Hi, and good morning. Welcome to our Clavister Q3 live presentation. As usual, I have John Vestberg, the CEO, and David Nordström, CFO, with me in the room. We will end this session with normally a Q&A session, where I would love for you to ask your questions with raising your hand or typing them in. You can always type the questions during the presentation. Let's get started, right? John?
Thank you, Jenny, and welcome everyone. This is the third quarter interim report presentation, and as usual, starting off with a brief summary of the quarter. To no surprise, we have moved into our new business model, subscription-based business model, where our customers now have the opportunity to choose between three years, 12 months, and one month's contracts. In a typical subscription model, we see also in our case, quite a lot of customers that opt in for 12-month contracts and then get automatically renewed. A consequence of this is obviously that the order intake metric that we're reporting on, the total contract value of new orders, gets decreased.
However, as our customers live with our products for many, many years, we see the total contract value or total customer value over time still being larger than in the previous business model. In the quarter, we see an effect of this with a decline of 6% of the order intake. Our net sales, on the other hand, grew somewhat 5%. Also our potentially most important metric, our recurring revenues grew by 6%. If we look at our various business areas, starting with the identity and access management business, we saw a continued strong growth of that business also in this quarter. I'll come back to that. With regards to our next-generation firewall business, the software, the amount of software contracts in the period grew compared to last year.
We saw a decrease of the amount of hardware units we were shipping, and again, coming back to that in a few slides. Within our 5G security business, one of the key events in the quarter was a renewed and extended cooperation with our key partner, Nokia. Within the defense sector, we build a really strong momentum and continue to see that momentum. Finally, as a summary of the quarter, we have now completed the cost optimization program that we introduced in Q4 last year. In its current form, it has been completed. Moving into identity and access management business, and again, this is a business that we run in our fully owned subsidiary, PhenixID. We continue, as mentioned, to see a strong sales growth, and with that growth, continuing to see healthy profitability.
The customer group no difference compared to previous periods, primarily within the public administration or public sector in the Nordics. Also in the third quarter, we were able to add a number of important customers from this customer segment. If we then move to our next-generation firewall business, as I mentioned, the period saw an increased volume of software contracts. Again, it's important to be reminded of that every contract we add is now on our new business model with recurring revenue and term-based, meaning that our customers need to continue renewing software contracts in order to be able to use our products. Every contract we add is an addition to our recurring revenue base. We had a very high volume of hardware units shipped last quarter.
There was maybe not a big surprise that we saw a somewhat of a decline in the amount of shipped hardware units this quarter. These shipments tend to come quite cyclical. If we look at the first nine months of the year just as a reference point, we see quite good growth in both hardware units shipped and software contracts signed with 40% growth of hardware units and 20% growth of software contracts. Again, as a repetition, the growth of software contracts is key to drive our recurring revenue, and this is completely in line with the ambitions we set out with the new subscription-based business model. Moving into 5G security, everyone knows, of course, that one of our key partners in this area is Nokia.
We have had an OEM contract or a reseller contract with Nokia since 2017. That contract has been framed in a way where the products has been resold by Nokia using a perpetual business model and using a certain business area or within a certain business area of Nokia. With this new extended and expanded contract with Nokia that we signed in the third quarter, the 5G security solution is now also being sold as subscription-based license. Again, this transforms yet another area of Clavister's business into the new business model. It also adds to our recurring revenue agenda. Maybe more important is that the offering is now also part of Nokia's so-called managed service offering.
Their managed service business is a quite large business which entails different areas, including managed services of entire mobile networks, of course, but also within that specifically managed firewall service where our product is the product at hand for Nokia. We see also quite a strong interest from so-called private 5G networks. If you're not familiar with the term, you have the public macro networks, 5G networks that you typically use as a consumer. Primarily within manufacturing industries and larger sites where you typically use wired networks or Wi-Fi networks previously, there is a strong upside and a strong trend in building private 5G networks and take advantage of all the benefits of 5G, but within a private context, so to speak.
Our product is now also part of this type of offering from Nokia. Moving over to defense, building strong momentum, it's a strong build-up of pipeline and a very strong interest for the Clavister solution. The key drivers for this is quite clear. We have on the one hand the digitalization that is happening across the board on the various defense platforms, but also of course the strong push for more defense budgets, the increased defense budgets which are mainly driven by the war happening right now in Ukraine. One example from the quarter is a new customer contract or a new customer assignment.
In this case it is a Nordic defense contractor, one that we did not work with before, where our project, our assignment is to perform as a first step a very comprehensive assessment of the cybersecurity readiness in terms of requirements, design and so forth of one of this customer's defense platforms. It's absolutely in line with the previous deals we've made in this segment. Speaking of previous deals, the previously won projects, they are progressing according to plan. As we mentioned also in the previous report, the shipments and revenues derived from those projects will start happening from year-end.
If we then take a look at the market and the forecasts from the analysts on the market, and taking a little bit of a walk back in time, a couple of years back during the pandemic, there was quite a strong downturn in predictions for the network security market. This was mainly driven by the uncertainties, of course, by COVID and the fact that many network security deployments are part of larger infrastructure projects. Obviously during the pandemic, a lot of the infrastructure budgets were put to a halt. Now with the pandemic not being as impactful anymore, most of the researchers and most of the analysts they start to predict a rebalance and a pickup again of the market predictions for network security.
One of the examples shown on this slide is from Allied Market Research. We're looking here at a 22% or 21.6% CAGR up until 2030. Quite a long-term growth perspective, but the key message is that this is a market that is on its way up again from being single-digit growth predictions in the pandemic years. What are the reasons for this? Well, obviously the geopolitical conflicts really drive awareness and drive investments, especially in critical infrastructure areas such as energy. There are a number of regulations including NIS2 and other security, cybersecurity acts that has been enforced or being enforced by the European Union and I would say also general increased awareness of privacy and data security.
It is however very important to state still that, you know, we have moved from one uncertainty area in terms of a pandemic to another uncertainty area with inflation, war, increased energy prices and so forth. Even though the predictions from analysts are strong over the long term, we might see limiting factors delaying investments by those factors I just mentioned, specifically inflation and the energy prices. If you look at network security deployments, again they tend to be part of larger infrastructure investments in data centers, in cloud services et cetera, highly dependent on reliable energy prices.
As it happens with increased energy prices, investments in data centers are reduced and as such network security as well. In the mid to long term, again, happy to see that the current numbers are really back to where they were pre-pandemic. We made a quite large market survey back in September, where we interviewed 500 European businesses and public administration organizations. Specifically, we were asking them about their cybersecurity plans going forward in a number of different areas. Specifically, we included customer groups such as public administration, critical infrastructure groups such as energy and utilities, but also retail and SMB, just to get the full picture.
One of the key questions we were asking was to understand in what way has the war in Ukraine affected or impacted the willingness to invest in security. Maybe to no surprise, quite a vast majority of all the respondents indicate that, of course, the war has driven or starts to drive investments in new cybersecurity. With just the green and the blue bar or pie charts, in this case, you see that close to 60% or 60% of the respondents are investing in new security. Another key area, which is obviously very important for Clavister, given our value proposition and given our positioning on the market, to what extent is the origin of technology important for you as a customer?
In other words, is it important that security is being produced in Europe versus elsewhere in the world? Going back a few years, this was maybe a question that would be, you know, not that clearly answered in the past. It would be more of a nuance or a noise rather. But times have changed, and we now see that the origin of technology is very important, especially within critical infrastructure and public administration. Maybe to no surprise, we've all read about the situation in Sweden's largest airport, Arlanda, with the installation of scanning detectors from non-European country and all the fuss and all the noise and all the problems that have arisen because of that. Cybersecurity in general is no different.
As you can see, majority and even a vast majority of all the respondents, they rank European cybersecurity as highly important or very important. Security is obviously a very saturated or a very diverse market. Important for us to understand being a small vendor, whether or not we have a reasonable possibility to expand our business also into customer bases or customer groups where some of our large, let's call them incumbent, vendors are present. The question is basically, is there an agenda from customers to look at in-depth or multilayer security or specifically using dual firewalls? Positively surprised that very many respondents are either actively considering this or considering this in the future.
Even though in the past there might have been a little bit of a, you know, a limited market for a smaller company to replace installed base from other vendors. With this type of insight, we realize that also customers with other products and other vendors products are still open potential for Clavister. All in all, if we look at the summary from that, we can just conclude that, you know, 60% of all the businesses they plan to invest in new security technology, 59% they plan to introduce a second vendor, and 57% they want to see cybersecurity made in Europe.
Here again, Clavister is one of the very few vendors in Europe that can offer the type of security that is requested. All in all, highly important and strong indicators that are in favor and really matches the value proposition from Clavister. With that, handing over to David for the financial summary.
Yes. Thank you, John. Looking at then some key points in Q3. As you see in the report, we see an order intake decline of 6%. The main driver behind this decline is average order contract length, albeit we have larger volumes of contracts shipped in the period. Some reflections around this that one might be concerned about the fact that the contract lengths are dropping and we don't really see it in that way because I think we are offering something that is more appetizing to our customers as we have a more attractive offering. When the contract lengths are shorter, we also see that we have a more advantageous price mix for Clavister in offering shorter contracts than longer ones.
We can also faster introduce price increases in a broader customer base if the average contracts are shorter. Because then of course a price increase can happen more quickly. There are upsides clearly when the contract lengths drops. If you look at net sales, we have a FX adjusted net sales growth of 1%, and if we exclude the FX factor, the growth is 5%. The main drivers here are primarily two. It is a growth of active contracts and this is also supported by a price increase introduced from July 1st. We have a recurring revenue growth of 6%. We continue to grow recurring revenues sequentially quarter by quarter.
If you look then at the revenue mix, it is more software heavy than if you compare to Q2. We have said this before, that when we have high volumes of hardware, then we have an impact on our gross margins. Q2 was very hardware heavy and hence we dropped below 80% of gross margins in Q2. We have now a higher software mix in this quarter, and then we see immediately that our gross margins bounce back to the high, in the high 80% area.
I think this is important to show this, and I think this gives credit to our explanation that we have had in the past when we have seen gross margins to drop that is very tightly connected with the volumes of hardware that we ship, when we install a new contract. I think this shows that we have a strong underlying gross margin in our business. I think also to discuss a bit around the fact that we have a drop in hardware shipments in Q3 compared to Q2, and that is also associated with the fact that we introduced a price increase in July 1st.
It's highly likely to think that to some degree that was driving hardware shipments in Q2 because our distribution channel knew that the prices on especially on certain hardware platforms would increase quite significantly from Q3. That's also explaining the fluctuations in hardware shipments between Q2 and Q3. OpEx then. We see that we are delivering on our ambition to lower our cost base. OpEx is dropping from SEK 34.4 million to SEK 33.7 million, and we have non-recurring costs in the period of SEK 0.6 million.
If you adjust for that fact and no corresponding such cost in the comparison period, then you will see a delta of SEK 1.3 million between the quarters. The cost optimization program is completed in its current form. Just to remind everyone what is the aim of the program, it is to reduce cash OpEx, run rate cash OpEx by the end of Q4 to SEK 164 million, and the activities within the program are concluded. Looking at financial items, they are on par with historical periods. We have financial items with cash flow impact in the period of SEK 1.2 million. The remaining part is non-cash. It relates largely to FX effects on long-term debts.
It's the cost of the EIB warrants, and it's also long-term interest to lenders. Some comments regarding the balance sheet, cash flows, and FTEs. We have a drop of CapEx investments. We saw that in the previous period as well. It is largely related to a higher level of maintenance in some of our software platforms and also quite a high degree of research. But the cost optimization program have also lowered our cost base and a lowered amount of FTEs, and this partially explains why CapEx have dropped as well. Amortizations are slightly higher, and but they will drop as capitalizations have decreased.
Operational cash flows before working capital changes, they are on par with Q3 last year, but we have a strong improvement of cash flows when consider balance sheet effects. This is despite the fact that we're building a substantially higher inventory level than we had in the corresponding period. Why is that? Well, you have all seen the effects of COVID and lockdowns in China with even though we don't produce our firewalls in China, but they are a you know supplier of different type of components to the rest of the world. This induced a certain level of uncertainty in our delivery capacity historically, why we took the decision strategically to have larger inventory levels to maintain our delivery capacity.
We have no problems of meeting our customer shipments, but this leads to a build-up of inventory levels where we bind more capital in inventory. The effect in this quarter is 4.8 million SEK, so it's quite substantial. Looking at FTEs, they have dropped to 113 compared to 134 in the comparison period. The main explanation factor to this large drop is the cost optimization program, where we are driving the business to a lower cost base, and this will lead to OpEx dropping also in coming periods. This is a short summary. I hand over to you again, John, regarding the outlook.
Thank you, David. This is basically a repetition of the same type of message we've had across the quarters in this year with obviously the change to the new subscription-based business model has an impact on net sales growth. That's why we state moderate net sales growth. When we see a normalization of the effects, then we have a like for like, which where we expect the CAGR to come up to higher levels, 20%, basically from 2023 through 2025. The cost optimization program that David explained as well has a clear impact on cash OpEx and also on cash flow and EBITDA already this year. That's in essence the same outlook we've been having as previous quarters. With that, handing back to Jenny for-
Yes, let's start the Q&A. How about that?
Good.
There have come in some questions during the presentation. I will start with moving into the Nokia area, or actually the CSP area. The questions have been typed in Swedish, so I will try to do my best with translating to the English version. You have updated the agreement with Nokia and has there been any substantial change to the business model in this agreement? Because previously, I think it was based on volume.
Yeah, it has been a change in business model. The main change is that we've moved from perpetual licensing to subscription-based licensing. That's the absolute biggest change. We've also made some pricing adjustments where in the previous model, use cases or deployments where there were not a lot of volume. Basically, the product can be used in different use cases. Some have large volumes and some have more limited volumes. In the more limited volume use cases, prior to the new agreement, we saw quite limited revenue potential, to be honest.
In the new agreement, the baseline pricing has been adjusted, so also for low volume use cases, we see higher revenues. In general, the volume-based pricing scaling mechanism is still applicable, so that's still part of the agreement. Now we have basically two scaling factors, one coming from the fact that we have a subscription-based. We keep seeing recurring revenue from these contracts, and the second one being the previous one as well, the scaling based on volume.
When do you see that the 5G revenue, excuse me, from CSP will increase, speed up?
Very good question. I mean, what we've seen and what I think several vendors to the 5G market have seen in the past year is that the build-up or the rollout of 5G core network has been slower than what I think everyone was predicting earlier. Just as a reminder, our solution is mainly used in the core network. The 5G deployments that are out there that has been announced are mainly radio. If you look at the sort of common deployments are mainly radio deployments, where the core network part is deployed in a later stage.
What our focus is to, not only because of the new contract but also in the previous contract, is to build as wide base platform as possible with as many operators as possible so that we get our solution installed, deployed. We have a quite large activity of professional services that are related to support operators with the deployment, with the design, and so forth. Basically, to build a base platform so that when the core network installations start growing on the market, then we are part of as many as possible. So I think that is the most precise answer I can give at the moment.
Yes. There was actually an additional question to this. What revenue would each CSP in average generate per year?
This is a very big spread, so it's almost impossible to state a number there. Given the various scaling factors and so forth, I think we need to, when the volumes start becoming higher and we have more data points, then it's easier for us to start exposing that type of data. Right now, it would be a bit too premature.
Thank you. I will move into the defense area. Czech Republic and Slovakia looks like have chosen the CV90. Is Clavister's cybersecurity solution in these discussions and has both these countries choose similar to Norway or actually or has both these countries choose similar to as Norway decide to leave out cybersecurity solution?
The background is the following, just as a reminder, that Czech Republic and Slovakia have shortlisted BAE Systems and their CV90 as their preferred choice. I think both the market and the participants strongly expect that those deals will be concluded. Obviously they are massive deals in the range of SEK 10 billion-SEK 20 billion each. There are a lot of requirements and a lot of negotiations happening at the moment as far as we understand. The version or the make of the CV90s that are being offered are all designed or have the blueprint where the Clavister cybersecurity solution is designed in. Obviously, we will not be able to state with 100% certainty that we are included until we see ink on the paper. Absolutely the solution is in the discussions. That's true.
When you published the news regarding BAE, it was mainly on the CV90 and BvS10 that was, aktuella.
That were relevant for us.
Relevant. Thank you. Is there a upcoming agreement regarding BvS10?
The inflow of deals to BAE recently has mainly been on the CV90, and that's also where the need for cybersecurity is the highest. It's a much more complex and advanced platform, obviously. That's why the need is higher, and that's why you know, potential is higher there. There are a number of BvS10 deals in the pipeline, as far as I know. Obviously, this is you know, second-hand source, but as far as I know, there are some deals in the pipeline. It's a little bit too much on the horizon to state whether or not cybersecurity is relevant for those deals. The key priority as far as we understand, is the CV90 from BAE Systems.
I see that there is a hand raised. Let's see. Did it disappear? Yeah. I have more questions, so I guess, yeah. Can you please expand on when you will be cash flow positive?
That's of course a very important question. Let's divide it into two parts. One part is when are we cash flow positive in our operations, and when are we cash flow positive in that sense that we also can repay the debt that we have in our balance sheet because these are two different things. Looking at our operations, meaning that we fund all our activities, including R&D, I would say that the impact of our reduced cost base and also initiatives to drive further growth means that inflection point is coming closer to us.
It is hard to say a specific date, as you all understand, but I would say that it's reasonable to believe that we will get there in a foreseeable near future. Not being specific to that point to say at a given time in a certain quarter, because I can't promise that. But I think that the prospect for us to be cash flow positive from an operation perspective is becoming significantly nearer in time due to activities both on the cost side and on the top-line side. I hope that answers the questions clear enough, even though I understand that you might want a certain time in a certain quarter, but I can't be that specific.
Can you please expand on your major loan repayments, renewals, and how you see the possibilities for this in the current climate?
Yeah. Also a good important question. We have two lenders, one smaller one, which is Norrlandsfonden. We have a convertible loan of SEK 10 million with them. You might recall that the previous convertible loan matured during May 2022. We had a long and good dialogue with Norrlandsfonden who was very clear that they wanted to keep working with Clavister. The previous convertible loan was repaid by issuing a new convertible loan of the same size and duration. That SEK 10 million convertible loan matures in May 2027. That's quite far away in time. Of course, we have the larger loan facility with EIB of EUR 20 million. As we communicated earlier this year, that was also renegotiated during this year.
According to the original plan, EUR 15 million were to be amortized during 2023, an additional EUR 5 million to be amortized during 2024. This is, of course, as you understand, a challenge. We had, I would say, a very good dialogue and a good understanding from the bank, who also is a major owner of stock options in Clavister, which matures during 2037, 2038. They have a big upside in Clavister. We agreed to amend the repayment profile of that loan, so we will not repay EUR 50 million during next year. It's EUR 400,000 or EUR 500,000 that will be repaid next year.
That's a significantly lower amount, and the repayment period is extended from, as I said, it was previously 2023-2024, and it's now during 2023-2027. That gives us a significantly larger time to repay that loan. Of course, the faster we are cash flow positive in our operations, the better possibilities we have, and the more tools in our toolbox is usable to find the best ways to handle that loan as well. I think we will come back to that, and I hope that answered your question.
There's a question regarding value creating. The share price has been halved since the last rights issue. What are your thoughts re value creating in the company?
I can start. I think one important aspect that is under our control is our cost base and our number of FTEs. It has been important to us to take control over our cost base and reduce that, and we have been running a large amount of initiatives to be more cost efficient. That's important. The other part is the change of our business model to build a broader base of recurring revenues and to grow our revenues faster. I think this is our main focus to create value for shareholders is to generate more growth at a lower cost base. That is our key focus.
Looking at the cash side of things, we have no immediate cash needs. As you see by the end of Q3, we have a cash flow position of SEK 47 million. But of course, making sure that we have enough cash to sustain the business and take us to being cash flow positive in our operations and in a position where we can handle our the debt side of our balance sheet in a good way.
That is, of course, something that we monitor closely and have lots of activities running and alternatives to make sure that we have a sufficient cash position. My personal view is that we have a good control over that process. It's also mentioned in the uncertainty section of the interim report, where we elaborate a bit on this matter as well. John, do you wanna add anything there?
I think that was a good answer. You know, to complement, I think we all know that the market climate out there on the financial markets is tough, to say the least. Our key focus, to some extent driven by that factor, but not only, is to drive and to reach a profitable business and a healthy business. Us doing that is the most significant and most important thing we can do to drive shareholder value.
Again, just to repeat what David just said, the cost side of things is clearly in our hands, and that's why we've been so focused on the cost optimization program, but also, of course, to find the right mechanisms to drive further growth. Again, the closer we get to cash flow positive from our operations, the less of a financial risk we will see. At the end, and hopefully when financial markets open up again, then we have a strong shareholder value with us.
Thank you. In the report, you mentioned that you will intend to further reduce the operational expenses during 2023. Can you please further expand on this?
Yeah. Again, just, you know, basically this, the follow-up on the same discussion. We can control our cost base. We have a history of, you know, building up a quite high OpEx in a fashion where revenues were expected to come sooner rather than later. We can do more, and we are doing more to reduce our expenses, not only on the OpEx, but also on our you know, sales costs and our you know, cost of goods and so forth. There is a lot of activities going on. We are of course not able to pinpoint exactly or expose exactly what we're doing, but trust us that we are doing a lot of activities to further reduce the burn rate.
Yeah. I would say that when you introduce a high cost focus in an organization and you invite leaders and employees to participate in the process, it becomes also dynamic when you know you do changes, you lower the cost base, you learn new things where you can run things more efficiently and further reduce the cost base. I think that's the process we're in, that we have in many areas come farther than we expected when starting the cost reduction process, and I think there is, as John Vestberg says, room to do further improvements, and we are doing those.
What the exact levels will be, I think that's something that we can get back to in going forward.
It's good to see that the number of FTEs has decreased. We noticed that the number of consultants has increased during the period. How do you view the number of consultants going forward?
Yeah. I mean, that's a good question. If you put those together, the drop is, you know, the drop of FTEs is larger than the increase of consultants. Yes, we have had a somewhat increase of consultants in the period, and that is due to a quite large decrease of FTEs where we see that, okay, to make sure that we deliver on certain time constraint deliveries, for example, we need to use consultants during that phase. I expect that the number of consultants to start dropping, and we are rounding activities to that end. I don't foresee that number to grow further. I would rather expect us to see that to start declining going forward.
Not stating an exact number of consultants, and I think that is something that can fluctuate a bit between periods because, I mean, consultants have that advantage that they are, well, quick, more quick to onboard and also quick to off-board.
Moving back to the BAE, there's a question. Can you give an estimate, qualified guess of how likely you believe that you will be included in the CV90 deals with Czech and Slovakia?
That's a challenging question, of course. 76.3%. No, jokes aside, that's of course impossible to answer. What I mentioned earlier, we have worked with BAE to include our solution as part of a blueprint design. So obviously, the baseline is that the solution is part of every potential deal where our solution has been integrated in a defense platform, be it CV90 or other platforms, such as the one I mentioned earlier, the new one. To what extent we can be sure that the end customer ends up with the complete blueprint, with all the aspects, including all the solutions, it's outside of our hands. But we have a good feeling. I mean, that's I think how far we can stretch the answer in this one.
John, what are you proud about in this report you done?
I think, you know, with the phase we're in now, where we focus quite heavily again, as mentioned, on cost reduction. I think everyone who has been active in the business knows the challenge of both, you know, pushing the gas pedal and pushing the brake pedal at the same time. We are obviously seeing good results from our cost optimization program, so that's clear. At the same time, seeing that the other metrics are also progressing in the right direction. I mean, we have a moderate net sales growth, that's clear. It's growth, and we see that margins are almost all-time high in terms of our gross margins, and the OpEx is coming down. I think all in all, seeing that those metrics are progressing, that's what's key for me.
Thank you. David, if you would highlight something in the report, what would that be?
Yeah. It's almost copying what John says. I would say, you know, we have, we're not a very large company, and we have reduced our number of FTEs with 21 individuals compared to last year. I think that's quite many. With that, we see that we are growing our recurring revenues. We are transforming our business model also in the 5G area. Our costs are dropping, and we are delivering growth. I think that's important to see that we can achieve those things even though that we have a smaller team, but I will also say more focused team. I think I would highlight that.
Thank you. With that, I would actually like to conclude this Q&A session and this presentation. Thank you both, John and David, for participating. Thank you, the audience, for listening and typing all the questions. Good ones today. Thank you.
Thank you.
Thank you very much.