying also to us that, first, that Modelon Impact truly speeds up their work. They find Modelon Impact intuitive to work with and also with the cloud aspect helping them to reach the goal of collaborative work in their engineering, so really, really nice one. And my final slide before handing over to Jonas is also announcing that we are preparing for our second-ever international User Conference. It will be held in October in Copenhagen. Again, Modelon solutions are used by fantastic customers, companies, most demanding, innovative. And they are working with solving -- in many cases, to solving our global challenges. So this year, we are meeting under a theme, Where Simulation Meets Sustainability. And there is -- if we compare it to the first conference that we had in 2022 in Stockholm, we had more than 50 leading technology companies from 15 countries attending, 10 customer presentations and a great keynote by Rolls-Royce and very valuable hands-on workshops with our customers interacting with them. So this was a very, very good networking event. We expect the upcoming conference to be even better. And we look forward to a vibrant 2 days with our customers in October. And you'll learn more about this as the planning goes on and we get more information to share. And with that, I hand over to you, Jonas.

Yes. And you can move on to the slide on ARR here. Thank you. So just highlighting the growth of the annual recurring revenue. I'm usually reporting that this is shown at constant currency. So we're showing the volume growth, meaning that there are adjustments to the current exchange rate in the -- at the end of the quarter. And we have growth up to SEK 50.9 million, the highest ARR we've had at plus 11% from last year. But the very pleasing thing is that the growth versus Q3 is 6%, so higher sequential growth. This is an increase since the temporary decrease we had in Q2. So we're sort of on a good path towards -- heading into 2024 here. We can say also that the total ARR growth that we're reporting here is this quarter primarily driven by increasing Modelon Impact content sales, what we're calling multi-platform library. So these are actually libraries that we have many large existing customers that have been using them since more than 15 years. They are all part of Modelon Impact. It's just a different packaging. I tend to see this as sort of several cylinders in the Modelon Impact engine. And in this quarter, it was the content that was driving the sales. And we're looking forward into 2024 that we will be firing on all cylinders at once and seeing improving growth. These large customers that we have since many, many years, there are really an opportunity for the future as we -- they are sort of getting into Modelon Impact, they're evaluating it in parallel with their existing Modelon Impact library solution that they're running on a different platform at the moment. And we are, of course, helping them in service projects, together with our sales team, to have a successful evaluation and eventually switch from their established workflows that they had since 15 years, so very good opportunity for us. We can switch to the next slide, Magnus. The net revenues in the quarter increased to SEK 20.7 million. That's 12% up from the previous period. The full year revenues increased by 17% to SEK 79 million. So we're on a continued growth path since the beginning of 2022, very encouraging to see. Also, noteworthy is that the software revenues in the quarter amounted to SEK 14.4 million. And they are now exceeding the development costs that you see at the bottom graph here, SEK 14.1 million. So that's also a very good sign. And we expect to continue this, of course, software revenue growing and the development costs staying roughly the same. Service revenue is also on a positive path. We have SEK 6.3 million in the quarter, growing by 15%. This has been sort of growing steadily. We had even better quarters in the second and third quarter for services. The work that our industry teams are doing, industry expert engineers, is actually split between the revenue that we get from service projects and also supporting new sales with our product customers, so both in presales but also in implementation projects, very often implementing workflows for our customers in the focused industry applications that we have, automotive, energy, HVAC, aerospace, and in that way, supporting the product sales growth as well. If we look at the development costs, as I said, they decreased by 16%, down to SEK 14.1 million. They are taken as operating expense. So a big reason for our negative result is, of course, the effort that we spend on development. During the year, I would say we've decreased continuously. This is the result of cost savings effort that we did. We've implemented a cost-effective development organization towards the end here with also using staff augmentation, switching out from some of the consultants that we had previous years that had a much higher cost. And this has resulted in the -- our rolling 12 months level, the annual level of development costs, at SEK 53.5 million. We expect to stay around this level, continuing at this level in 2024, so not decreasing further but also not increasing the development costs significantly. We are aiming to continue improving our EBIT. For the quarter, it was minus SEK 14.6 million, minus 70% margin. This is improving by SEK 4 million compared to the same quarter in 2022. And we expect also to continue that work into next year, primarily by growing our sales and growing our revenue, of course. And this is financial result that's in line with our strategy as we see -- we're balancing ongoing investments and we will continue to improve on the result. And with that, we can look at the next slide, Magnus, the operating expenses. So we can see that they have decreased in the fourth quarter by 5%. And this is also an effect of the cost savings that we're now seeing. Over the full year, we've sort of balanced the operating expenses, staying at roughly the same level, although we've seen a very high inflation in general during 2023. And the personnel costs, they are staying at the same level in the fourth quarter as the last year, although, of course, we've had revised salaries, growing salaries with this high inflation. Cash liquidity is at SEK 59 million at the end of the period. If you look at the details in the report, it's actually shown as split on two lines because we're investing some of this excess liquidity in short-term interest funds. So these are liquid assets just like any bank account. It just needs to be separated out from a sort of financial reporting perspective. The operating cash flow is slightly decreased in the fourth quarter. This is a temporary effect. So we have minus SEK 18.7 million cash flow. The fourth quarter is typically -- seasonally, it's the sort of highest cost quarter -- no, go back, Magnus. This is due to the effects that we have a lot of large renewals from our existing customers in the fourth quarter, where the payments are made in the first quarter, so now essentially. That was partly broken in -- or an exception to that was in the fourth quarter of 2022, where we had a large prepayment for an EU-funded project. So that's one reason for the difference in the fourth quarter. On the full year, year-to-date, we see an improving cash flow to minus SEK 52.5 million. That is also expected to continue to improve. We are confident in our cash flow positive target in the short term, meaning within 1 to 2 years. And this will continue improving as we move forward. Yes, I think that's it for me.

So yes, thank you. Jenny?

[Operator Instructions] And we are going to start with the analysts as usual. And we have Stefan Wård with us from Pareto Securities.

I will follow on the last slide here to try to clear out some question marks on the financing as I see that as the most important issue at the moment. So if you had minus SEK 52 million in cash outflow last year and we saw an improvement, if I followed it correctly, of about SEK 4 million in the last quarter compared to the last quarter in the year before, is that the rate that you would say you could continue to improve the operational -- the negative cash flow so that the minus SEK 52 million comes down towards minus SEK 30 million or something like that? We need some help on how to bridge the -- as you guide for positive cash flow breakeven within 1 to 2 years. I mean, if it's in 1 year with unchanged assumptions, then you will be close to finished with the cash position. Some help to just bridge this because...

So Stefan, so yes, I understand your point that you sort of see a gap there. Our goal remains to reach cash flow positive with the funds that we have from the IPO. Although, of course, with these numbers, you can see there is some risk. So we assume that -- or we plan for a substantial acceleration of the sales and improving EBIT well beyond this SEK 4 million difference that you see there. So we are pursuing those paths that we will improve and accelerate sales and also improve the cash flow. We also need to acknowledge there is risk with this. And we're preparing for alternative scenarios as needed. So we need to both take the positive outlook, we do see very high and good opportunities for growing our sales and meeting the targets that we have. At the same time, of course, there is market risk. There is competition. So we need to prepare for other scenarios. But at the moment, we are confident that we can remain on the path to reach our goals here.

And to continue on that flexible -- what sort of room or how could you do with the development costs? You guide for having that basically unchanged in '24 over '23. But if growth -- I mean, the acceleration in Q4 was nice. So we see a continuation of that in the coming quarters. And I see that you will create this room that you need. But if it doesn't materialize on the top line, could you, for a period, lower the development costs to meet the target? Or how fixed are those development costs would you say?

There are still some room for lowering. But I would say that we still need to keep our development pace, although we did substantial investments in 2023 with this cloud transition and those are completed. And so we won't -- I can say we won't decrease significantly. That's not the plan at the moment. Of course, we can replan if needed. So there is room for sort of if we don't see the positive development on the revenue side, we can definitely have some option, plan B, if you say that, to also decrease cost. But this is not our primary scenario at the moment.

No, I understand. We just try to clear out the risks here. But what can you tell us about your visibility in the sort of order book or pipeline for the growth scenario? Actually, I mean, if we go back a few years, the growth has come in a little bit weaker than what we initially expected. We see good traction and customer satisfaction is good and so forth. But it has been a little bit delayed, so to speak. How can you make us more confident that the good progress that you made in Q4 will actually materialize also in 2024? Is there anything you can say here that can sort of help us, please?

Maybe I can add, let's see if I'm not muted. No, good. So I think, again highlighting that we are seeing an increase in our pipeline activity in Q4, we have no reason to believe that, that will not continue throughout the year, given that we are gaining increased visibility in the market for our solutions. That's one thing. The bottlenecks that we have experienced in 2023 that has slowed down the growth there, we consider them to be addressed and fixed during Q4. So we entered 2024 with a stronger product offering in that sense, where we have higher scalability of the product. We can deliver at a higher pace than we could in 2023. So in that sense, I like Jonas' analogy with the cylinders. So it has been a bit frustrating in 2023 to not be able to really exploit all the opportunities we see out there. So we are in a stronger position now starting 2024.

Okay, I'm looking forward to follow your progress in 2024.