Ladies and gentlemen, thank you for standing by. And welcome to the to the CS Disco Second Quarter of Fiscal Year 2023 Conference Call. At this time all participants are in listen-only mode. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions]. I would like to now hand the conference over to your first speaker today, Head of Investor Relations, Aleksey Lakchakov. Please go ahead.

Good afternoon, and thank you for joining us on today's conference call to discuss the financial results for Disco’s second quarter of 2023. With me on today's call are Kiwi Camara, Disco's Founder and Chief Executive Officer and Michael Lafair, Disco's Chief Financial Officer. Today's call will include forward looking statements within the meaning of the Safe Harbor provisions of the private securities litigation Reform Act of 1995. Including but not limited to statements regarding our financial outlook and future performance, our use of capital expenditures, market opportunity, market position, product strategy, and growth opportunities and developments in the legal technology industry. In addition to our prepared remarks, our earnings press release, SEC filings, and a replay of today's call can be found on our Investor Relations website at ir.csDisco.com. Forward-looking statements involve known and unknown risks and uncertainties that may cause our actual results, performance, or achievements to be materially different from those expressed or implied by the forward-looking statements. Forward-looking statements represent our management's beliefs and assumptions only as of the date made. Information on factors that could affect the company's financial results is included in its filings with the SEC from time-to-time, including the section titled Risk Factors in the company's quarterly report on Form 10-Q for the quarter ended March 31st, 2023, filed with the SEC on May 10th, 2023 and the company's upcoming Form 10-Q for the year ended June 30th, 2023. In addition, during today's call, we will discuss non-GAAP financial measures. These non-GAAP financial measures are in addition to and not a substitute for or superior to measures of financial performance prepared in accordance with GAAP. A reconciliation between GAAP and non-GAAP financial measures and a discussion of the limitations of using non-GAAP measures versus their closest GAAP equivalents is available in our earnings release. And with that, I'd like to turn the call over to Kiwi.

Thanks, Aleksey. Good afternoon, everyone, and welcome to our earnings call for the second quarter of fiscal year 2023. Revenue for Q2, 2023 was $34.3 million. Adjusted EBITDA was negative $7.4 million. And we ended the quarter with 1431 customers up 14% year-over-year. Both revenue and adjusted EBITDA were above the high end of our guidance range. With adjusted EBITDA improving by over $5 million year-over-year. And adjusted EBITDA margin improving by more than 1700 basis points quarter-over-quarter. We are pleased with our results and our progress toward profitability. On prior earnings calls, we discussed the various sales and marketing performance drivers that are improving. We discussed seeing continued customer account growth and improvement in pipeline metrics, such as needing near term opportunities. And when that improvement continued Q2 compared to Q2 of last year, total meetings were up 30%. And near term opportunities were up 20% while at the same time, we have continued to enjoy the highest win rates that we have experienced since our IPO. Inbound leads have more than doubled year-over-year, in part as a result of our recent investments in marketing. While we have continued to see some reductions in usage due to cost optimization, especially from our largest customers, our accelerating sales activity is allowing us to offset these reductions by bringing new customers and matters onto our platform. These positive times tell us that our efforts to increase usage and accelerate product adoption are working. Last year and early this year, we promoted several classes of sales development representatives or SDRs to quota-carrying account executive roles on our inside sales team. These internally promoted reps have seen strong early success, with all reps producing revenue within their first 90 days enroll, and some reps already producing more than $1 million in annualized revenue.…

Thank you, Kiwi. In Q2, 2023 revenue was 34.3 million. Our year-over-year growth in the quarter is attributable to and rebound in our review usage in Q2 we saw the highest quarterly review revenue since Q1 of 2022. We are seeing improvement in our overall go-to-market activity and we are optimistic about the second half of the year. In discussing the remainder of the income statement, please note that unless otherwise specified all references to our gross margin, operating expenses and net loss are on a non-GAAP basis. Adjusted EBITDA is also a non-GAAP financial measure. Our gross margin in Q2 was 74%. As we mentioned before, our gross margins fluctuate from period-to-period, based on the nature of our customers use it, for example, the amount and type of data ingested and managed on our platform. We expect gross margin to continue to be within the band's we've historically seen sales and marketing expense through Q2 was 16.2 million or 47% of revenue compared to 52% of revenue in Q2 of the prior year. This represents a decrease of 1.3 million in the quarter year-on-year The decrease was primarily driven by a decrease in sales and marketing personnel. Research and development expense for Q2 was 10.5 million for 31% of revenue compared to 39% of revenue in Q2 of the prior year. This represents a decrease of approximately 2.6 million in the quarter year-on-year. This decrease was primarily driven by an increase in capitalized development costs associated with our AI investment efforts and a reduction in research and development personnel. General and administrative expenses in Q2 was 7.3 million, or 21% of revenue, compared to 24% of revenue in Q2 of the prior year. This represents a decrease of over 0.7 million in the quarter year-on-year. This decrease is primarily…

[Operator Instructions] Your first question comes from the line of Tyler Radke with Citi. Your line is now open.

Yeah, thank you for taking the question. Good evening, Michael and Kiwi. Kiwi. I wanted to start off with your comments just on the pipeline. Generation, it sounds like you're seeing an uptick in leads. And I'm wondering if you could just kind of comment on the nature of those. And you know how you're how you're expecting that to progress over the coming quarters, just how you see those sales cycle lengths, and then any thoughts on conversion. And could that potentially lead to more of an accelerating revenue growth profile as we head into 2024?

And we're really pleased by the performance of the pipeline. And I've talked about it on the past few earnings calls, looking at how well our new team members are ramping across each step of the funnel, from SDR and other kinds of lead generation through to our inside sales and field sales teams, closing deals. And then our CSM team working to identify opportunities to expand existing customers. And the numbers we shared today, on a year-over-year basis, that numbers were up 30%. And near-term opportunities were up 20%. And we're continuing to enjoy despite that broader pipeline, the same elevated win rates that we've been enjoying since the time of the IPO. So, those deals are flowing through all the way to the end, I think you can also see this in the continued growth that we've posted in overall customer count, which is now up to 1,431. So, these are some of the things that give us belief that there are green shoots, in terms of growth going forward.

Yeah, thank you. And maybe a follow-up for Michael on the green shoots. So, if I say kind of the implied Q4 guidance with the updated guide on Q3 and the full year guidance. It does imply a pretty strong sequential increase into Q4 both on a quarter-over-quarter and year-over-year basis. Could you just talk about what's giving you the confidence in that Q4, whether it's making some large review cases? Or maybe it's a reflection of some of the pipeline commentary? Kiwi just hit at. Thank you.

Tyler, thanks. That's a good question. It's really related to the pipeline. And also just, we're providing full year guidance in the range of 135 to 145. And also Q3 guidance. We feel really good about where the business is and we feel really optimistic about the second half.

Okay, thank you.

Your next question comes from the line of Jackson Ader with MoffettNathanson. Your line is now open.

Great, good evening, guys. The customer count, I think is growing faster, maybe than we expected. But average revenue per customer, the other side of that coin is a little bit weaker. I'm curious, is this because new customers that are coming on board today versus a few years ago are smaller? Or is it due to some of the larger customers may be putting pricing pressure on you? I'm curious what's driving that?

Yeah, it's two dynamics. And so first, starting with very big customers. That's where we have experienced most of the headwinds around customers seeking to reduce their overall spend. And as a consequence, reduce usage or change the nature of their usage on our platform to try to get that spend down. Now, on the positive side, we've continued to add lots of new customers, but typically at Disco customer starts relatively small, and then grows over time. In the past, we've talked about kind of three to five-year ramps to maturity, for new logos. Sometimes it goes faster, especially when the new logo is somebody who has already adopted Disco at a previous company, but it's still very much a land and expand business.

And I guess just following up on that, the, let's say that the type of customer that you're landing or adding as a net new customer today, do they still have the same type of, three to five-year opportunity as the customers that you were landing, say two, three, five years ago?

Yes, if anything that has actually improved in our business. So, over the last three to five years, we've moved steadily up markets. We gave some examples in the customer stories part of our script. Some customers including one very new customer, who in less than a year got to material size. So, many of our newer logos are large multinationals or large law firms that provide big expansion opportunity. We of course continue to sign up customers all along the spectrum. But if anything, I would say the average wallet potential of a new customer has gone up over five years, not down.

Thank you.

Your next question comes to the line of Derrick Wood with TD Cohen. The line is now open.

Oh, great. Thanks, Michael the unexpected gross margins bounce around a bit. But this was one of the first times we've had that kind of contracting quarter. And I'm just curious, is that does that reflect some of the investments on the generative AI and large language models that are starting, that obviously have some added cost to it? Or are there other factors to call out and I guess, now that you've had a little more time building, Cecilia, any updated views on the potential impact on gross margins once a lot of this goes into production?

So, the margin profile that we've talked about in the past, in terms of the bands that we've historically seen over the last four to eight quarters is where we expect the future to be. The investments that we're making in AI are not having an impact on that band, and we don't expect that they will in the future.

Okay. Kiwi, well I’m curious, your thoughts on vector search versus keyword search? And yeah, as you think about trying to get more contextual answers with natural language queries? Do you -- are you are you thinking about it kind of embracing more vector search capabilities? Or what's your view on that technology?

Yeah, absolutely. We're big believers in vector search technology. And, this is one of those things that has suddenly become in vogue, but it's not at all new, right? This is something that we've worked on for many, many years. That's been around for many, many years. And that is a key component of some of the feature functionality that we're delivering to clients. So, we're big believers in vector search. I will say though, some people think that vector search will replace the historical kinds of search that are perhaps more precise, or at least more transparent to the user about what the search is returning. We think vector search and technologies like it are going to be a supplement to, not a replacement of more traditional ways of searching.

Okay, got it. Thank you.

Your next question comes from a line of Scott Berg with Needham. Your line is now open.

Hi, everyone. Thanks for taking my questions. I guess we got a couple here. Kiwi you talked about some of the cost optimization that your customers still kind of had in the quarter? How should we think about maybe the magnitude or size of those reductions relative to what you've seen over the last maybe two to four quarters in this macro backdrop?

I think they're consistent with what we've seen over the last two to four quarters. So, neither larger, nor smaller. The problem is that it's different customers, right? So, different customers go through this process at different times, depending on their internal budget cycles and prioritization and so on. And so we're still rolling through the customer base, as different customers take a sharper eye on cost.

Got it helpful. And then I know AI is big topic. You guys are certainly making lots of investments with Cecelia. And the demo that I recently saw that was very compelling. But is it popping up yet in your sales cycles and your sales processes? Maybe not Cecelia, specifically, although it could be, but just the use of AI in general within your platform?

Absolutely. This is our core historical strength, right with the AI capabilities that have been built into our platform for many years. Those AI capabilities are a part of virtually every presentation that we do about the platform, because they're a key part of the way that we deliver value to our clients by automating or greatly accelerating and growing range of legal work that newer AI things Cecelia, as well as some other capabilities that we look forward to announcing shortly. We've already begun demonstrating those quite regularly through a range of clients. As we talked about in our prepared remarks. We now have Cecilia live in private access for real clients on actively litigated client matters. And we've got clients, deriving tremendous value. One of the cool things we like to see is when clients use the share capability in our products, you can find a document, share it. And then put a note to your colleagues about what it is you’ve found. And there's a ton of those where people are going in, they're sharing a document, they're saying, I was trying this cool AI thing. And look what Cecilia found. And so this is, I think, only going to grow as a focus area in customer conversations, both with new prospects and existing customers.

Excellent. That's all I have. Thank you for taking my questions.

Your next question comes from the line of Parker Lane with Stifel. Your line is now open.

Hi, good afternoon. Thanks for taking the questions, guys. Kiwi, you referenced the REITs and marketing investments you've made as an accelerant to inbound lead volume, I think that doubled year-over-year, can you take us under the hood of exactly where you're putting those incremental marketing dollars to work? And how much sustainability you see in the inbound lead volume throughout the remainder of the year.

So, it's a mix of things. I'm a big believer that marketing programs are interconnected, in the sense that, for example, when you do brand marketing, it improves the performance of your digital performance marketing, it improves the turnout advance, it improves the win rates and that sort of thing. The biggest new addition is, of course, the launch of our law better campaign. And the Lady Jaye ads that maybe you've seen, if not encourage you to take a look, that's got tremendous reception with our customer base. Anecdotally, when we talk to our reps, they've started to come into meetings where not only has the customer heard of us before, but they've seen the ad, they liked the ad, they talk about the ad. And it can be the beginning of the customer to understand not just our products and offerings, but who we are as a company, that we're a company that cares about the law, that's trying to use technology to make the law work better. And so there can be that kind of alignment in spirit and intent with our customers. Before we dive into a more detailed discussion about the functionality we can provide and the results that we can drive. So, I think the big brand campaign is one contributor. But we've also done a lot of work, optimizing things like performance marketing, digital marketing, social marketing, and our field events, both large and industry conferences, and small local events that we do in different regions, to provide opportunities for Disco audience to connect with our customers, but also for large existing customers to connect with prospects, right, that kind of old-fashioned social selling, I think is, is still very effective today.

Got it, thanks to the color there. And I think we're approaching the 18-month mark of bringing hold and requests to the platform. Curious if you can just talk about cross sell efforts there how much interest you're seeing in both of those tools. And, and the growth algorithm, how much of that is baked in from these tools in the 2023, outlook and beyond?

Yeah, we're really pleased with the reception that those tools have for two reasons. One is just it gives customers more places to get started on our platform, and more ways to expand. But second, it's that with enterprise customers where we sell directly to the General Counsel, as we've talked about in prior earnings calls, that's been a very big growth driver in terms of new logos. And frequently a way those folks will want to get started is holding request. Now, they may not wind-up buying holding requests. First, they might start with eDiscovery or review or something else. Many of them do start withholding requests. But very often, the conversation starts with General Counsel's desire to have a product like holder request that can help them comply with incoming legal demands, conduct preservation in place, and also manage their organization's overall migration to the cloud. And so we've been pleased withholding request, we're actively investing in those products. You'll hear us on earnings calls, talk about a feature enhancements, integrations between those products and the rest of our product suite. And we are overall pleased with the trajectory those products have demonstrated.

Understood, appreciate you answering the questions here. Thank you.

Our next question comes from the line of Mark Schappel with Loop Capital. Your line is now open.

Hi, good evening. Thank you for taking my question. Kiwi is it fair to assume that the eDiscovery product is generating about 80% of revenues in this quarter?

We don't disaggregate revenues by product lines. But I can say that eDiscovery still represents by far the largest share ever.

Great. Thanks. And then I just wanted to just talk a little about the just kind of relative growth rates of some of the other products, Case Builder legal hold that you're seeing and how they're coming along?

Some of the other products enjoy smaller basis and as a consequence, have higher growth rates. In terms of color, so let's focus on Case Builder, which you mentioned, I'm really pleased with the growing adoption of Case Builder, we're seeing tremendous growth in terms of the number of matters on the platform, the number of users using Case Builder. And the number of each of the sort of the things that the platform stores. So, we track number of depositions in Case Builder, number of timelines and chronologies that have been built. Number of events that have been created. And all of those metrics for usage are showing very, very strong growth. In addition, we're going to have some announcements coming shortly around the building some of this new generative AI technology into Case Builder, and other parts of our product suite. And we think those will only accelerate the growth of those products.

Great, thank you.

Your next question comes from the line of David Hynes with Canaccord. Your line is now open?

Hey, good evening, guys. Kiwi what is the feedback then on proposed pricing mechanisms for Cecilia, in your early customer conversations. And I'm wondering, kind of how that's informing your strategy as you think about general availability?

So, we're going to start having the kind of great bulk of those conversations in the coming quarter. In particular, there's a big industry conference coming up called the ILTA, at which some of these conversations will start happening. So I think it's early days to provide feedback on pricing. Our goal is over the course of Q3, and Q4 to settle on what the at least call it first years pricing for the AI platform and AI capabilities we'll wind up being. And we'll provide an update on our annual earnings call about our thoughts on what AI pricing will be. At a high level, we believe the right mix, and I think I talked about this a bit on the last earnings call is some mix of a platform-based AI fee with usage-based billing on top for certain AI capabilities.

Okay, got it. Thank you. And then, Michael, just given the timing of your Q2 restructuring, is it fair to assume that the magnitude of cost savings are not fully reflected in Q2, run rate OpEx?

Yes.

Okay. Got it. Thank you, guys.

Our next question comes from the line of Koji Ikeda with Bank of America. Your line is now open.

Hey, guys, thanks so much for taking the question. So, when listening to the prepared remarks, it sure sounds like you had some review cases that came in better than expected and in Q2. So, just kind of taking a step back. And when you originally guided to Q2 on the last earnings call, was there any review incorporated in that guide? Just trying to understand kind of the puts it takes with the review performance?

Yes.

Okay, thanks Kiwi. And then, when looking at -- I guess it's a follow up to a previous question and the annualized ARPU. So, maybe ask the question in a different way. And I think it would be super helpful to us to start understanding the underlying kind of new versus expand opportunity. But I do realize that you guys only give net revenue retention on an annual basis. So, so maybe if you could give it in a qualitative aspect would be really helpful. So, the question is, the net revenue retention in the quarter, was it above or below 100?

Well, we only as you point out, we give the number on an annual basis, but I'm more than happy to provide color Koji, that that may be helpful. So, I think a couple of things are going on in terms of expansion and retention. So, first, we still have the falling away of the really big reviews that we had for a sequence of four quarters and that now have left. Now we are seeing some green shoots and this goes to your first question where we did see review our performance in particular, we had one customer that across a number of reviews, it added up to more than a million dollars in the quarter. And that's something that we didn't have, certainly in the previous quarter. So, there's that. So review has shrunk, right. And that is a take from retention. The other thing that's happening on retention is what we talked about on last earnings call. And I think one of the earlier questions here, which is big customers seeking to manage their overall spend in our platform, which they do, by changing the overall volume of usage, or changing the way they use our platform, for example, more aggressively using features like ECA and vault, as opposed to active review in the eDiscovery product as a way of reducing costs. Offsetting that we still have the more normal dynamic, especially among our smaller and more medium sized customers, where the justice has been true throughout the history of Disco, those customers tend to start relatively small, call it five figures of spend, and then grow their spend over time as they grow their usage of the first product they started with. And as they adopt more products across the product portfolio.

Got it? Thank you, Kiwi. That's super helpful. Thanks, so much.

Our final question comes from the line of Brent Thill with Jefferies. The line is now open.

Thank you. This is [Indiscernible] on for Brent Thill. Thanks, Kiwi and Michael, for taking my questions. Wanted to ask one on the review side Kiwi, you mentioned that you now have 60% of reps selling review products, I guess, are these new sales? Are they starting at a lower volume? And then are there ramps baked into that just any color around the new green shoots around review?

Sure, I think the way to think about this is, if you have an established sales team, and especially if like Disco, you were a single product company for many, many years. Your sellers get good at selling that one product. And going from one to two is harder than going from two to three, right. So, there's a sort of step function, to get sellers and to get the market and customers to think of us as a multi-product company, or to think of there being many different ways of using our platform, rather than a single way of using our platform. That being eDiscovery. So, our success and making that jump from single product to multi product is what I'm talking about. When I share this stat that now more than 60% of our quota carrying reps have generated review revenue, almost double the percentage for the first half of last year. This I think is good, not only because it's green shoots for the review business, but also because it's indicative of our sales team and the market and our customers beginning to make that transition from thinking of Disco as single product, to thinking of Disco as a platform that can be applied across many different kinds of legal work. And we've definitely seen improvements in the multi product attach rate, if you will, the percentage of customers were using more than one product.

Got it. That's super helpful. And then just one quick follow-up for Michael. Michael, if you look at the EBITDA guidance for the year, I guess the embedded margin for Q4 is now in the low teens versus negative mid-teens guide previously. So, just wondering, are you are you baking in additional leverage from certain line items? And what might that be? Thank you.

Thanks for the question. So, as you're aware, we've improved our adjusted EBITDA guidance for the full year and also have guided to Q3 and improvement on where you expect that we were going to come out in your models? We obviously there's four levers that are going to hit those numbers. And it's a combination of revenue, the COGS optimization that we've been working on in terms of working with AWS also both not just for COGS, but also below the line. We talked about this in the prepared remarks but just a very aggressive managing our kind of non-staff costs around things like software. And then the fourth is really and we've talked about this before globalization and attracting the best talent on a worldwide basis but on a per unit basis that is more attractive than what we've had in the past. So, those are the levers that will impact our overall numbers.

Perfect, thank you so much.

I will now turn the call back over to Kiwi Camara, Co-Founder and CEO for closing remarks. Your line is open.

Thank you for joining us today. And thank you for your interest in Disco.

Ladies and gentlemen, that concludes today's call. Thank you for joining. You may now disconnect.