Welcome to the Cognyte Third Quarter Earnings Conference Call. My name is John, I'll be your operator for today's call. [Operator Instructions] Please note the conference is being recorded. .

And I will now turn the call over to Dean Ridlon. .

Thank you, operator. Hello, everyone. I'm Dean Ridlon, Cognyte's new Head of Investor Relations. Thank you for joining us today. I'm here with Elad Sharon, Cognyte's CEO; and David Abadi, Cognyte's CFO. .

Before getting started, I would like to mention that accompanying our call today is a WebEx with slides. If you would like to view these slides in real time during the call, please visit the Investors section of our website at cognyte.com, click on the Investors tab, click on webcast link, and select today's conference call. .

I would also like to draw your attention to the fact that certain matters discussed on this call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and other provisions of the federal securities laws.

These forward-looking statements are based on management's current expectations and are not guarantees of future performance. Actual results could differ materially from those expressed in or implied by these forward-looking statements.

The forward-looking statements are made as of the date of this call and, except as required by law, Cognyte assumes no obligation to update or revise them. .

Investors are cautioned not to place undue reliance on these forward-looking statements.

For a more detailed discussion of how these and other risks and uncertainties could cause Cognyte's actual results to differ materially from those indicated in these forward-looking statements, please see our annual report on Form 20-F for the fiscal year ended January 31, 2021, filed with the SEC on April 29, 2021, and other filings we make with the SEC.

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The financial measures discussed today include non-GAAP measures. We believe investors focus on non-GAAP financial measures in comparing results between periods and among our peer companies that publish similar non-GAAP measures.

Please see today's presentation slides, our earnings release and the Investors section of our website at cognyte.com for a reconciliation of non-GAAP financial measures to GAAP measures. .

Non-GAAP financial information should not be considered in isolation from, as a substitute for or superior to GAAP financial information but is included because management believes it provides meaningful information about the financial performance of our business and is useful to investors for informational and comparative purposes.

The non-GAAP financial measures the company uses have limitations and may differ from those used by other companies. .

Now I would like to turn the call over to Elad. .

Thank you, Dean. We are excited to have you join the Cognyte team. Welcome, everyone, to our third quarter conference call. .

I'm pleased to report third quarter revenue and diluted EPS coming in above the high end of our guidance. Non-GAAP revenue was $190 million and non-GAAP EPS was $0.21. Adjusted EBITDA also came in strong at $22 million. .

During the quarter, we received many large deals, including multiple 7- and 8-digit deals, driven by our security analytics platform. As we approach completing our first year as an independent company, I'm pleased with the execution of our software strategy.

We experienced sequential revenue growth in Q2 and Q3 and expect to finish the year with strong sequential growth in Q4. .

With 6 weeks left in the year, we are refining the annual outlook. We now expect $480 million of revenue or around 7.5% year-over-year growth with 10% gross profit growth and $0.90 of EPS, at the midpoint of our revenue expectations. David will elaborate on our guidance later in the call. .

Our growth strategy is to empower security organization with an open analytics platform to help them address many different security use cases. I would like to start my discussion today with a review of some of the large deals we have seen in Q3 that reflect the execution of this strategy. .

The first is an approximately $50 million deal from a national security agency that added new functionality. This is a good example of how our platform can help customers address their growing needs to accelerate complex investigations with our latest innovations in security analytics. .

The second and third examples are 2 deals, each of approximately $10 million, in connection with capacity expansion of our platform. These 2 deals are good examples of how we help customers scale their solutions to analyze the increasing amount of data they capture and address evolving security threats.

We believe these large deals reflect our laser focus on innovation in artificial intelligence and data analytics and our customers' ability to leverage our platform to address many different use cases. .

For example, a use case of our platform is accelerating organized crime investigations. Security agencies seek to identify members of criminal organizations as a [ steady ] organization's ecosystem, including the leadership, funding sources and intentions and ultimately prevent crimes before they happen. .

In today's digital world, criminals leave behind many digital footprints that can be very useful in accelerating the investigations. The amount of digital information that is available to security agencies is growing rapidly, but it's also very diverse and difficult to analyze in order to find actionable insights.

Our platform is built with significant domain expertise and enable security agencies to leverage digital footprint to connect the dots and reach quick conclusions by fusing and analyzing data from a wide variety of sources.

I believe organized crime investigation is a good example of how we support many use cases of our analytics platform to help our customers address their evolving security challenges. .

As we look forward, we believe the security analytics market is in its early stages and we are well-positioned for long-term growth. Many customers recognize that homegrown solutions can no longer keep pace with growth in data volume and diversity.

They seek open analytics platform from a trusted partner that can support multiple use cases, solutions that can [ use ] better scale from different sources and generate high-quality insights faster to mitigate the right range of security threats before they fully unfold. .

We have a long history of innovation that has enabled us to establish Cognyte as a leading vendor of security analytics software. With nearly 1,000 people in R&D primarily based in Israel, we are committed to continuing to lead the market through developing highly sophisticated tools for our customers. .

Our market leadership is not just about our technology. Customers also have confidence in our ability to deliver value based on our track record of innovation and previous deployments.

We intend to maintain our market leadership by continuing to collaborate with our customers to stay on the cutting-edge of artificial intelligence and security analytics to address the evolving needs of the world's most sophisticated security agencies. .

In summary, we are pleased with our third quarter results and are on track for a solid first year as an independent public company. And with the strong execution of our software strategy, we expect to deliver 10% gross profit growth for the year.

Looking forward, we are in a large and growing market with positive industry trends and are well-positioned for long-term growth. .

Now let me turn the call over to David to discuss our Q3 results and outlook in more detail.

David?.

Thank you, Elad, and hello, everyone. Our discussion today will include non-GAAP financial measures. A reconciliation between our GAAP and non-GAAP financial measures is available, as Dean mentioned, in our earnings release and in the Investors section of our website. .

With a solid third quarter, with revenue, adjusted EBITDA and EPS coming ahead of our expectations, behind our results was the ongoing demand for our solutions from both existing and new customers. During the quarter, we won many large orders, driven by our cutting-edge artificial intelligence and security analytics platform. .

In Q3, non-GAAP revenue came in at $118.7 million. Adjusted EBITDA came in at $22.1 million, and diluted EPS came in at $0.21. Year-to-date, non-GAAP revenue was $350.3 million, adjusted EBITDA was $61.8 million and diluted EPS came in at $0.58.

With 3 quarters behind us, I would like to provide an update on our software strategy and how it is positively impacting our financial results. .

Our software mix continued to improve this year as we sell less hardware and professional services. I'm pleased to report that our software strategy drove a double-digit increase in gross profit during the first 3 quarters and we expect 10% growth for the full year on a non-GAAP basis. .

We've been steadily increasing the percentage of our revenue generated from software over the last few years and we believe that gross profit is an important metric this year as we continue to drive higher software mix. .

The execution of our software strategy has benefits for both our customers and Cognyte. For customers, by deploying our software platform, they benefit from faster innovation, easier installation and frequent technology updates.

For Cognyte, shifting to higher software mix is improving our financial model, growth opportunities and competitive differentiation. .

Let me now discuss our overall guidance. Our outlook for FY '22 is $480 million of non-GAAP revenue with a range of plus or minus 2%, reflecting approximately 7.5% year-over-year growth.

This revised outlook reflects certain recent events affecting the timing of deployments, including new travel restrictions in certain countries leading to a worsening of the pandemic, recent charges of third-party components required to deliver [indiscernible] software solutions and other factors. .

We continue to expect profit to grow faster than revenue.

And in addition to double-digit gross profit growth, we expect adjusted EBITDA to grow 15% year-over-year, normalized for the spin-off dissynergies, primarily related to establishing a public company infrastructure with stand-alone IT, finance, legal and other public company and compliance functions. .

We also expect our non-GAAP diluted EPS to come in at $0.80, at the midpoint of the revenue range. Since the spin-off, we have built our public company functions to operate independently, including expanding our finance, legal and IT fees. Along those lines, I'm pleased to welcome Dean as our Investor Relations executive. .

We are on track to deliver solid results during our first year as a stand-alone public company and expect to finish the year with 10% gross profit growth. Our open platform is being [ impressed ] by customers as it addresses a wide range of security use cases and allows for fast innovation to keep pace with evolving security challenges.

Cognyte is a leader in a large and growing market, and we are well-positioned for sustained long-term growth. .

With that, I would like to hand the call over to the operator to open the lines for questions.

Operator?.

[Operator Instructions] And our first question is from Mike Cikos from Needham & Company. .

I did want to circle up on the revenue guidance today. I understand that we are seeing this $10 million reduction at the midpoint based on the worsening travel restrictions around the pandemic and the third-party component shortages you guys are talking about.

Can you help us think about how much of that $10 million is from pandemic versus the component shortages? Is it a 50-50 split? Or is it 60-40? How should we think about that?.

Mike, thanks for the question. So I'll try to give more color about the guidance. So there are a number of factors that we take into account when we developed our guidance.

This quarter, there are several recent developments we had to consider, including, as you mentioned, more COVID-related travel restrictions in certain countries that are related to the emergence of the Omicron and the persistence of the Delta variant.

Just as a reminder, we are a global software company and for most countries, we can deploy without travel. However, there are certain customers that require travel and some of those are being impacted by COVID right now. .

Another factor, as you mentioned, is the recent shortage of third-party components that is required to deliver certain of our software solutions. Also here, I want to remind you that the majority of our revenue comes from software. However, there are certain solutions that require proprietary hardware to enable us to deliver our software. .

In the first year as a public company, although we lowered our revenue outlook, we expect to overachieve our gross margin goal and meet our initial outlook for growing the gross profit and EBITDA. And the gross profit is expected to grow by 10% and normalized EBITDA by 15% year-over-year. .

I would also like to point out that while we reduced revenue because of our move towards high-margin software, there is a very little impact on EPS. As of the quantification, we factored in many different factors into the guidance. We have uncertainties and upside, and it's quite difficult to quantify each of the individual elements by itself.

But you can assume that if we took down the guidance by $10 million, so there is an impact of a few millions of each. But generally speaking, it's very difficult to color each one of the elements by itself. I hope this answers, Mike. .

Yes, it helps. It does help. And for the travel restrictions around the pandemic, I just want to make sure I'm being clear on this. It sounds like it's primarily government mandates, right? It's not like -- or maybe you can actually provide some color on this.

Is it customers not letting you on site to perform the installation out of caution on their port? Or is this almost entirely related to government mandates?.

Yes. So you're right, it's mainly related to governments. For governments, sometimes we are not allowed to work remotely because of certain regulations they have. So either we use our global presence, we have many employees around the world and many offices around the world, as you know. So when we have local forces, it is here. .

But when it comes to other customers that either do not let us get in the site because of their own restrictions or we cannot fly because of our restrictions. And this creates a little bit of delay in deployment time line. .

Okay. Okay.

And then the final thing that I wanted to touch on before I turn it over, for the component shortages that we're seeing, I'm curious, how long has this -- has this been an issue for you guys? And can you explain which components you're experiencing those shortages in?.

Yes. So in some use cases, we deliver our software embedded in network appliances that are acquired from third-party. And there is a global shortage of certain of their components. The appliances are a small part of the value of the deal. However, we can't recognize the revenue from our software until these appliances are becoming available.

This is a recent development. We didn't see it before. We were able to have everything we need so far. And currently, we see some delays and shortages in this respect. And we are working with our vendors in order to make sure that we have more inventory for future needs. .

And that was going to be my last question for you on the topic. So if we are facing these shortages now, I understand that you're working with your vendors.

But can you help us understand, have lead times gotten worse recently? Or are they getting better since you were working with investors -- with investors, sorry, with your vendors?.

And then the follow-up would be, do you anticipate this being a 1-quarter phenomenon? Or is this potential to extend for a couple of quarters at this time?.

Yes. So as it -- the recent development, we are working with them starting recently to make sure that it doesn't affect our business for the longer term. It's hard to tell whether it's weeks or months. But generally speaking, it's a recent development. .

Having said that, again, I want to remind you that the portion of the appliance within our overall business is not huge. So this is something that I believe we'll be able to overcome over time. And we are taking the necessary steps in the short term.

Again, working with vendors and trying to help them with our purchasing departments to find the missing components. .

Our next question is from Kirk [indiscernible] from Evercore. .

This is Peter Levine in for Kirk. So to piggyback off the last question, considering the nature of the data that you deal with, when you talked about travel restrictions, I get the implementation, kind of you see a slowdown.

But are you also seeing a slowdown perhaps in new pipeline build because your reps can't go on site? Can you maybe kind of just decipher what that looks like in terms of reps getting on site versus implementation delays?.

Yes. So obviously, as we all see, security -- security challenges are only growing, we do see that. And we see strong demand for our solutions. The issue is more related to timing of deployment. Of course, flight restrictions also make it harder for us to approach customers or for marketing activities.

But for those areas, we are now running, I think, about 2 years already, doing those efforts remotely and quite successfully so far. So it's mainly related now to the deployment timing. I hope this answers your question, Kirk. .

Fair enough. And then for -- I know you haven't guided for fiscal '23 yet, I'm sure we'll get that next quarter.

But can you give us maybe just a brief insight into kind of what you're thinking based on what you see today and how that's going to impact pipelines, deal flow for next year?.

So as you mentioned -- it's David, Peter. As you mentioned, we will share our guidance for next year during our Q4 call. As you remember that in the beginning of the year, and I think back in January, we showed you that 3 years' plan calls for double-digit revenue growth.

At this point, we expect to be this year, under a 10% revenue growth, but with the 10% gross profit growth. And we'll share the guidance in Q4 call. .

Our next question is from Brian Ruttenbur from Imperial Capital. .

Yes. So looking at fiscal '23, it sounds like it's more pandemic-related.

Is there anything regional that you're selling into? Is it Africa? Is it all travel? Is it the U.S.? Can you talk about where it is regionally is your issue? Or is it everywhere? And -- because it seems like it's more of a pandemic rather than a -- travel pandemic rather than shortages of equipment.

Is that correct?.

Yes. So again, it's -- when we built the guidance, it's quite difficult to separate the different elements. But generally speaking, about the pandemic, again, we do have a global presence. We have offices around the globe. We have the global engineers and sales force in certain -- in all territories, actually, most of the territories.

So it's not a wide issue for us. It's more temporary and changing because the dynamic is changing. It's also changing from one time to the other to different countries so it's country-related. It's not full territory-related. And it's also related to where we are, we are present physically with our people or we have to work by traveling to the site.

So it's something that, I would say, is country-specific and changing from time to time according to the pandemic changes. .

Okay. And then just as a follow-up, as I'm looking at '23 and '24 as we have to, you're growing 7% or 8% this year.

Is that reasonable to continue even in this current state of COVID and everything else to see that kind of growth in '23? Or should we be seeing higher or lower? I know that I'm asking for guidance, but I just want some general directional guidance. .

Yes. So it's David again. I will -- I will repeat myself when I say about that but we will share our FY '23 guidance during our Q4 call. But again, in January, when we layed out the year, the 3 years plan, we called for double digit.

And currently, as we mentioned, like we are at 7.5% revenue growth with a strong gross profit growth, and we will provide guidance in Q4 this year. .

Our next question is from Brad Reback from Stifel. .

Great. Maybe just one more on fiscal '23. As you look at the first quarter, April, it's up against a pretty difficult comp, I think the hardest of the year.

How should we just sort of think about that? Were there onetime items that positively impacted 1Q of this current fiscal year, which might lead to a situation where growth could be below trend line for 1Q?.

Thank you, Brad. As last I mentioned before, like when we looked at all the aspects, like the impact, the way that we look at our guidance and I mean the thing that gains, the shortage in components is relevant for certain elements in the business, which may have the impact of a few millions.

And on the other side of the story, we have like our ability to deliver and deploy our software also remotely, and we were able to do it in the last 2 years actually. COVID has been with us for a long time very successfully. And I really believe that we'll be able to continue to do the same as well.

For the layout of next year, it's too early for us to put together, but as part of the Q4, we will share some color on how we see the year over how we're going to see the year evolving over time. .

That's great. And then just one quick follow-up.

As you think about M&A, what's the potential for you guys to execute any of that in '23?.

Yes. So as of M&A, first of all, our plans and this -- by the way, historical results were mainly relying on organic growth. We have 1,000 R&D people. We are innovating. We are not relying on M&A in order to execute our plans.

Having said that, we have the history of tuck-in M&As in order for us to be able to create more value to our customers and accelerate the offerings. This is one area. And the other area is the more strategic M&A. We look at it as well in a case-by-case basis. When we find something relevant, of course, we'll consider it and take decisions. .

So to make the long story short and to summarize, tuck-in M&As, we always have pipeline for those. And when we find it relevant, we do it. For more strategic M&A, this is something that we look in the longer term, not for the shorter term. .

We have a question from Mike Cikos from Needham & Company. .

I did have just a couple of more questions.

But first, coming back to those component shortages, are any of these components sole-sourced?.

I will take it, Mike. So actually, it's not sole-sourced, but we do have like, I would say, like very common components that we are looking and this is the reason that we are like -- when we look at the challenge, we think that it's something that we can walk on it.

It could be like a difficult vector or something like that and you see 2 things that's happening. The timing -- the time may change, like in the past could be like a few months or 2 months or few weeks versus now that it's becoming like few months or the price is going up. .

So overall, again, because our software in the end is working on hardware, but in the second [indiscernible] it's only specifications that require that. So from the magnitude or from a challenge to provide it, I think that it's something that relatively manageable. .

Yes, just to elaborate on this, Mike, most of our software is running on off-the-shelf software, hardware. Some of it is running on certain appliances. And for those certain appliances, we have a few components that we face shortages. So it's something that is limited. It's not something that is major, reflects major portion of our business.

I hope this helps. .

It does. It does. And if I'm looking at the gross profit guidance for the year of 10% year-to-year, it actually implies the Q4 gross margins decline from Q3.

And I'm wondering, that sequential decline that's embedded in your guidance, is that based on increasing costs for these components? Or why would we be -- can you help us think about why we would be seeing the gross margins decline from Q3 to Q4?.

First Michael, it's David. In general, a slight decline. We're providing a high-level gross profit target. And as we share, like we're looking at the 10% gross profit. And it's mainly depends on the overall mix and the best of that and our estimation where we're going to land.

Obviously, you can see that over the first 9 months of the year, we were like delivering strong gross margin quarter-over-quarter and we are very pleased from where we are from that perspective. .

Great. And then just one other question. I know we're all thinking about fiscal '23 and fiscal '24. Maybe not specific guidance, but given that you guys have nearly 1 year under your belt now as an independent company, and we've referenced those 3-year targets that you guys did put out at the time of the spin.

Is Cognyte willing to reiterate or back the fact that it still expects to attain those targets that were initially laid out at the time of the spin?.

So again, in January, we will lay out the way that we see how everything is going to evolve. Obviously, as part of our annual purchases, we look at everything from scratch and adjust the plan that's required. We will share the detailed plan in Q4.

And [indiscernible], you can see that things have also changed over the year and we have strong gross margin which impacts our ability to continue to successfully invest in the business. So overall, the guidance will take place in Q4. .

And we have a question from Louie DiPalma from William Blair. .

What percentage of revenue during the quarter was recurring? And separately, what percentage of revenue in general overall is through those hardware appliance that you referenced the component shortages to?.

Okay. So Louie, it's David. Thanks for the question. Our overall recurring revenue is around 50% of the total revenue. And if you look at the overall, overall revenue, that element that may be delivered on appliances is 20% of the total revenue. But if you want to look at the shortage of the revenue, it's a much smaller portion.

We are not splitting the revenue per product. So it's not something that we can quantify this. .

But I do want to put kind of like a limitation on where we are with the shortage. So the majority of the revenue is software and the deployment costs. And this is like something that's relevant for most of our solutions. In certain cases, we are -- have software that is deployed on certain appliances.

And within this group of product, we have like certain things that are -- we see the shortage. It's not all over, it's very specific products. And on that, we are monitoring it and increasing the inventory level to ensure that we will not have to deal with the high level of shortage.

But again, in the big picture, you can see level of inventory that we are working on is relatively low. The level of COGS within our solution is very small. And the cases that we are using appliances, which we are facing shortage is also very limited. .

Great. And related to the recurring revenue, I believe it has been a goal for the company to increase the percentage of recurring revenue. But I think over the past 9 months, the level has flatlined at that 50%.

Is that true? Or has there been any increase over the first 9 months of the year in the recurring revenue percentage?.

So back in January, when we shared our outlook for the upcoming years, we shared that we believe that the 50% of recurring revenue represents correctly where we are and the way we're offering. We shared some plans to add more over time as subscription revenue which will have a positive impact.

But this is not something that will impact on the short term. It's more a long-term issue. .

Okay.

And my last question, for the $10 million in guidance reduction, do you have specific visibility in terms of when you will recognize those deals that have been pushed back? Or is it your expectation that, that $10 million is gone forever and those deals were canceled?.

Yes. So I'll take this one. No, it's not canceled. It's only a matter of deployment timing. One is related again to the pandemic. So it's hard to say -- to tell when exactly we can land in specific countries that we have to deploy. But the deals are there and the customer needs the solutions. We provide a lot of value to our customers.

So -- and security challenges are only becoming more complex. So the need is there. It's not that the need is -- has disappeared. And for that reason, it's only a matter of timing. .

In terms of how the shortage, as David mentioned, this is something that is specific to certain areas within the appliances that we need in order to deploy our software and deliver it. And this is something that we believe -- I can't say it's a few weeks or a couple of months, but this is something that we believe we'll be able to overcome. .

What we do proactively is, again, trying to approach our vendors in order for them to help us to increase the inventory. This is one. And second, by the way, we use our purchasing people to help them put our hands on the missing part. So we do whatever needs to be done in order to resolve this matter. But again, customers are waiting.

They need the solutions. And this is something that we'll deploy. as soon as the ecosystem and the condition will allow us. We hope -- I hope this gives you the answer. .

Okay.

So did you say that you don't have visibility in terms of when you will receive the proper components to deliver these -- that $10 million in revenue?.

So again, it's David. We have like -- we are monitoring the relevant components that we are missing, I would say, like on almost a daily basis, just to see like the time line of certain things that we'll get next few weeks. And -- but overall, we need to increase our level of inventory because this is what the right thing to do. .

As Elad mentioned, it's hard to predict now that it's a 2-week issue or a 4-week issue, but we believe that it's a very short-term one. So I don't think that it's going to stay with us for a long period. We do think that it's something's that currently under control and there was specific impact on specific solutions that we are selling. .

And by the way, not the entire -- sorry, by the way, and just to make sure we are on the same page, it's not that the entire $10 million are related to the shortage, right? It's also related to flight restrictions, et cetera. So just to make sure that we understand the facts. .

But ultimately, you said that it's all timing-related, right? Like there haven't been any cancellations?.

Correct. No cancellations. .

And we have no further questions at this time. .

Thank you all. .

And thank you, ladies and gentlemen. This concludes today's call. Thank you for participating, and you may now disconnect..