Good day and thank you for standing by. Welcome to the Cerence Q1 2023 Earnings Call. At this time all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. [Operator instructions] Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Rich Yerganian, Senior Vice President of Investor Relations. Please go ahead.

Thank you, Chris. Welcome to Cerence's first quarter fiscal year 2023 conference call. Before we begin, I would like to remind you that this call may involve certain forward-looking statements. Cerence makes no representations to update those statements after today. These statements are subject to risks and uncertainties as described in our SEC filings including the Form 8-K with the press release preceding today's call, our Form 10-Q we filed today, and then our Form 10-K we filed on November 29, 2022. In addition, the company may refer to certain non-GAAP measures, key performance indicators and pro forma financial information during this call. Please refer to today's press release for further details of the definitions, limitations, and uses of those measures and reconciliations of non-GAAP measures to the closest GAAP equivalent. The press release is available in the IR section of our website. Joining me on today's call is Stefan Ortmanns, CEO of Cerence; and Tom Beaudoin, CFO of Cerence. As a reminder, the only authorized spokespeople for the company are Stefan, Tom and myself. Before handing the call over to Stefan, I would like to announce that we will be presenting at the Virtual Baird's 2023 Vehicle Technology & Mobility Conference on February 15 and in early March at the Morgan Stanley Technology Conference. Now onto the call. Stefan?

Thank you, Rich. Welcome everyone and thank you for joining us to discuss our first quarter earnings. I'm pleased to report we had a strong start to the fiscal year driven by our core auto business. Each of the key financial metrics provided in our guidance came in above the high end of the range. Tom will share the details with you shortly. At our Investor day November, we laid out our strategy for long-term sustainable growth for Cerence, what we are calling Destination Next. We described the evolution of our technology and the role it plays in the car of the future, an immersive companion that goes beyond conversational AI, extending to all aspects of the user experience inside the cabin for both driver and passengers and even outside the car. We also provided our long-term target models, which reflect not only the increasing level of adoption of current – of our current technology with programs already awarded, but also the future adoption of a greater suite of technology that Cerence will bring to the market. This was an important event that allows us to share with all of you the excitement we have for the future of Cerence. In the near-term, the first quarter showed continued success across customers and product innovation. Working with our customers, we delivered 47 SOPs start of production in the quarter, including 18 initial program launches. We signed two competitive win-back contracts in the outer space: one in Europe, one in China. These are significant because both represent takeaways from consumer tech and validate our continued competitive edge. Our experience in large language models combined with our deep mobility experience and generative AI expertise is vital to drive innovation and expand our position as a category leader. In addition to various competitive design…

Thank you, Stefan. I'll come back to guidance in a moment. But first I want to share more on our Q1 results. One of our goals has been to develop a track record of doing what we say. With our strong Q1 results, we are providing another positive data point in accomplishing this goal. We are committed to continuing to build upon this trend to establish a proven track record of predictable performance. Q1 revenue came in at $83.7 million, well above the high end of our guidance. This is due to a combination of better than expected strength in our core business with higher than anticipated contributions from connected services, professional services and fixed contracts. Consumption of existing fixed contracts in the quarter was lower than originally expected due to a longer, projected consumption time for the Q1 prepaid deal than our model. The higher amount of fixed contracts in the quarter remain within the framework of 40 million fixed contracts for the full year. Because of the higher revenue, we exceeded all of our key profitability metrics we guided for the quarter. Non-GAAP gross margin was 70.4%. Non-GAAP operating margin was 20.5%. Adjusted EBITDA was $19.7 million or 23.5% margin. And non-GAAP earnings per share was $0.36. All these metrics came in above the high end of our guidance. During the quarter, cash flow from operations was approximately negative $2.1 million. While CFFO was negative in the quarter, we expect positive CFFO for the full fiscal year. Our balance sheet remains strong with total cash and marketable securities of approximately $120 million. Here is our breakdown of revenue of the quarter. Variable license revenue was up 22% from the same quarter last year and 38% quarter-over-quarter. The increases were due to reduced consumption of fixed licenses, slowly improving…

[Operator Instructions] Our first question comes from Luke Junk with Baird. Your line is now open.

Hi, good morning. Thanks for taking the question. Want to start with a mechanical question this morning and Tom, can you just help us understand the lower-than-expected consumption of fixed contracts this quarter? I know you mentioned it had something to do with prepay is that timing related, mix related? And is it right to think that this doesn’t flow through to full-year guidance or not? Thank you.

So, as we’ve talked about previously, we typically a prepaid gets consumed on average over six quarters. The particular prepaid that we did in Q1, the projected consumption on that particular deal is estimated at about eight quarters. So from our modeling and from the way we had set our plans and guidance that that has a positive effect in the short-term.

Understood. Thank you. And then follow-up. I just want to ask a bigger picture question, Stefan. So wondering if there’s any additional color you can provide on the Co-Pilot win-backs in particular, maybe if we could discuss key system capabilities you think that help to drive those win-backs versus the competing consumer tech. And I don’t know if you could comment also on your previous positioning with these customers, if that would make sense? Thank you.

Thanks for your question, Luke, here and good morning. Yes, so our Cerence Assistant 2.0, so-called Co-Pilot Ride is actually well received here at the OEM sites. We had various design wins last quarter in Q1. One was against a big tech giant and another one was also again in China also was also tech giant, yes. And then we had also some very competitive design wins against the big tech players here. Yes. And what we see here and the feedback from the market is actually outstanding, right, in all my discussions with OEMs, right, is say, okay, wow, there’s really a cool solution, right? It’s extremely fast in the response time behavior. It has a broad coverage, but it goes also into a deep learning. And what we said also generative AI search capabilities here, right? Combined with proactive AI, for example, leveraging sensor data and also leveraging the information around the surrounding of a car, for example, road information and also this kind of weather forecasting here, right? And that was actually well received. Yes. We have a great prototyping solution here and OEMs want to work tight with us together, right? Also seeing Co-Pilot as a foundation, but in most of the cases, they want to have also a kind of their own branding and experience.

Got it. Thank you for the color. I’ll go ahead and leave it there for now.

[Operator Instructions] Our next question comes from Colin Langan with Wells Fargo. Your line is now open.

Oh, great. Thanks for taking my questions. Just first question, guidance is just to confirm, is it based on IHS, and IHS has actually come down for September year end? So is that incorporated and what is offsetting sort of that weakness and production?

Yes, so maybe let me start first, and then I will ask also, Tom, for putting his color to it. Right. So in general, right so, IHS been down roughly 3% from 6% year-over-year. Now it’s in the range of 2.5% to 3%. And that goes actually hand in hand with our projection from the beginning of our fiscal year.

Yes, we had baked in when we had done our original planning. We had taken a relatively conservative approach. Interestingly enough, IHS has come down more to the numbers that we were projecting. We don’t use solely IHS in our forecasting, because we get reporting from all of our customers every quarter on their royalties. So, we use a combination of overall market trends and that what we are seeing from our individual customer royalty reports. And that’s how we base our guidance.

Got it. Okay. That makes sense. And if I look at Slide 9, you look at like new connected services. Yes, I think you highlighted something like a 19% increase in monthly users, but that line hasn’t really moved very much. It’s not really showing growth. So what is sort of keeping the growth back in that new connected segment, and when should that start to inflect back upward?

It’s a combination. I mean, as we’ve talked about previously, there are some older platforms that are not up for renewal that are kind of winding down. We’ve also lost kind of two years of revenue, because cars were much low – we took down $20 million a year of production. And that represents connected opportunities that we would’ve had in the amortization of those revenues coming in the current periods. As we talked about at Investor Day there’s a number of wins that will start to go into production at the second half of this year and into FY 2024. A lot of those wins include some of our connected services, which will start to help us to drive growth and get us more towards the growth projections that we had in 2024, 2025 and going forward. The usage I think is important. It doesn’t directly correlate to revenue because it’s the revenue of the connected services that are shipping on the cars, but it – but what it does do is to show that our technology is being used more, is being accepted that, that some of our new enhancements are being recognized by the drivers and the passengers.

Maybe let me also add a bit color to it here. Right? So, I think what I just mentioned at the beginning, right? Co-Pilot, Cerence Link, Cerence Ride? They have all the connected component, right? And they will go live over the next 12 months to 18 months with the specific OEMs. We see also really an uptick here in active subscribers, right? So one OEM reports also a big jump in the adoption of our so-called connected services offering. We are working also with leading premium OEM on so-called additional expansion of the current cloud with new cloud domains, with new proactive AI for older capabilities, right? So that we can bring those services, cloud services to SOP cars being on their own. So we have plenty of opportunities. And as Tom mentioned correctly, right, I think we are still in the transitional year. We are suffering still a bit from the outer production over the last two to three years. But we are seeing more and more opportunities for connected services.

Got it. All right. Thanks for taking my question.

[Operator Instructions] Our next question comes from Rajvindra Gill with Needham. Your line is now open.

Yes, thank you, and congrats on good results and a good transition with this turnaround story. Question on the visibility if I can, I know at the Analyst Day you talked about kind of 95% visibility into fiscal year 2023, and then you talked about, I believe, 75% visibility into fiscal year 2024. If I look at the slides, on Slide 12, you’re kind of increasing your visibility for this year by about a couple points to 97% for the full fiscal year. I’m wondering how you’re thinking about the visibility into the growth year, fiscal year 2024. Has that changed given some of the design wins you’re talking about given some of the more stabilization in the fixed contracts, and is that also applied to some of the longer term targets and fiscal year 2025, 2026?

So Raj, thank you for that. Thank you. We are happy about Q1 and continuing this story. Yes, I mean, clearly we have stronger visibility to FY 2023. As we report bookings semi-annually, so we'll be updating our bookings in Q2 and clearly we had we had good bookings in Q1 that will help with that visibility for FY 2024. But so I hope to have more to say around more specifics around how we're tracking to that FY 2024 growth initiatives that we laid out in Investor Day. But everything that we accomplished in Q1 helps us towards that journey in delivering those results.

Great. And if you could maybe update us on the field of use agreement I believe it's ending in two years. If you could just clarify that and once that field of use agreement is over, what other markets can you start to license your IP?

So also I think that also a key focus area. Actually, we have three vectors here, right? One is the execution on our core roadmap; what we just explained with automotive, adjacency transportation segments, right, the other important aspect is driving innovation. And the third one is also paving the way for post-FOU opportunities. And we have hired a very strong business development team also with separate with the R&D team underneath, right? And they're working already on some opportunities for this fiscal year. And we hope that we can also report first revenue driven by this team by the second half and the second half of this fiscal year. And we are evaluating also other opportunities for let's say October 2024. So I think that's one of our key focus areas also, and also part of our destination next strategy.

Yes. Just to make sure everybody understands, as we laid out in an Investor Day we have the transportation adjacency markets that are starting to take traction that, that Stefan talked about today. And then we have what we call the non-transportation, and as Stefan said we've already seeded a team and just for clarity, there are a couple of technology areas that are not subject to the FOU. And so we're able to seed that group and they're able to drive some solutions and even some revenue prior to the FOU. The opportunity expands and that's why we're trying to get this group seeded and working well so that when the FOU expires in now less than two years, we have a well-developed team and capabilities to then look at expansion of all of that post the expiration.

And the other important aspect is also at the Analyst Day we presented three pillars here, right, scalability AI, then the multi-standard experience platform plus tools, and then the companion – immersive companion solution, right? Scalable AI is also key to success and we can easily apply those technology to other markets beyond transportation, more or less at no cost.

Appreciate it. Thank you.

[Operator Instruction] Our next question comes from Jeff Van Rhee with Craig-Hallum. Your line is now open.

Great. Thanks. Thanks for taking my questions, guys, and thank you for the increased transparency. I appreciate all the incremental data points over time we're getting here. It's very helpful. A couple – several questions if I could jump through these fairly quickly. I think Tom, you referenced bookings. Just to be clear, did bookings meet the plan for the quarter and net-net I know you don't publish an outlook in terms of what you're thinking internally for the year, but has the annual outlook on bookings changed say versus 90 days ago? And then along the same lines just to just want to make sure I'm clear, the consumption number I think you talked about at the Investor Day was roughly $75 million of consumption expected in 2023. Is that still the number?

So just on bookings, I mean, we'll update bookings in Q2. And the reason we do it semi-annual is it can be a bit lumpy. We did have some nice wins in Q1, I think Stefan alluded to that. And then on consumption, consumption will be a little bit lower because of this one particular prepaid where we had modeled spend six quarters and it's probably going to be eight quarters, but that can vary too Jeff, because it's all based on actual shipments from that particular Tier 1. So it could be – it could be even sooner.

Okay. That's helpful. And then Stefan as it relates to generative AI and in particular the GPT, large language model is looking very disruptive. I know Bardon [ph] and some others are coming, but the GPT and some of the things it's been able to demonstrate seem to take a pretty significant leap forward in terms of what these large language models can do. Giving you play in those worlds, but within a specific vertical, do you see that as competition, co-opetition, how do you view that? And then as you were just referencing a minute ago, you've got the expiration of the FOU. Does that suggest the future FOU opportunities also end up being a bit more competitive given what these guys are demonstrating? Just love to hear your thoughts there?

I think I don't see them as a direct competitor, right? So we have already created a prototype with ChatGPT, but also enhanced with our deep knowledge about the car knowledge, right? About mobility AI experience here. You know that we have also for example applications such as PROSS [ph] what we've just also announced the Cerence car knowledge which went live is a North American market OEM right? And you're bringing those information all together, we have the general knowledge, yes, but also the automotive transportation specific knowledge, right? And this is actually our goal, and we're already in discussion with some of the OEMs, what we can do together here.

Okay. Fair enough. I'll leave it there. Thank you.

[Operator Instruction] Our next question comes from David Kelley with Jefferies. Your line is now open.

Hi team, this is Gavin Kennedy on for David Kelley. Thanks for taking my questions. Can you provide us with more details on your progress and transportation adjacencies? It looks Cerence Ride specifically won three more design awards with two wheelers, and your two wheeler customers are now up to seven. So how should we think about this in the context of your prior transportation adjacencies sales target of 1 million in fiscal year 2023, and I believe 6 million in fiscal year 2024?

I mean, that the two wheeler market is a very important market to us here, right? Compare it with automotive they're producing roughly 50 million to 60 million two wheelers on a yearly basis, yes. I'm really proud about this big design wins for one of the big brands in Japan where we won an evaluation done in North America against the big tech players and some niche players, right? And the feedback was amazing with respect to our Audio AI stuff, our solutions, right? We won in terms of technology and also with respect to application. So we are doing exactly what a rider is looking for. That’s one important aspect. So two-wheelers on the other hand, you mentioned also last quarter, where that we had also some significant design wins in the truck space. Also we can easily adapt our Cerence Co-Pilot to the needs of trucks here. So overall we are doing pretty well. And the other important launch, which I mentioned today was also related to Cerence Link, where we are also connecting now non-connected cars via smartphones via OBD to solutions to give a better driver experience, right? We can also monitor the behavior of the driver geolocation and so on so forth. So, I think we are doing quite a lot also going beyond the typical natural language processing here, right. And combining all pieces together, right. I think that’s actually, what we want to do, right, driving this immersive experience for the transportation markets.

Yes. And just in these markets as Stefan alluded to there is a – so most of these are connected elements to the, and therefore, the revenue growth will build over time as you have to take that portion of the revenue and amortize it over the service life of the particular solution.

Got it. That makes sense. And then as a follow-up, just switching gears, I believe at the Investor Day, you mentioned a cost management strategy to improve Cerence, and I believe these Cerence – these savings, excuse me, were included in your playing discussions. Can you provide any more details here on the cost actions you’ve been taking? Or, and is there any low hanging fruit that you’ve addressed in the near-term? Thank you.

So, I think you’re absolutely right. Yes. And we’re working here with a well known consulting company together. So, and also that we have our refocus on innovation R&D and customer deliveries. Therefore, we have noticed two organization, CTO office, and CPO product office [ph] run by new trends from Mercedes, he joined us a couple of months ago. And we’re trying to optimize here the organization for driving more efficiency, productivity. And we are also on a good track. And yes, you’re right. That’s part of our plan for this fiscal year. Tom?

A lot of our cost initiatives were designed to drive efficiency, and then as Stefan just talked about, to drive alignment as we implemented the new leadership team across the company, we’ve done very well on that, and that program is well in place and being implemented, but I do want to say we’re also investing, right? It’s important that we continue with our innovation strategy. And so we’ve baked all of that into our guidance going forward, the cost savings that we’ve achieved through the efficiency and productivity initiatives combined with some continuing investment to, and all of our investments are really in the R&D and technology areas to support our innovation agenda.

Okay. Thanks for taking my questions.

[Operator Instructions] Our next question comes from Chris McNally with Evercore. Your line is now open.

Thanks so much team. Stefan and Thomas, if I could ask, one of the things that you’ve provided, which is really helpful, is the pro forma royalty to sort of, to sift through on the licensing sort of the underlying trend. And this quarter you showed 5% year-over-year growth. But we’ve roughly seen sort of a flat lining in this number when we look at, on a two-year basis. And so one of other questions that I think investors are trying to look forward is, when will that underlying metrics sort of move up, so that we incorporate some of the large orders that we’ve seen that you’ve talked about some of the launches in connected, but I think seeing that essentially what is paid usage of your licensing move forward will given sort of some confidence of the, higher secular growth versus sort of the low single-digit outgrowth that you’re doing today.

So, Chris as we talk about in the Investor Day, there’s a number of programs that are coming to SOP. We’ve got shipping cars that have deeper sets of our solution, which drives a higher price per unit also gets some additional volumes from those deals. So, I think, you’ll start to see that line hopefully start to tick up over the next few quarters going into where we show some strong growth in FY 2024.

That’s great. And just maybe as a follow-up, not for this call, but I think maybe, a metric that would be helpful on going forward with sort of a, percentage of units, refreshed or, a launch percentage in 2024 or 2025 versus 2023 or 2022, something that we could start to kind of make our own estimates for. And again, there’s a lot of moving variables, but order of magnitude, does that start to become, 5% to 10% above production growth? Does it become 10% plus above production growth? There’s something in that order of magnitude to give us sort of the end goal of 2024 and 2025, because there’s, we see the orders, but I think we’re trying to connect the pieces, just to get into 2024, 2025 would be super helpful.

Thanks.

Thanks team.

Thanks, Chris.

[Operator Instructions] Our next question comes from Mark Delaney with Goldman Sachs. Your line is now open.

Yes, good morning and thank you for taking the questions. First, when you think about some of the new wins and some of the take backs, that you referred to, are those consistent with the trend higher and pricing over time that was something that was articulated at the Analyst Day?

So yes, I think overall we have various new win-back opportunities right across the globe, not just in Europe, but also North America primarily and also in China some great opportunities, I think overall in a very competitive environment. But what I said at the beginning, I think we are better than even before in terms of competition, right? With our new products, right? With all the flexibility we are offering to OEMs and we bring also more and more features on the embedded side, but also on the cloud side, right? And that was actually what we also mentioned at the Analyst Day that we see a nice increase in the PPU that’s already to embedded. And I think we will also show something over the next couple of quarters on the connected side where we see also a nice upside. But overall I think we are doing pretty well here.

Okay. That’s helpful. Thanks. And then the second was on the connected business. I believe in the past the company has talked about some component of revenue that’s tied to usage of the products and whether or not, when your technology is on vehicles, are drivers actually engaging with it and using it? Maybe talk a little bit more on what you’re seeing in terms of underlying usage rates broadly and was there any impact from usage rates on revenue in the quarter? Thanks.

Today most of our contracts are on the connected side. Not tied to usage. We do have a small amount and we actually saw a slight benefit this quarter from one of those contracts. And then I think going forward as more and more of the OEMs move to over the year updates, that will also help us to implement more of our solutions on cars that are on the road may also help us with additional opportunities to have more usage or activation type revenue. So that was, it was small, but it was a positive thing this quarter on one of our deals.

Thank you.

At this time, I am showing no further questions. I would now like to turn the conference back to Rich for closing remarks.

Thank you for everyone, to everyone for joining us on our conference call this morning. And we look forward to engaging with you in the future. Have a great day.

This concludes today’s conference call. Thank you for participating. You may now disconnect.