Certara, Inc. (NASDAQ:CERT) Q3 2023 Earnings Call Transcript

Certara, Inc. (NASDAQ:CERT) Q3 2023 Earnings Call Transcript November 8, 2023

Certara, Inc. reports earnings inline with expectations. Reported EPS is $0.11 EPS, expectations were $0.11.

Operator: Good day, and thank you for standing by. Welcome to the Certara Third Quarter 2023 Earnings Conference Call. [Operator Instructions] Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your first speaker today, David Deuchler.

David Deuchler: Good afternoon, everyone. Thank you all for participating in today’s conference call. On the call from Certara, we have William Feehery, Chief Executive Officer; and John Gallagher, Chief Financial Officer. Earlier today’s retire released financial results for the third quarter ended September 30, 2023. A copy of the press release is available on the company’s website. Before we begin, I would like to remind you that management will make statements during this call that include forward-looking statements, and actual results may differ materially from those expressed or implied in forward-looking statements. Please refer to Slide 2 in the company materials for additional information, which you can find on the company’s Investor Relations website.

Management may mention some non-GAAP financial measures in their remarks or responses to questions. Reconciliations of these non-GAAP financial measures to the most directly comparable GAAP measures are available in the recent earnings press release on the company’s website. Please refer to the reconciliation tables in the company materials for additional information. This conference call contains time-sensitive information and is accurate only as of the live broadcast today November 8, 2023. Certara disclaims any obligation, except as required by law, to update or revise any financial projections or forward-looking statements, whether because of new information, future events or otherwise. And with that, I will turn the call over to William.

William Feehery: Thank you, David. Good afternoon, everyone. Thank you for joining Certara’s Third Quarter 2023 Earnings Call. John and I will start with prepared remarks, and then we will take your questions. In the third quarter, Certara saw sequential improvement and stabilization in overall business trends with bookings growth in both software and services. Total company revenue in the third quarter was $85.6 million of 1% compared with the same period a year ago. Software revenue in the quarter was $31.3 million and grew 10% versus last year and services revenue was $54.2 million and declined 4% versus last year. Over the past several months, we have seen a stabilization in activity across the portfolio, though there are some areas of the business that continue to experience more near-term uncertainty than we are than we are accustomed to.

We continue to see strong indications of interest for our biosimulation software and services across all tiers of customers. We are executing well on the operational and commercial plan outlined during the second quarter earnings call. Our commercial alignment is beginning to take form with some early enterprise leads already converting to bookings and revenue across the platform. As we make improvements to operating efficiency of the services organization, we continue to identify best practices, which can be implemented more broadly. We are encouraged by initial progress towards our revised goals for the year, and we remain focused on consistent execution heading into the fourth quarter and into 2024. Our third quarter software bookings were $27.2 million, which represented 7% growth versus the third quarter of 2022.

Reported software bookings growth was impacted by the timing of certain renewals with some having booked in the second quarter and some to be booked in the fourth quarter. Software bookings growth was also impacted in our Tier 1 customer segment as a result of industry and macroeconomic headwinds. Despite this, the average software deal size across all customer tiers continue to rise, continuing to grow at double digits. We are encouraged by a return to growth for our bookings among smaller biopharma companies. And we continue to see broad recognition of the value delivered with biosimulation, which instills us with a lot of confidence in future software performance. Throughout 2023, our software team has continued to make progress on key business and product development initiatives.

Since its acquisition in 2021, Pinnacle 21 has become an integral part of Certara’s software strategy, and we have developed software features that expand upon Pinnacle 21’s initial capabilities. Throughout 2023, we have introduced Pinnacle 21’s data exchange offering, which helps customers organize and standardize their data from multiple sources using the CDISC standard. We’ve also introduced automation for the data management and preparation process involved in SDTM formatting, a key component of data submission. Looking ahead, we believe there will be additional opportunities to expand our Pinnacle 21 offering to complement existing applications. We also continue to make progress in advancing biosimulation with the newest addition to Certara’s biosimulation software family.

We launched Simcyp biopharmaceutics, A version of Simcyp targeted specifically at scientists working on formulation development. This product continues our strategy of expanding biostimulation by releasing tailored tools aimed at specific scientific problems. Additionally, we continue to invest in developing artificial intelligence capability within our existing software platform. Earlier this year, we acquired Vyasa to kick start our AI-enhanced product development efforts. And in early October, we announced the availability of Certara AI. Certara AI is a platform designed to deploy client-specific GPs and to answer in-depth questions throughout the drug development process. Certara AI is unique because it is built using it by assets deep learning algorithm and this data used includes a library of over 60 million life science research documents and the client’s proprietary databases, yielding a powerful and proprietary model.

One recent advance is our integration of AI in our regulatory writing software, which is called co-author. Co-Author uses artificial intelligence to aid in drafting regulatory submissions. The product can auto populate content, summarize studies, craft messaging and aid the author to deliver the submission. Use of Certara AI and co-author has the potential to drive substantial documentation and writing efficiencies over time. Co-Author, Certara AI and B360 are all examples of products that are either be enhanced or developed using VIASA technology relatively quickly. While it is still the early days in AI, we are very excited about the potential that artificial intelligence and machine learning can bring to Certara products and, in turn, our customers.

Shifting now to our technology-driven services segment. Third quarter bookings totaled $57.6 million representing 6% growth compared with the third quarter of 2022. During the third quarter, we observed initial signs of a more stable spending environment among our biopharma customers compared with our second quarter performance. We delivered strong bookings with Tier 3 customers. In addition, services bookings among our tiers 1 customers improved sequentially and grew in the low double digits compared with the prior year period. Following the consolidation of our services business, we are confident the changes being made will improve coordination in operations and commercial efforts. Certara’s regulatory bookings improved sequentially, tracking slightly ahead of our revised internal expectations and grew compared with the same period last year.

We remain committed to driving improved performance in our regulatory business over the coming months, and we believe the ongoing integration with the biosimulation services business will help improve the pace of performance. Biosimulation services also performed in line with our expectations, and we saw a pickup in customer activity throughout the quarter. Broader industry demand for our services is steadily improving. And our customers continue to see substantial value in our broad offering of biosimulation services. By bringing Certara’s expert consultants on board, our clients gain significant value and efficiency for their projects. As we drive the adoption of biosimulation software, we expect to see increased demand for our services, and we are pleased with the current momentum and trajectory of our business.

To close, we are confident in our ability to execute on our plan to drive long-term growth in biosimulation. Certara’s platform provides a differentiated offering that continues to be prioritized by customers due to the value we can provide in lowering costs and accelerating time lines to drug project completion. As we look ahead to the fourth quarter and beyond, our focus remains on driving consistent execution to best position ourselves for future growth. I now turn the call over to John to review our financial results.

John Gallagher: Thank you, William. Hello, everyone. Total revenue for the 3 months ended September 30, 2023, was $85.6 million, representing year-over-year growth of 1% on a reported basis and flat on a constant currency basis. Software revenue was $31.3 million in the third quarter, which increased 10% over the prior year period on a reported basis and 9% on a constant currency basis. . Growth in the quarter was driven by biosimulation software and Pinnacle 21. Ratable and subscription revenue accounted for 68% of third quarter software revenue. Our quarterly performance is in line with past Q3 seasonality, and we are pleased with the year-to-date performance in software, which is growing in line with expectations. Software bookings were $27.2 million in the third quarter, which increased 7% from the prior year period.

Trailing 12-month software bookings were $133.1 million, which increased 13% as compared to the prior year. The software aggregate renewal rate was 86% in the third quarter, and our net retention rate was 107%. We continue to expect that our renewal and retention rates for the full year will be in line with historical company averages. Services revenue was $54.2 million in the third quarter, which decreased 4% versus the prior year period on a reported basis and decreased 5% on a constant currency basis. Services bookings in the third quarter were $57.6 million, which increased 6% from the prior year period. Trailing 12-month services bookings were $270.7 million which decreased 4% as compared to the prior year. Services bookings have shown signs of improvement as we have progressed through the back half.

Total cost of revenue for the third quarter of 2023 was $35.9 million, an increase from $32.8 million in the third quarter of 2022, primarily due to employee costs related to Biosemiservices billable head count growth. Total operating expenses for the third quarter of 2023 were $102.5 million, including a $47 million goodwill impairment expense, an increase from $41 million in the third quarter of 2022. The components of operating expenses are as follows: Sales and marketing expenses were $7.2 million compared to $6.4 million for the third quarter of 2022. This increase is primarily due to employee costs related to expanding the sales and marketing team; R&D expenses were $9 million compared to the $6.3 million for the third quarter of 2022.

R&D expenses were up primarily due to employee cost for software development related to new product offerings, including the AI products William mentioned earlier; G&A expenses were $27.8 million compared to $17.3 million for the third quarter of 2022. The increase was primarily due to contingent consideration expense on acquisitions; intangible asset amortization was up to $11.2 million compared to $10.6 million for the third quarter of 2022; Depreciation and amortization expense was $0.4 million, which is flat to the prior year. Continuing down the P&L. Interest expense was $5.9 million compared to interest expense of $5.2 million for the third quarter of 2022 due to higher interest expense relating to our floating rate term loan. As a reminder, we have about 78% of our debt fixed at 6.38% and roughly 22% floating at LIBOR plus 350.

Miscellaneous income was $5.1 million compared to $2.9 million for the third quarter of 2022. We have a $4.6 million income tax reversal due to an impairment loss compared to a $4.6 million expense for the third quarter of 2022. Net loss for the third quarter of 2023 was $49 million compared to net income of $3.9 million in the third quarter of 2022. Reported adjusted EBITDA was $28.8 million compared to $32.7 million for the third quarter of 2022, a 12% decrease. Adjusted EBITDA margin was 34% in the third quarter of 2023. Reported adjusted net income for the third quarter of 2023 was $17.1 million compared to $16.6 million for the third quarter of 2022. Diluted earnings per share for the third quarter was negative $0.31 compared to $0.02 in the third quarter of 2022.

Adjusted diluted earnings per share for the third quarter of 2023 was $0.11 compared to $0.10 in the third quarter last year. Now, moving on to the balance sheet. We ended the quarter with $272.3 million of cash and cash equivalents. As of September 30, 2023, and we had $292.2 million of outstanding borrowings on our term loan and full availability under our revolving credit facility. As we approached the end of the year, we are reiterating our 2023 guidance as follows. We expect total revenue between $345 million and $360 million representing year-over-year growth of 3% to 7%. We expect adjusted EBITDA in the range of $120 million to $128 million. We expect adjusted EPS in the range of $0.44 to $0.48 per share. Fully diluted shares in the range of $159 million to $162 million, and a tax rate in the range of 25% to 30%.

We expect 2023 bookings to be down low single digits as compared to 2022. I will now turn the call back over to William Feehery for closing remarks.

William Feehery: Thank you, John. To summarize our message today, we have seen a stabilization in customer spending, which is reflected in our third quarter results. Our core growth drivers remain intact, and we are creating new products and services that will further advance the business. The value proposition of biosimulation and Certara’s end-to-end products and services remains as compelling as ever. We are confident that Certara is well positioned for growth and profitability over time as a global leader in biosimulation. We will now open the line for questions. Operator, can you open the line?

Operator: [Operator Instructions] Our first question comes from the line of Jeff Garro with Stephens Inc. Your line is now open.

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Q&A Session

Jeff Garro: First one for me, just wanted to hit on the software side of the business. And maybe you could talk a little bit more about the software renewal rate in the quarter? And I think in the deck, I see a comment on the Tier 1 customers and some issues related to timing. So just curious about that renewal rate and how we should also think about that in the context of the SaaS versus license mix on the software side. .

John Gallagher: Yes. Great. Jeff, this is John. Happy to take that. The — yes, on the aggregate renewal rate, it’s at 86% this quarter. It’s impacted by some timing, but a pull ahead into Q2 and then some push into Q4. So I guess what we’d say about that, too, is as you look at our history, we typically do have — so we’ve seen this kind of volatility before. We typically do have a quarter that has the aggregate renewal rate in the 80s. And so Q3 for this year is shaping up to be that. As we look forward to Q4, we expect the aggregate renewal rate to return into the 90%

Jeff Garro: Understood. And then one more for me, hit the services side of things and I want to talk about bookings and great to hear the comments on the end market stabilizing and improving through the end of the quarter and I think positive booking results for the quarter. But I want to ask about that in context of Q4, which is typically a very seasonally strong services bookings quarter for you guys. So I wanted to give you the opportunity to set the right expectations as we think about how services bookings land for Q4 quarter-over-quarter versus Q3, but also year-over-year versus the strong Q4 you had last year?

William Feehery: Great. Thanks, Jeff. This is Will. As you point out, we did have a nice recovery in our bookings and services in Q3. I think A lot of that is due to our new reorganization, having a combined sales force and some very good execution by that team, which I think is hopefully a sign of more of that to come. . I think we feel pretty good about — I mean based on customer conversations we’ve had, we feel pretty good right now about the deals in the pipeline for Q4 in services. So we expect to continue along the guidance pathway that we gave you guys before.

Jeff Garro: Great. Thanks, again. I’ll hop back in the queue.

Operator: Our next question comes from the line of David Windley with Jefferies. Your line is open.

David Windley: Good evening. Thanks for taking my question. I think I heard you say, John, that you’re still in the guidance commentary, you’re still expecting low single-digit decline in year-over-year bookings. I wanted to confirm that. And then in the in the context of that last quarter, I think you had talked about regulatory services bookings typically having some chunkier amounts that often fall in the fourth quarter, and I think you were not assuming that, that would happen time around. So kind of looking for confirmation around the total, but then also some color around the regulatory services traction. .

John Gallagher: Yes. Sure, David. Yes. So yes, we are confirming that the expectation on the full year is that booking contract in the low single digits. So that’s consistent with what we said on the August call. Specifically related to regulatory, we were pleased with the return to growth. And we see that as strong execution. So thanks to the team for our job well done there. We had said on the August call, the pipeline for business that we have visibility to the pipeline that it was really a matter of focus and execution and that we were there to compete, and we did that, sharpened our pencil a bit on price, but still within the historic norms and nothing unusual from price. So we’re pleased with the momentum that we generated there. Both not only in regulatory, but also in Biosimservices coming off of a weak Q2, a good stabilization and return to growth in Q3, we were pleased with that.

David Windley: Okay. I want to transition then on to kind of staffing question or labor question. I’m wondering how the utilization levels of your services project — billable project teams or project individuals looks at the moment with bookings having lagged a little bit. I wondered if the team was fully utilized at normal utilization levels, and then from a hiring standpoint, what is the — what is your hiring outlook or what’s your pace of hiring and what kind of labor market and labor inflation environment are you seeing currently? .

John Gallagher: Yes. So utilization, as we look at the services business is consistent with our expectations. So we’ve got utilization — is, of course, it varies by project and by customer. But overall, utilization is performing in line with our expectations during the quarter, and we don’t see any reason why that would stop in Q4. From a hiring perspective, recognizing the environment that we’re in, we have slowed hiring a bit but not related to the pockets that are generating the revenue for us. So as it relates to billable headcount, we have continued to hire and we continue to do so. we’ve slowed it in other pockets of the business really in the non-billable space.

David Windley: Got it. And then maybe I’ll just ask that question in a slightly different way. So gross profit margin was pressured just a little bit. It was a little lower than we were looking for, but then it was also lower year-over-year. I guess what I’m digging for is the drivers of that. Was it a utilization issue? Was it a labor rate issue? Was it a mix of business issue? I’m just trying to understand that a little bit better.

John Gallagher: Right. Yes. Yes. It is the fact that, I mean, look, the revenue that we had in the quarter was lower, as you said, it was 1% growth. We continue to invest in the business. That’s why I mentioned, we slowed certain pockets of hiring, but we are continuing to hire, and we don’t believe that a restructure of our cost base is the right thing to do. That’s a short-term focused, and we believe that in the opportunity over the long term and the growth prospects that you heard Will mentioned in the prepared remarks, remain fully intact. And so as a result of those investments, then you do see the margin. The margin was 34% in the quarter, which, to your point, was off a little from the typical 35-plus.

William Feehery: So David, to that — to what John said, I’ll add. It also — the utilization changed a bit during the quarter, particularly in regulatory. So coming out of the core bookings in Q2, we were a little light going into the quarter. And then as our bookings recover, we picked up. And so there was some costs that hit a little bit in the beginning of the quarter associated with that, too.

David Windley: Got it. Okay. That’s helpful. Thank you. That’s all for me.

Operator: Our next question comes from Mike Ryskin with Bank of America. Your line is now open.

Mike Ryskin: Hey, guys. Thanks for taking the question. I want to touch on some of the comments in your prepared remarks and some of the stuff you have there on the slides about early signs of market stabilization. Stabilizing activity, some improving trends, et cetera. I mean if we just look at the book-to-bill and the bookings, yes, there was some sequential improvement, but it’s coming off a pretty low base. And I guess what I’m getting at is does one quarter make a trend? Or is it a little too early to call that? Especially as you said that some of these businesses can be a little bit lumpy, timing can be a little bit off. So just what gives you confidence that this isn’t just some of the usual noise in the business quarter-to-quarter, and it is a more real turnaround.