Thank you for standing by, and welcome to the Third Quarter 2023 Aspen Technology Earnings Conference Call. [Operator Instructions] As a reminder, today's program is being recorded. And now I'd like to introduce your host for today's program, Brian Denyeau, ICR. Please go ahead, sir..

Antonio will discuss business results of highlights from the third quarter. Chantelle will review our quarterly financials and guidance for the remainder of fiscal year 2023. With that, let me turn the call over to Antonio.

Antonio?.

first, we expect the demand environment and business dynamics that our customers experienced in the third quarter of fiscal 2023 to continue in the fourth quarter.

Second, the change in the high end of our up tailor range is predominantly attributable to the pullback in chemical customer software spending as well as other geopolitical considerations now impacting growth. We do not anticipate any improvement in these 2 areas in the fourth quarter.

Third, DGM and SSE are still tracking to deliver approximately 4 points of growth for the year. However, the relative contribution will be different than we anticipated. SSE has meaningfully outperformed our expectations this year and is now expected to deliver the majority of the ACV growth for these 2 businesses.

Conversely, extended implementation time lines for certain projects and longer sales cycles in DGM will reduce its near-term contribution to ACV growth in fiscal 2023 relative to our initial expectations. To be clear, we expect this to be only a short-term issue and is primarily a function of timing.

We are very optimistic on OSI's market opportunity and expect it to be a significant growth driver over time.

As we have discussed throughout fiscal 2023, we intentionally constructed our guidance with a wider range to account for the number of variables facing the business this year, including our efforts on the integration and transformation of OSI and SSE.

The potential volatility in the economy and uncertainty around some of our end markets COVID and other geopolitical factors.

We believe the new guidance represents a solid outcome for the year and is in line with our initial expectations in a year what we have been executing on a significant integration and transformation effort in the context of high economic and geopolitical uncertainty.

Finally, we're making some changes to realign our senior leadership team to bring greater focus to our execution and especially our transformation activities. Effective today, our current Head of Global Sales, [Filipe Swales Pinto] will now report directly to me.

[Filipe] is a 20-year veteran of AspenTech and has been running our global sales organization for the last 2 years. Our current CRO, [Manish Sala], will be transitioning to a new role focused on all aspects of customer success, including professional services, customer support and partners.

We believe these changes will better position AspenTech to meet our future goals and objectives. Let me finish by saying that we continue to be incredibly bullish on the opportunities ahead for AspenTech. We have successfully brought Heritage AspenTech, OSI and SSE together and lay the foundation for long-term, durable, highly profitable growth.

We're aligned with several highly attractive market trends that provide numerous opportunities for success. I would now like to turn the call over to Chantelle.

Chantelle?.

Thank you, Antonio. I will now review our financials for the third quarter fiscal 2023. As a reminder, these results are being reported under Topic 606, which has a material impact on both the timing and method of our revenue recognition for our term license contracts.

Our license revenue is heavily impacted by the timing of bookings and more specifically renewable bookings. A decrease or increase in bookings between fiscal periods resulting from a change in the amount of term license contract per renewal is not an indicator of the health or growth of our business.

The timing of renewals is not linear between quarters or fiscal years and this nonlinearity will have a significant impact on the timing of our revenue.

[Lease] ACV, which we define as an estimate of the annual value of our portfolio of term license and term and perpetual software maintenance and support our SMS agreements as our primary growth metric.

ACV provides insight into the annual growth of retention of our recurring revenue base which is the majority of our overall revenue as well as recurring cash flow. Although because of the Emerson transaction, the subsidiary that included the OSI and SSE businesses begin as the surviving entity.

As a result, the year ago comparison, as you see in our reported financial statements only includes OSI and SSE in the third quarter of fiscal 2022, and year-over-year comparisons are not meaningful. Annual contract value was $854.6 million in the third quarter of fiscal 2023, up 11.2% year-over-year.

Quarterly ACV was impacted by the medior chemicals demand the impact of certain DGM services projects that extended beyond their completion state and longer sales cycles for DGM solutions as referenced by Antonio. We are encouraged that the DGM term software and have begun to benefit from achieving favorability as we discussed last quarter.

However, it will be lower than expected due to the longer sales cycles. Will show a presentation on the DGM separability today after market close to provide investors with a more detailed overview of the topic and what it means for our business going forward. This can be found on the Presentation section of our IR website.

Annual spending for Heritage AspenTech, which the company defines as the annualized value of all term license and maintenance contracts at the end of the quarter for the businesses other than OSI and SSE was approximately $712 million at the end of the third quarter of fiscal 2023, which increased 8.6% year-over-year and 2.1% sequentially.

As a reminder, we intend to provide this annual spend disclosure for current adjustment tech-only fiscal 2023 to provide investors comparability with our historical disclosures. Total bookings was $231.3 million, a 15.4% decrease year-over-year. As a reminder, bookings are impacted by the timing of renewals, which were down year-over-year.

Please refer to Slide 11 of our third quarter earnings presentation now available on our IR website for a complete description of hastening bookings. Total revenue was $229.9 million for the third quarter. In addition to the lower bookings in the quarter, there were 2 other items that weighed on our quarterly revenue performance.

First, while we are seeing accelerated demand from customers for SSE solutions, we have not yet started to extend SSE contract duration meaningfully beyond its average historical length of 1 year due to customer uncertainty from the macro environment. As a reminder, after Topic 606, contract duration impacts the amount of revenue recognized.

Secondly, several OSI services projects that have extended beyond their completion, they are a headwind to revenue under OSI's historical percentages of completion accounting.

We have taken several steps to avoid the outcome in the future, including accelerating the hiring to stock projects, enabling an ecosystem of third-party partners to implement services projects and instituting best practices to make the service business more predictable overall.

These actions are all part of the OSI integration process and has helped to lay a solid foundation for the business. As such, we are confident about the ability to grow from this mutation line going forward.

While the OSI services business did face some headwinds in the quarter, we are excited to see the accelerated conversion of DGM customers through term from perpetual license transactions in the pipeline, which is more in line with our core business model and value proposition. Now turning to profitability, beginning on a GAAP basis.

Operating expenses for the quarter were $214.6 million. Total expenses, including cost of revenue, were $308.4 million. operating loss was $78.5 million, and net loss for the quarter was $57.6 million or $0.89 per share.

Please note that the net loss includes the impact of 2 Australian dollar foreign currency derivatives related to the pending Micromine acquisition.

Namely a realizing of $10.3 million of cost at line of the revenue; and secondly, a noncash loss of approximately $25.1 million related to the mark-to-market adjustment for the new derivatives entered into our third quarter.

The total unrealized loss we have incurred related to the derivative activity has been approximately $40.5 million year-to-date. As an update on Micromine, we continue to work to secure the final remaining international regulatory approval in order to complete this acquisition.

We remain committed to completing this transaction are very excited to bring this team and solution this [indiscernible]. Turning to non-GAAP results. Excluding the impact of stock-based compensation expense, amortization of intangibles and acquisition and integration planning related fees.

We reported non-GAAP operating income of $56.8 million in the third quarter, representing a 29.1% non-GAAP operating margin. As a reminder, margins will fluctuate period-to-period due to the timing of customer renewals and the resulting impact on license revenue recognition in a given quarter.

Non-GAAP net income -- non-GAAP net income was $69.1 million in the quarter or $1.06 per share based on $65.2 million shares outstanding. Turning to the balance sheet and cash flow. We ended the quarter with approximately $286.7 million of cash and cash equivalents.

We also fully paid down the $264 million that was outstanding on our term loan balance in the quarter. We generated $131 million of cash from operations and $129.3 million of free cash flow in the quarter after taking into consideration the net impact of capital expenditures and capitalized software deployment payout statements.

On that note, I would like to highlight 2 factors regarding free cash flow. First, we saw a meaningful impact to cash collections at the end of the quarter due to the Silicon Valley Bank crisis. SVB was one of the primary excuse by our treasury operations to accept customer payments. And it took time to direct customers to other financial institutions.

This is entirely a matter of timing. And as of speaking, more than half of this cash has already been collected. Second, we no longer exclude acquisition and integration planning-related payments from our free cash flow calculation. We have made this change based on discussions with the SEC.

Free cash flow presentation for our results this quarter and prior comparable periods have an updated to reflect this change. For the third quarter and year-to-date, this change in methodology impacted free cash flow by approximately 0.8% and 6.9%, respectively. I would now like to close with guidance.

As a reminder, we expect the current environment from our third quarter to continue through our fiscal -- final fiscal 2023 quarter. Additionally, we are providing these updates in consideration of our progress and learning so far in transforming and integrating the OSI and SSE businesses. For ACV, we are now targeting 11% to 12% growth for the year.

We maintain expectations for approximately 4 points of growth from DGM and SSE with the main impact coming from the slowdown of chemical industry software spending and other deals political considerations impacting share adjustment type. We now expect bookings to be between $1.03 billion, $1.06 billion.

This includes $547 million of contracts that are up for renewal in fiscal 2023 and approximately $210 million of contracts up for renewal in the fourth quarter. Total revenues are expected to be between $1.04 billion and $1.06 billion.

This includes $670 million to $690 million of license and solutions revenue approximately $312 million of maintenance revenue and approximately $61 million in services and other revenue.

Relative to our prior guidance, we estimate that 2/3 of this revenue adjustment is being driven by the integration and transformation factors we've spoken to earlier. And the final third being is our Heritage AspenTech business. As a reminder, revenue in our model can be volatile due to Topic 606.

One of the drivers of that variability is the outsized impact of contract duration as revenue recognition is based on TCE total contract value. For Heritage AspenTech duration is approximately 4 to 5 years on average.

And for SSE, while duration has remained consistent at approximately 1 year, our plan assumes that it would begin to lengthen in fiscal 2023 as part of our transformation efforts.

This is why FSG revenue contribution will be lower than expected in our fiscal year, even though it is tracking ahead of plan on an ACV basis, which is the key metric for how we manage and evaluate our business. Moving to expenses for fiscal 2023.

We expect a total GAAP expense range of $1.19 billion to $1.224 billion and GAAP operating loss range of $179 million to $164 million. GAAP net loss is expected to be in $110 million to $97 million for GAAP net loss per share between $1.68 to $1.48.

From a non-GAAP perspective, we expect operating income to be $398 million to $413 million, for non-GAAP income per share of $5.63 to $5.83. From a free cash flow perspective, we expect to generate a minimum of $315 million in the fourth quarter being our largest free cash flow quarter of the full fiscal year.

As noted previously, free cash flow guidance has been updated to reflect the change in calculation methodology. And effective January 1, 2023, we no longer exclude acquisition and integration planning-related payments from our computation in cash flow. The change in calculation methodology does not represent a change in our expectations.

For context, year-to-date acquisition and integration planning-related payments represent 4.1% of the sum over fiscal 2023 free cash flow guide in these year-to-date statements.

We estimate that this change in methodology is responsible to roughly 35% of the total decrease in our fiscal 2023 free cash flow forecast using the midpoint of our prior rate presented on January 25, 2023. In addition, our free cash flow guidance for fiscal 2023 as [indiscernible] to cash tax payments of approximately $75 million.

Finally, in terms of synergies, while there are certain objectives that are taking longer than anticipated, as Antonio and I have touched on today, we have made significant progress this year in aggregate. We believe we are well positioned for the long term, from both a growth and profitability perspective.

As well as our ability to realize the $110 million of adjusted EBITDA synergies by 2026. To wrap up, AspenTech continues to deliver solid growth and profitability and is more challenging economic conditions.

We remain on track to deliver a year of double-digit ACV growth and significant free cash flow generation while integrating and transforming OSI and SSE with Heritage AspenTech. We are confident that the progress made in fiscal 2023 has provided us with a strong foundation for accelerated growth and expanding profitability in the years to come.

With that, operator, we would now like to begin the Q&A, please..

Certainly, one moment for our first question. And our first question comes from the line of Matthew Pfau from William Blair..

All right.

I wanted to first ask on DGM and maybe just a little bit more explanation in terms of what's going on with the sales cycles there? Are they lengthening or were they just ended up being longer than you had originally anticipated when you're doing your due diligence on the business?.

Yes, they are not lengthening in our -- during our due diligence and our model we assumed that we could bring the sales cycle for the DGM solutions to to match or be similar to those of heritage AspenTech.

And as we've gotten into that business, we've recognized that a significant portion of their business is tied to government entities, whether it's municipality, a county, state or national government.

And therefore, they have very rigorous procurement processes that include a request for information, request for proposals, evaluations and let negotiations. So we are realizing that it will take time to bring those sales cycles closer or be similar to AspenTech.

And this is something that many years ago in inherent adjustment deck, we experience where we do business with a lot of government-owned companies.

And over time, as the volume of applications or the installed base of applications in these customers' organizations increased we found ways that these customers also found ways to shorten their procurement processes, eliminate formal procurement processes with AspenTech leading to sourcing awards.

So the fundamental issue that we determine is that this isn't going to happen as fast as we thought it could. And therefore, we're readjusting our expectations on how long it's going to take to close business with DGM.

What I just want to say that, that impacts really the outcome that we're seeing in fiscal '23, for fiscal '24, we expect to then be in the range of the sales cycle of 12 to 24 months and start to realize in a faster closing rate and business in the year..

Got it. And just one more for me on what you're seeing in the chemicals market. So that's an area that you've called out as potential area of weakness over the past several quarters.

Maybe just help frame what changed this quarter? What did you see this quarter? Is it a material deceleration there versus what you had been seeing?.

Yes. Look, Matt, as we have explained in the past, customers' fiscal year budgets are tied to calendar years. And there's no doubt that while chemical customers back in the middle of 2022 calendar. We're having a good macro environment.

They started to see a deterioration of their demand environment in the September quarter, certainly in the December quarter, we believe that impacted their thinking around their operating budgets for fiscal 2023, the calendar 2023.

And as such, as we got deeper into the calendar -- into the -- our Q3 quarter, the March quarter, we started to see customers resisting and pushing out transactions, which we believe is just a reflection of much tighter operating budgets for software spending..

Thank you. One moment for our next question. And our next question comes from the line of Jason Celino from KeyBanc..

Maybe just for it sounds like the guidance is changing on the ACV.

How should we think about the heritage annual plan metric? I know you'll only give it for 1 more quarter, but what are you providing updated guidance for that?.

You're talking about the AspenTech guidance?.

No, there is an average adjustment..

Yes. I think we stated that we're only giving that guidance at the end of the fiscal year..

Yes. So Jason, we only provide the outcomes each quarter for this year. The guidance for this year, AspenTech is in the 11 to 12 with the [indiscernible] of approximately 4 being in OSI and SSE and the remainder Heritance AspenTech for ACV basis..

Perfect. And then this quarter, specifically reparability oncotype DGM. How much of that contributed to the 8..

Jay, so we're having a hard time hearing you..

He's asking how much of -- we can barely hear you. He's asking us how much of the DGM separability we've seen year-to-date or so far in the quarter.

That was your question, right?.

Yes. Yes, that is. You can hear me and that is..

Yes. No, that was better Yes.

But so look, no doubt the separability was a big win an achievement early in January, and we reported so in the January earnings call, but as was mentioned in the prepared remarks, for the existing OSI projects or project services work achieving the project milestones is what then leads to our ability to recognize revenue and separate services revenue from the software revenue that is bundled in that project as those milestones got pushed out and some of these projects that negated the opportunity to take advantage of the separability fact.

So nonetheless, that is there for some of the business that we're still recognizing and will continue to benefit us in the future..

And our next question comes from the line of Andrew Obin from Bank of America..

You guys sort of highlighted geopolitical risk as one of the factors. And I was just wondering what that meant because I think you sort of highlighted, but it's not clear to me what that refers to..

Yes. As we've stated in the past, we continue to operate our business in Russia. We've also stated in previous opportunities in investor conferences and meetings that the environment there is getting more difficult for us to transact in because of increasing actions on banks, primarily, which is constraining the availability then to get payments.

But also there's a more specific push by the local government there to start using more local software or local software. So the combination of those factors is creating less is leading to less growth and greater attrition in that business which was reflected as growth in our guidance. So that's also an impact that we're seeing in our growth rate..

Got it. That makes sense. And just another question. How should we think -- and sort of I appreciate what happened this year, and I think you've made it very clear what happened.

So as we think about the path of ACV acceleration and just thinking beyond this year, you did say that it sounds like the DGM sales cycle will come in line with your expectations, right? Assuming chemical OpEx will get better and probably the comps are going to get easier.

But what should we think about ACV growth accelerating over the next 2 years, what does today's changing outlook means for sort of longer-term outlook for ACV acceleration?.

Yes. No. So -- and thank you for that question, Andrew. So first of all, look, we still have strong conviction about the thesis for bringing these 3 companies together, Heritage AspenTech, OSI and SSE.

Assuming that we have a steady macro environment across of our end markets, what we would expect is for the Heritage AspenTech business to perform the way it has performed historically in a normal environment, which is really double-digit growth.

We believe that the OSI business it's a high-growth business in this environment of the huge investments in in transmission and distribution infrastructure and upgrades of their technology capabilities. And the SSE business, while it surprised us on the upside this year. We would expect that business to return back to a more normal rate of growth.

But nonetheless, support what we believe is a rate of growth that is in the mid-teens area for for years to come. And that's how we see it. I think this year, we're dealing with many factors. We see it as a year we're basically building the foundation to launch an unbelievable business. And I think we've made great progress on building that foundation.

We've uncovered a lot of then that we were not expecting. We've tested our assumptions. Some of them have turned out to be correct, others have not.

But on the whole, there's no doubt that we are now -- we are now much better informed about all the different levers that we have in these 2 businesses to build and accelerate the growth going forward, supported by what we think is a sustained positive environment for sustained positive environment for chemicals.

What we think in the medium to -- short to medium term will be a strong environment for oil and gas and also refining. And then eventually, with the closing of the Macromine acquisition, sustained positive environment in the mining area as well..

One moment for our next question. And our next question comes from the line of Rob Oliver from R. W. Baird..

I apologize in advance, suffering from a little laryngitis here. So hopefully, you can hear me okay. I have 2 questions. Antonio, one for you, and then Chantelle a follow-up for you. Antonio, just it seems like a pretty tight turnaround by FY '24, you mean Aspen's fiscal '24 for the sales cycles to come down on DGM back towards the core assets.

So just wanted to just dig in a little bit more on that, what gives you the confidence given it's -- we're kind of in Q4 right now? And then I just had a quick follow-up for Chantelle..

Okay. And thank you for that opportunity because it gives me for that question because it gives me the opportunity to clarify what maybe I created a confusion that I created. I don't mean to say that sales cycles are going to come down to 9 to 12 months for OSI in fiscal '24.

They are still going to be 12 to 24 months, but by the time we enter fiscal '24, it will be 12 months of pipeline building and execution on deals another 12 months in fiscal '24, puts us in that range of 12 to 24 months. So we'll start to benefit from the pipeline that we've been building in fiscal '23. I hope –.

Yes, that’s clear. Okay. No, great. I appreciate the clarification. And then Chantelle, one for you. Just on around the – I know just broad perspective, you and Antonio have talked about wanting the predictability in the Emerson assets that you’ve had in the core Aspen.

And I get that, that’s going to be a bit of a question today, given what’s happening with OSI. But my question is for you around the margin side? Because I know one of the things you talked about doing to address the potential issues around staffing and projects is to make sure you’re accelerating hiring its staff.

And what is the potential implication for margins or variability? And how can we get comfortable around that variability on the margin side?.

Yes. I think, Robert, sorry about your laryngitis. I think there are a few things we’re working on that and we continue to – or just is still clear at what we want to do in that area. So I think the majority of what allows that margin expansion. So if you look at services business now versus Heritage AspenTech gross margin of 90-plus percent.

What allows that to say is the evolution of moving to a partner ecosystem where they take on the services installation delivery, we get to be a pure play software and that’s well on track. We have been doing that in parallel. We’re growing on – we’re working with the second tier and first tier partners to scale that and ramp that.

So that’s very much part of our adjusted going into next year. And then the second part will just be we free baselined in the hygiene we’re putting in as part of our prepared remarks on how we operate going forward. So I think those new things were very clear. And that’s our continued path and agenda..

One moment for our next question. And our next question comes from the line of Clarke Jeffries from Piper Sandler..

Just a finer point on guidance, and I really appreciate that you're giving a split between how the revenue impact flow through. But specifically on the ACV, if DGM and SSE are still on track to 4 points of contribution of growth, then thinking about Heritage as the sort of difference there.

I wanted to specifically ask how much of it is describable by the chemical end market? You said the word predominantly, but I just wanted to be clear about is MSC coming down, but CapEx engineering is going up.

And so you're still within the range, but is there any way you could maybe further clarify chemicals contribution to the ACV movement given that we're still on track for 4 points with the DGM and SSE. And then I have one follow-up..

Yes. Look, so we said it in the prepared remarks, the chemicals owner operators are one of the primary contributors to growth in the MSC suite because that's where the is really used. In Heritage AspenTech chemicals, represent, I believe, about 28% of the total annual spend. I believe today on an ACV basis is about 23% of the total ACV.

And as such, a slowdown in -- with our chemicals customers, those have an impact on the rate of growth of MSC. If you go back to the previous guidance, the initial guidance for the year, we were guiding MSC from 7.5 to 9.5 point of growth. We've adjusted that guidance to 7 to 8.

So we still think, and we still believe that there's -- MSC will still materially contribute. On a stand-alone basis, on an ACV basis. We believe that MSC, if you compare it to annual spend to its previous baseline, it'll still be assuming that we perform we expect to perform in Q4.

MSC will probably still be a double-digit growth business by the end of the fiscal year. So there's been an impact, no doubt about it. But nonetheless, that business is still performing well. I believe that, that business will find ways to also accelerate into fiscal '24, and we'll continue to execute..

Really appreciate it. Yes, that's the color that I was certainly looking for. And then just maybe stepping back, I mean, you had mentioned input costs as well as supply chain disruptions as maybe some of the things that were affecting those customers.

But for us, maybe outside or looking in, is there anything that you particularly point to as maybe the main touch point with customers in terms of why they're they're considering a conservative outlook.

Anything that we should be monitoring in terms of the main input to their confidence or their business looking forward?.

Yes. Well, one of the main drivers the drop in demand has been destocking in this customer's customers' businesses.

You have to put it and you have to go back to COVID -- the COVID years where a lot of companies have stopped up on on supplies, considering the environment, and now with, of course, an uncertain macro environment, interest rates and other things, these customers have pulled back and purchasing and are consuming their inventory that the destocking part of it.

What I hear from chemical customers as we attend a conference and meet with them. That I believe that this token is coming to an end, probably most likely toward the middle of this year, and they expect to start seeing a growth in demand toward the middle of this calendar year..

[Operator Instructions] And our final question for today comes from the line of Mark Schappel from Loop Capital..

Chantelle question for you.

I was wondering if you could just review the factors impacting free cash flow that you mentioned in your prepared remarks once again?.

Yes, absolutely. There's very specific and very actionable. The free cash flow has 3 components. One is the change in the -- if we're taking that change from guidance is the change in the methodology. So that's about 35% of the change Mark. The other 2, roughly 1/2, so 1/3 and 1/3 is OSI and SSE, and there are 2 different drivers for OSI.

It's really the movement of those completion milestones out. And so that delays the collections and the invoicing and the funds expected from that perspective.

And from SSE, it's actually just pure execution on collections that we're working through as we break rigor to the team and working with our customers to get them to the Heritage AspenTech kind of cadence. Those are the 3 drivers, 1/3, 1/3 and 1/3 with 3 different actions to go from there..

Okay. Great. And then I was wondering if you just review one more time the factors impacting bookings in the quarter that I think you discussed in your prepared remarks..

I had the -- so bookings would be impacted by the renewals amount of renewals and contract duration term link for SSE. And most of my remarks were around the revenue change in the guide. I don't know if you're looking for bookings or revenue, but revenue is mostly the renewals for discussion and the SSE contract term length that we mentioned..

Thank you, this does conclude the question-and-answer session of today's program. I'd like to hand the program back to Antonio Pietri for any further remarks..

I want to thank everyone for joining the call today, and I look forward to meeting you all as we get on the road over the next few days and weeks. Thank you..

Thank you, ladies and gentlemen, for your participation in today's conference. This does conclude the program. You may now disconnect. Good day..