Thank you for standing by, and welcome to the Cerence Q3 2021 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. Please be advised that today's conference is being recorded. I would now like to hand the call over to your host, Rich Jernigan, please go ahead.
Thank you. Welcome to Serence's 3rd quarter fiscal 2021 Conference Call. Before we begin, I would like to remind you that this call may involve certain forward looking statements. These statements are subject to risks And uncertainties as described in the press release preceding today's call. Cerence makes no representations to update those statements after the date hereof.
In addition, the company may refer to certain non GAAP measures, key performance indicators and pro form a 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. Joining me on today's call are Sanjay Duan, President and CEO of Cerence and Mark Gallenberger, CFO of Cerence. As a reminder, the only authorized spokespeople for the company are Sanjay, Mark and me. Before handing the call over to Sanjay, I would like to announce several upcoming Investor events.
They are all virtual events, so the exact timing of our participation is subject to change. The conferences include the Raymond James 2021 Slide Industrial Conference on August 24, Cowen's Transportation and Mobility Conference on September 9, the RBC Global Industrials Conference on September 10th and the Jefferies Software Conference on September 14th and the Evercore Auto Tech Forum on September 21st. Please visit the Events page in the Investors section of the Cerence website for most up to date information on our participation. Now on to the call. Sanjay?
Thank you, Rich. Welcome to everyone on the call and thank you for joining us to discuss our Q3 fiscal 2021 Financial results. For our call, I'll first review our strong financial performance in Q3, followed by a review of some notable events that took place during the quarter. Next, I'll update our key performance indicators and then hand the call over to Mark to review the detailed financial results. Once again, we delivered a strong financial performance.
This is especially the case when considering the headwinds to our license business due to semiconductor shortage. Our revenue came in at the high end of the range, was aided by strong year over year growth in our variable license product line being up 74% year over year. The business model continued to deliver better than expected performance with non GAAP Gross margin at 79.1 percent and adjusted EBITDA at $38,700,000 or 40%. The result was non GAAP EPS of $0.62 and cash flow from operations of 24,100,000. When combining our year to date results with our guidance for Q4, Our full year forecast is expected to come in at the high end of the range.
Mark will provide details in few minutes. During Mark's comments, he will also be updating all of you on our midterm 2024 model. The model was first published in February of 2020 at our first Analyst Day. We had hoped to hold our 2nd Analyst Day in early September There's a live event in New York City, but unfortunately the rise in delta variant of COVID-nineteen has led us to delay that event until later in the calendar year. We did feel, however, it was important to update you on the 2024 model given the positive updates to the original model.
Much has happened since we first introduced our midterm model, especially in regard to new product development and adoption. Our decision to enter adjacent markets and a better understanding of how subscription renewals may play out. We have also been able to make sustainable improvements in some of our assumed gross margins. The result is a midterm model with a significantly higher revenue target and improved margin expectations. You will hear the details shortly, but as a management team, we're very pleased to be able to communicate these updated model assumptions.
One of the areas that will help us achieve our mid term target is in the new applications and connected services. Some of these applications and connected services we have discussed before such as Sell and Pay, CarLive 2, Guide and others still to come. We include in this category such products as CELINSCONNECT, BROWZ and Xtend. What was especially encouraging was the momentum we saw during the Q3 related to bookings for these new products in addition to The more than $30,000,000 in bookings we referenced on our last conference call. This bookings momentum was partly The reason we were able to increase our revenue expectations for 2024 target model.
We also had several notable events and achievements in this quarter. During the quarter, over 60 Different car models more than from more than 15 different OEMs reached start up production or SOP. The 60 different car models was a record for the company. SOP usually follows 2, 3 years after design win And represents a critical milestone because it is at that point when the license and connected services begin to generate revenue for the company. The range of cars hitting SOP in the quarter was also impressive and included high end luxury cars from Such companies as JLR, BMW and Mercedes with some of the hottest new cars on the market from OEMs that include Ford, Toyota, GM, Volkswagen, Renault and Stellantis.
All of the major geographic regions were represented, including about a We announced an agreement with SyllisXM, the leading audio entertainment company in North America that will provide their customers the ability to use their voice to change the channel. Safety and convenience With this technology, it will not only make it safer environment for the driver, but also Through our AI, the system will learn your favorite channels and suggest others you may like as well. Another important agreement was struck During the quarter with Harman, this competitive bid will combine CELENS's leading conversational AI technology with Harman's Ignite platform. Harman, a leading Tier 1 supplier to automakers, will integrate Celine's AI powered voice recognition technology into their Ignite platform, so they can offer hands free secure access to the platform's extensive capabilities, providing an intuitive and powerful experience to their drivers. We also entered into collaboration with Visteon, another leading Tier 1 supplier to the auto industry.
In this case, however, The collaboration will combine core CELEN's conversational AI, including global language support with Visteon's Android based SmartCore Technology Platform. The solution has been selected by a leading motorcycle manufacturer and will launch in 2024, Powering a 12 inches display that offers connected apps and over the air software download capabilities. This is an important collaboration as we seek to expand our presence in the 2 wheeler market and is an example of our successful ability to do so. There were 2 other events worth noting during the quarter. First, we were notified of our addition to the S and P 400 Mid Cap Index.
We were pleased to hear of our inclusion in the index as we took it as a recognition of the hard work of the entire CELINX team to consistently deliver strong growth and profitability. We're laser focused we are laser focused on Continuing this path of building a company to the most trusted co pilot in a car. I'm also pleased to see that our Chief Information Officer, Bridget Collins, was recognized for all of our fantastic efforts on behalf of SEMS. Bridget was named 2021 Boston CIO of the Year in the corporate category As I said in the press release announcing her recognition, Brigitte has been an integral part of my team From day 1 and is a perfect example of level of talent in the CELIN's leadership team. Moving on to our KPIs.
As expected, several of the KPIs returned to a more positive trend as the quarter most Affected by the reduction of reduction in cars produced due to COVID fell out of the 12 month trailing period. Specifically, the percentage of cars shipped with CELIN's technology increased to 53% and the change in the number of Cloud connected cars shipped turned to a positive 12% from what had been a negative number. Our average billings per car increased a healthy 13% year over year. The main contributor to this growth is the increasing percentage of cloud connected cars. The largest increase in the number of monthly active users is indicative of the automakers bringing to market infotainment systems that are more capable and easier to use than Apple CarPlay or Android Auto.
For sure, some automakers are in a better position than others to compete for a driver's mind share, but the momentum is clearly building for growing adoption of a well implemented and OEM branded human machine interface in the car. Our multifaceted growth strategy to deliver sustainable growth continues to play out. It starts with a strong core of leading conversational AI technology for the car and extends to new application in adjacent markets. We continue to push the innovation envelope for our customers so that they can offer their customers the safest, Most enjoyable experience inside the car, which also represents a seamless transition of their digital life from outside the car to inside the car. You may have heard me say this before, but I think it is worth repeating.
I drive the Sellance team to adhere to 3 priorities. As a tech company, we must continue to innovate. Since the spin out into an independent company, I'm very proud of the number of new products And technology Cerence has brought to market. 2nd, innovation is only an idea unless you execute and turn that idea into a product that you can deliver to your customer on time and with quality. And third, to focus on cost when designing new products because Ultimately, we are in a business to make money for our shareholders.
I think our financial performance is a good indication of the emphasis we put on cost These are the guiding principles we will continue to rely on as the company continues to grow. Expanded the business by developing new products and entering adjacent markets. Our long term vision for the company is much larger than that. Our goal is to be the central AI brain of the car, essentially becoming a driver's trusted co pilot. We see the next big opportunity is to combine vision with voice.
We believe this has application not only in driver monitoring, but also on road and cabin monitoring as well. Certainly, this is an area you will hear more from us in the future. I'd like to now turn the call over to Mark, so he can review with you the details of the quarter, our Q4 guidance And also positive update to our midterm 2024 model. Mark?
Thank you, Sanjay. I'll first review another strong performance for our fiscal Q3 and then I'll provide guidance for our Q4. I'll follow those comments Revenue came in at $96,800,000 which is at the higher end of our guidance of $94,000,000 to $97,000,000 and is a 29 increase from the same period last year. Our key profitability metrics were also very strong and exceeded the high end of our guidance range. The non GAAP gross margin was 79.1%, mainly driven by favorable product mix.
Our non GAAP Operating margin was 37.7 percent, adjusted EBITDA was 38,700,000 or 40% margin and our non GAAP earnings per share of $0.62 exceeded the high end of our guidance by $0.05 During the quarter, we generated more than $24,000,000 of CFFO and our balance sheet remains strong with total cash and marketable securities approximately $157,000,000 Now let's review a detailed breakdown of our revenue. Our strong revenue growth compared to last year was driven by 2 factors. First, our total license revenue Was up 54% year over year. Our variable license revenue was up 74% from the same quarter last year, driven by continued recovery in auto production. You may recall that our Q3 from last year represented the trough revenue quarter due to the impact of COVID-nineteen on auto production shutdowns.
We believe our variable license revenue during the quarter Was impacted by the semiconductor shortage slowing down auto production. Although we cannot exactly quantify How much the semi shortage impacted our business, our variable license revenue is where you would see the most direct impact from lower auto production. 2nd, our connected services revenue grew 19% from last year. But more importantly, Our new connected services revenue, which excludes our legacy business, expanded a strong 46% year over year due to a continually growing customer base adopting our new connected service offerings. Our professional service revenue was down 5% year over year simply due to the timing of project completion schedules, which affects revenue recognition.
Moving on to our guidance for Q4. Our revenue guidance of 97% to 101% reflects year over year growth of 6% to 11% and takes into consideration the current risks and uncertainties of the semiconductor device shortages that are continuing to impact auto production longer than we had expected. We are closely monitoring the situation and believe we have accounted for the impact in our guidance. Keep in mind that only about a third of our business is directly impacted by auto production in any given quarter, which shows up in our variable license revenue. We expect to generate between $36,000,000 $39,000,000 of adjusted EBITDA and between $0.55 to 0.61 dollars per share on a non GAAP basis.
For the fiscal year, we have updated Our full year expectations based on our Q4 guidance. As you can see, we are now forecasting materially higher revenue, Profit margins and EPS estimates versus our original guidance that we communicated to you back in November of last year. Although we did not contemplate the semi shortages in our original guidance, we are still delivering Better than expected results despite this unexpected event, which reaffirms that the digital transformation of the auto industry is alive and well. We were planning to hold an Analyst Day event in early September in New York City. And during that event, update you on the 20 24 midterm target model that we first presented in February of last year or about 18 months ago.
We were hoping that international travel restrictions would have been lifted by now, but they remain in effect due to the increase of COVID-nineteen cases resulting from the Delta variant. Because we prefer to hold a live event and have our key executives from around the world participate, we decided to delay the event till later in the fall. We don't have a specific date, but we will continue to monitor developments related to the virus and keep you posted. So rather than waiting for that event, we decided to provide you with an update to our mid term target model today. We categorized our changes in 2 buckets, growth and profitability.
First, I'll cover growth. According to IHS, the forecast of penetration rates have increased for Edge AI and Connected AI products and services that are getting designed into automobiles. However, this is being offset by lower auto production IHS forecast post COVID. We've added new revenue streams to our mid term model, including connected renewals and new service offerings such as entertainment, extend, connect and browse. Additionally, since our last Analyst Day, we've announced plans to enter 2 adjacent markets, 2 wheelers and elevators, and these markets are now reflected in our midterm target model.
2nd, I'll cover profitability. We've updated our margin assumptions based on sustainable improvements that we've made to our business over the past 18 months. First, our connected margin assumption has increased from 65% to 77%, driven by our successful OneCloud architecture project and negotiating more favorable contracts with some of our 3rd party providers. Secondly, we are seeing good sustainable progress on improving Our professional services delivery model and increasing our utilization rates, both of which have enabled us to increase our margin assumption from 10% to 35%. And thirdly, we expect economies of scale in our SG and A functions as our business continues to grow.
As you can see, these changes are expected to drive some fairly significant revenue improvements. First, on the top line, we've increased the original target from $600,000,000 to $700,000,000 This is due to several factors, including a greater contribution from new applications and services, An estimated $65,000,000 in contribution from new adjacent markets, including elevators and 2 wheelers, and a stronger contribution from professional services. We have seen initial bookings during this fiscal year for some of our new applications and services, which gives us confidence in being able to achieve these targets. But we expect the revenue Contribution from them to be more back end loaded, meaning they're not going to be linear and they're going to follow more of a non linear curve. Keep in mind, this top line growth takes into account the lower forecasted auto production in 2024 according to IHS, but is offset by increasing penetration of connected cars.
So all in all, we are pleased to be able to raise our revenue target by $100,000,000 From a non GAAP gross margin perspective, we increased it by 100 basis points to 76%. We see sustained margin improvement And our delivery of connected services and professional services more than offsetting the lower margins expected from some of the new mobility markets, which are expected to have an element of hardware in the overall solution. For non GAAP operating margin, We are now modeling 36% compared to the previous 33% due to gross margin improvements in SG and A Economies of Scale on higher revenue. All this leads to a significantly higher adjusted EBITDA of $260,000,000 or $50,000,000 higher than our original model, an incremental $100,000,000 in revenue or a 50% drop through rate. So in summary, we had another quarter of excellent financial performance.
While we remain cautious in the near term due to the semiconductor shortages impacting The auto industry, we are continuing to benefit from the secular tailwinds caused by the digital transformation of the auto industry. Our long term prospects remain strong and as demonstrated in our updated target model and our focus on innovation and growth, while at the same time crafting a profitable business model will benefit the company and our shareholders well into the future. This concludes our prepared remarks and we will now take your questions.
And your first question comes from the line of Joseph Spat with RBC Capital Markets.
Thanks so much, everyone. I wanted to dive in, first a little bit to the updated 2024 forecast. If I look at the segment that is beholden, I guess, The volumes in that license segment and I look at what IHS was looking for in early 2020 when you first sort of put that, it looks like it's Maybe 4% lower global production volume. So just order of magnitude, since you're keeping that flat, are you saying the take rates is Sort of making up that, call it, dollars 10,000,000 to $15,000,000 Is that the right interpretation?
Yes, that is correct. We are seeing the lower IHS production forecast like you're seeing, but We are seeing updates from IHS, which is showing some increase in penetration rates, or what you're calling the take rates. And so I think generally Speaking, we're comfortable with those 2 offsetting and keeping the numbers where they are.
Okay. And then just on the margin component of this, so Connected Services, I know you raised that from 65%. I think you've even hinted before that that could settle in around Mid-70s level, but you're kind of already there. So I guess I'm curious as to sort of why, there isn't sort of further upside there. And then the new mobility markets, I was just a little bit surprised that that was, I know it's a smaller dollar amount, but I'm surprised it's lower Margin, because I thought you were just sort of leveraging the tech you're already using in the other markets.
Maybe you could just explain that a little bit.
Yes. So I think in terms of the new mobility markets, I'll cover that first. There is an element of hardware, which generally is going to be a lower margin component. There will be obviously leveraging of existing technologies, but when you combine it with a hardware component for a total solution, We are factoring in that blended component. And so that's why we think Coming out of the gate, we want to model 45% for those margins.
And similar to what we did When we first launched our analyst model 18 months ago, we tried to be somewhat conservative Just because we are entering new areas and we don't want to put ourselves out there too aggressively. But if things change over time, If this market starts to develop further, then we can certainly have some room to potentially increase those margin assumptions.
Sorry, if I can just quickly follow-up on that maybe. I didn't properly understand on the new mobility markets. What hardware like that's I thought that's like the motorcycle segment. So you're providing the whole Box with the voice or the thing with Visteon, but I thought you were just providing the voice component.
Sure. Yes, I think what we and Sanjay can cover a little bit too, but I think more of it's on the elevator side, where there would be hardware on elevators.
Yes. So, Joe, the in the 2 wheeler space, There is really no hardware. We're working with the Tier 1s like this, Tion, Bosch, others who provide hardware, The so called head units, right? And a lot of our software also runs on the phone of the rider. So there is You know, really no hardware component there.
The hardware component that Mark is mentioning is on the elevator side, Because elevators have a long life and a large installed piece of elevators were shipped with no kind of capability of running edge AI, there is a piece of hardware that we have built that retrofits An existing elevator with edge AI capabilities. And that is what Mark is referring to. Our core business model though, just To be very, very clear is software SaaS in the elevator business as well. Although we were sort of forced to Can I put this piece of hardware out at a slightly lower margin, but really the product that we are Leveraging and shipping is the core AI product that you referenced to, which is common across auto and so on? Okay.
Thank you. And sorry, Mark, I cut you off on the Yes. In fact,
the connected margins, When we first introduced the Analyst Day model 18 months ago, we had 65% margin assumption. We kind of blew through that and we're running now low 70s to high 70s. So, we're there. We feel like we can sustain that even into the future. We will have Some a little bit of pressure as the legacy Connected revenue declines over time.
So that puts a little bit of pressure on the blended margins. But like we've done in the past, we tend to be a little bit conservative with these assumptions and It's always better to be able to improve them over time. But right now, we're comfortable with the 77%.
Thanks very much, guys.
Your next question comes from the line of Luke Junk with Baird.
Good morning. Thanks for taking the questions. First, I wanted to ask on the 2 wheeler markets. Obviously, you highlighted the relationship With Visteon in that market and had a couple of questions related to that one. If you could speak to the nature of that relationship a little bit more effectively, does this give you A couple of bites in the apple in the market.
And then overall, do you feel like overall commercial momentum in the 2 wheeler market is getting closer Tipping point here, obviously, you're now including it in your 20 4 model, which is encouraging.
Yes. So we're, Luke, We are delighted to have this relationship with Tion, who's definitely in the I have a great penetration into the 2 wheeler market as well besides auto. We're our model is to be the AI platform of choice, Not just for cars, but also for 2 wheelers and other modes of transportation. And what we are trying to do very systematically is to basically kind of Reach out to those other adjacencies as well. And 2 wheeler is a very important one because of The safety, I'm a rider.
I'm between the rider and The safety is so important and you can't touch the phone. And there are times when you want to kind of communicate with other riders and so on and so forth. So Bringing these features out is extremely important and conversational AI plays a very important role. And so we're working both either directly with the OEMs or also indirectly through the Tier 1 channels Across different markets. We're right now engaged in China, India.
We are heavily engaged in Japan, Who controls about 50% of the 2 wheeler market. We are engaged with Tier 1s and OEMs in Europe and also in the United States. But we're definitely very happy to announce This relationship that we put a joint press release out earlier in the few weeks back and we're certainly looking forward to further traction.
That's great color. Thank you for that. Second question, I wanted to ask about the 24 revenue model, specifically The fact that you're now adding connected renewals to the model, and I know you're waiting on that and it was thought that This would be a possibility down the road. But I'm wondering, is there any data that you can share behind that decision? And just in general, what's informing your view there specifically On the connected renewals?
Yes. So I think we have 1 or 2 data points since our last Analyst Day where we've had renewals. So that's encouraging to see that our customers are looking to extend those cars beyond their original multiple year subscription period. I think also what we're seeing is even with some of our new Our new connected subscriptions, those are trending to be longer in period. So That gives us the indication that customers know that there's value in that and that they're willing to commit for longer upfront periods of time.
And so and then also looking at some of our internal schedules as to when some of the original contract periods are ending, We felt like there should be some upside. We haven't disclosed exactly what that upside is built into the model, but we are now factoring some of that into Fiscal year 2024 based upon a couple of data points that we've already seen and the fact that Some of our newer contracts are actually extending beyond what some of the previous contracts were.
Great. Thank you both for that color. I'll go ahead and leave it there.
Your next question comes from the line of Mark Delaney with Goldman Sachs.
Yes, good morning and thanks very much for taking the questions. I was hoping to Start with a question about your expectations for the percentage of vehicles that have Syren's technology and how you expect that to evolve. The number of start production And vehicles that you talked about for this most recent quarter, I would think is a good positive indicator as those new Programs ramp up in volume and give you guys some good visibility into how many vehicles may have And I think it's probably a pretty important input as well into the 2024 model. So maybe talk about how you see that evolving And if you could also touch on your expectations in the 2024 model about what that penetration rate may look like?
Yes. So, yes, penetration rates, I think, they're going to continue to grow over time. We looked at some of the IHS data for penetration rates, in particular, that on the connected side. Those have grown from 18 months ago. I believe it was around 60% penetration rate for Connected Cars 18 months ago, now it's in the high 60% range.
And so we've tried to factor That's into our analysis. However, offsetting some of that is the fact that IHS is Lowering the total volume forecast for 2024 post COVID. So when we see the puts and the takes Between those two, we've decided to hold that Revenue stream flat for the core portion of the business. So that's kind of how we've sort of articulated and built out the model.
Okay. That's helpful. And maybe you could also talk a little bit more on your degree of visibility into the 2024 model. You've given some helpful commentary already on the margin side, but maybe on the $700,000,000 of revenue, On the one hand, right, you're signing contracts that are multiple years in length. And even for cars not in production yet, you're probably getting to the point where you're You're already having 1 or in pretty advanced discussions for 24, just the types of launches 3 years out.
So I can see some potential good visibility, but you've also have a content per vehicle consideration That's feeding into it in some of these newer markets. So, you talked about having some maybe conservatism on margins. That sort of logic holding as well for the revenue side of the equation or is there more uncertainty on that piece of it? Thanks.
Yes. I mean, I think, you know how the long it's a long sales cycle in auto, right? So, We've got a cycle of 2 to 3 years. So it gives us pretty good outlook. And I think for fiscal year 2020, We had a substantially strong bookings year.
If you recall, it was over $800,000,000 I believe it was $835,000,000 to be exact, Which was significantly higher than the prior fiscal year. We've given you an update already for the 6 months ending March for this year, which is also shaping up to be another very good year for us. So that I think All those bookings, which is the leading indicator, gives us more confidence and more visibility into 2024 and beyond. And so it really comes down to a lot of
that bookings momentum. I think the SOPs
that we just had a record for this past quarter is also an indication of Those bookings over time translating into real revenue and getting ramped into production. So that Those SOPs is, I think, more evidence that it's bookings first and then ultimately as you execute well, You get ramped into volume production. I think the SOPs, even though we had a record quarter. Those will just those are just starting to ramp. So you'll start to see those benefits in out years, right, Once those new products and those new cars hit their stride, if you will.
So it's not like a step function change where SOPs in 1 quarter and then you flip a light switch, it does take time for those to ramp into volume production. And by 2024, a lot of those will probably be right in the middle of their prime for production. Thank you.
Your next question is from the line of Colin Lagan with Wells Fargo.
Thanks for taking my question. Just following up on that, I mean, how should we think about how These sort of new markets are going to ramp. I mean, in terms of new mobility, is that going to is that anything hit yet? And or is it we're going to start seeing something actually start to contribute next year? Same thing with I assume there's some SaaS already out there Within Connected Services, how quickly is that ramping?
And how much of your targets is already kind of in the backlog that you've won? And how much has to be won? And I guess, I guess, to make my question long, sorry. And any color on the 2 wheeler market in terms of how Large it could be. And how many vehicles might actually need your services?
Yes. So Sanjay, you want to start that one or you want me to?
No, I can certainly start that. So In both for the 2 wheeler market and also for connected services and apps, We will have revenue in the current fiscal year. We were initially saying that we will have Revenue by the current calendar year, which is Q1 of next fiscal year, but I'm confident to say now that we will have New in both new mobility markets and also in new Connected apps and services in the current fiscal year. So that's good. Secondly, in terms of the how much of the Back, how much of the revenue is already in the backlog?
I don't Have that breakdown. Your question was from a 2024 model. But when we come back and we refresh our Backlog at the end of the year, start of the next fiscal year. So in November October, November when we come back in our next conference call, we will obviously refresh our backlog to The Street. And at that We try to give some more color about that during that.
But needless to say, we're feeling confident about it. That's We put these numbers in the current model update basically. Was there anything else that I missed, Colin?
I think in the yes, in terms of the ramp For some of these new products, some of these will be on the same sort of design cycle as some of our core products. And so that's why I think, as I mentioned in my prepared remarks, it's going to be nonlinear In terms of how we think the revenue will be ramping up into those fiscal 2024 target Revenue assumptions. So that I think that was the other question that you had. It was then how back end loaded is it? And I think it tends to be a little bit more back end loaded for some of these newer products because some of these products will be following a similar design cycle And ramp up with our core business.
Right, right, Mark. And I think just one more thing to add that I missed Was I think Colin you were asking about the TAM, what's the available market for these products, right? And No. So we struggled a little bit. We were thinking of including a TAM analysis in this Back for all of your reference, but the TAM numbers that we have are management TAM numbers.
And what we are doing right now is getting a 3rd party to independently do the TAM analysis, not who doesn't have The management information just to kind of validate and give you a more independent view of the TAM rather than Only view of TAM. So we decided the market and I decided not to include that in this Release of the target model, but certainly in the future, we hope to kind of share with you the TAM analysis as well.
Got it. And just I guess one quick follow-up. I mean on your 2024 pretty big jump in professional services margins, What is the key drivers of that?
Yes. So it's really twofold. 1, we're focused on improving the utilization rates of those resources. It is people driven. And so that's one component.
The other component is to Shift the mix of onshore and offshore resources. And so as we change that mix, that's improving some of Our overall labor costs.
Okay. Thank you very much for taking my questions.
Your next question comes from the line of Rajeev Gill with Needham and Company.
Yes. Thank you for taking my question. I appreciate the updated fiscal year 'twenty four target. A couple of questions on that target. So I'm wondering, how you plan to recognize revenue for the new applications and services as well as the new mobility markets.
So any clarity there in terms of revenue recognition?
Yes. A lot of those are going to be transaction based. So clearly, we'll be recognizing revenue as we see those transactions occurring. And so it's going to follow that type of revenue model. Some may be subscription based.
There are some That are going to have that subscription element and those
will more
or less, I guess, track similar to what we do with our connected Subscriptions, which would be an amortization schedule based over the life of that period, the subscription period.
Got it. And on the fiscal year 2024 target, so with the new connected number staying Basically flat from the original guidance and likewise with the Edge business. I get it in terms of overall units might be coming down 3%, 4%, 5% based on IHS. But I would think though that the ASPs would be increasing Over the course of those years, that would offset any kind of unit degradation as well as The attach rates for cloud connected increasing. So I'm just a bit surprised that that number would be flat Even if there's kind of a small unit correction.
So maybe if you can just kind of clarify that in terms of Your thought process of keeping those numbers the same?
Yes. So I think on the connected piece, We had ASP expansion already factored into the original 2024 target model that we Originally put out 18 months ago. And so we're still factoring in those ASP expansions In this model, the other thing to keep in mind is, unlike the variable licenses,
Which are
recognized in the quarter, there is an amortization schedule. And so because Of COVID, there were fewer cars shipped, right, over the past year. And so that's going to have a lingering effect on those amortization schedules. And so you got to keep that in mind as well. However, a lot of that's offset by the fact that the penetration rates So the take rates for Connected Cars is increasing.
And so we kind of looked at all of those factors And took some judgment and said, you know what, I think it all in all, it's going to be about flat because of all this, all the different changes that are happening.
I see. And for the cash flow from operations, you increased that by $50,000,000 You talked about paying off some debt. Wondering how you're thinking about the capital structure in light of this new updated target?
Yes. I think the capital structure and our high level plans are still the same, which is First priority is to keep funding the organic investments, which we believe are fully funded. The next priority is to see if there's other external ways that we can grow, Our strategy and our plans through inorganic investment. If you recall earlier this year, we An investment small investment, but an investment in CerebrumX Data Analytics Company and we would expect to do more of those activities as those opportunities arise. And then the last piece is to pay down the debt.
I think those priorities are still the same. We haven't changed those priorities. And so first, Grow the business and invest organically, 2nd, inorganic. And then if there's any excess cash, accelerate the pay down of the debt. And Whether we had we increased the EBITDA and the CFO $1,000,000 but the underlying priorities are unchanged.
Appreciate it. Thank you.
Your next question comes from the line of Michael Valentely with Bergen.
Hi, there. Thanks for taking my question. I guess just digging into the Connected Services Business, the fiscal 2024 outlook again. Again, a little spread is flat, but I mean, maybe you could provide a little more detail, if possible, Maybe your renewal rate assumption or what percentage of sort of the revenue base today you expect to be rolling off of the initial contracts by fiscal year of 'twenty four? And then maybe just any details around what your ASP assumptions would be on those renewals, that would maybe help provide some context.
Yes. I think it's still a little premature to give those level of specifics because we just have very limited data points unfortunately. And I don't like to extrapolate 1 or 2 data points into how we think all these are going to unfold. Each deal is going to be somewhat different and have their own uniqueness, if you will. So I think it's a bit premature to give those types of specifics.
But at a high level, you're thinking about it the right way, right? I mean, I think when it comes to renewals, there's going to be a percentage of cars. It's It's not going to be 100%. I think in terms of renewal durations, those will probably be Still multiple years, but probably not as long as the original contract Period. Because those cars are just naturally older now.
And so I think those are a couple of influencing factors. And then I think what I'm seeing is good news is the fact that more and more of these cars are getting Connected and more users are actually using the technology. And so I think because of that, there's going to be More opportunities for us to engage in these renewals because the end consumer is ultimately the one that's going to be driving The demand for it, right? And so I think as the technology becomes more user friendly, it's giving us and our customer And opportunity to extend those cars beyond the original contract period.
Got it. Understood. And then just one other question Sort of stepping away from the fiscal year 'twenty four outlook. One of the notable advantages, I think, that you guys have talked about before sort of your competitor, the Google Gas system, right? Is that its ability to offer sort of this ecosystem, this plug and play system, with its own access services and whatever.
So Sanjay, maybe you could provide a little more detail around what your strategy is, Cerence's strategy is to build out a sort of a similar ecosystem, Whether that's Darren's building internally or working with other parties to sort of help compete against that ecosystem model that Google offers.
So we're trying to be sort of neutral to various different ecosystems Because we're very focused on supporting Google or Amazon or Apple In their ecosystems, the big tech ecosystems that we know of here or any custom ecosystems that Maybe kind of coming on board with companies, for example, Harmon Ignite ecosystem is One such example that I referenced to in my remarks. But again, we're not just stopping to that. We're also Working closely with the Chinese ecosystems as well, right? So the way we're trying to approach this We're not trying to build a competing big tech ecosystem. Instead, we're trying to be compatible with the big tech ecosystems, which are out there and also support any custom ones that the OEMs may want to support.
Understood. Thanks a lot.
Your next question comes from the line of David Kelley with Jefferies.
Hi, good morning, guys. Just a shorter term and then a longer term question. Maybe starting with the Q4 guide, specifically the Sequential sales target, I think being flat to modestly higher here. We're all hearing about the ongoing variability in production schedules And understanding clearly you're less exposed to the cycle and this would primarily be a variable license discussion. But Just wondering if you could talk about kind of what you're seeing heading into the 4th quarter and visibility to the top line?
Yes. So a lot of it really comes down to short term, The semi shortages, right? That's sort of the influencing portion of our model. And as you rightfully said, that kind of translates into our variable license revenue line. And I think when we first started seeing about the semi shortages 6 plus months ago, I think all of us thought it was going to be a first half event for the calendar year.
That's not that has not turned out to be the case. It's now spilling into the second half and there's talks about being a calendar 'twenty two event as well. So It's just been it's been it's taken longer for the auto industry to sort of correct this semi shortage That's fairly pervasive throughout the industry. And so we try to factor that into our guidance as best as we For Q4, I've seen reports where auto production is expected to be Actually, I think down a little bit quarter over quarter for calendar Q3, which would be our fiscal Q4. So we try to dial that in as best as we can.
We use a lot of the IHS forecast, but we also try to Get a sense for what our customers are telling us short term as well. And so that's basically what we're trying to model. The pro services, I think, that's been flat the last two quarters. I think based upon some of our completion dates, you probably start to see the pro services ramping up sequentially. And so that's kind of how we built up the model for Q4.
Okay, great. That's really helpful. And maybe sticking with Pro Services, the 24 revenue target, Fairly meaningful raise there for that business. We tend to view it as an indicator for future business for Cerence or development relationships With OEMs. So we're just hoping maybe you could give us a bit of color on what's driving that raise and how you think about professional services opportunity?
Yes. So I can start and Sanjay may want to jump in as well. But I think What we see today is we've had a very good growth in our Pro Services since we originally set the target. I think originally when we set the target 18 months ago at $85,000,000 that was on the conservative side, quite frankly. And Based upon our performance since then, it's been good revenue growth for us.
And so we're being, I would say, basically less conservative on that front. And then we're also looking to Go beyond what we just do traditionally with our pro services, right? We want to still leverage these valuable resources, but Add more value to our customers in the car and do some more Work in the car, but beyond what we have traditionally done too. So we think that's going to help us to grow that top line as well.
Okay, perfect. Thanks for taking my questions.
Your next question comes from the line of Jeff Van Hee with Craig Hallum.
Great. Thanks. Thanks for taking my questions. Hey, guys. Just a couple for me.
Maybe start with the bookings. I realize you gave the update mid year and into fiscal. There had been some aspirations that it was reasonable to think you could possibly Hit the bookings you delivered in 2020 even though it was a huge year. You still feel the same, still feel like that's a reasonable aspiration. And again, while you don't quantitatively comment on it or outline it for the quarter, can you give maybe a little bit of qualitative about the value bookings in the quarter?
Yes. That aspiration is still there, and we're feeling good about it to achieving that aspiration and we'll come back with details end of Q4.
On the bookings or sort of new business front, I mean, I'd be interested If you took maybe your last major win or last couple of major wins, anything you'd observe there around sales cycles, bake offs, who are the finalists Sort of deciding factors as to why you got the win, maybe just a little real time color about the competitive environment.
So the competitive environment is similar. The niche players like SoundHound, iFlytek, Sensory and others basically show up for the bake offs. And then in the bigger architecture discussions, kind of the coexistence with Big Tech shows up In the architecture discussions. So that element has not changed. I think we're seeing Quite positive reactions from customers about the kind of broadened portfolio, especially of our cloud.
We are seeing some cloud wins, cloud only wins against previously Losses that severance may have lost, and so that's Positive as well. And overall, kind of, I think, good positive reaction of the portfolio and so on. I think the other positive Feedback that we are getting from the customers is that
delivering
The SOPs and running our PS programs Where there is nothing in red is something that I'm extremely proud of because of our employees and of our PS team colleagues and R and D colleagues, Because the that results into obviously getting the product done and shipped, But also creates an amazing amount of goodwill with our customers as well. So as I reported to the Board In our Board meeting last week, we have no vet programs and we're really, really working hard to make sure that We deliver to the schedule and the quality that OEMs expect us to deliver these programs.
Yes, that's helpful. Thanks guys. Really impressive execution, tough market. So thanks again. Appreciate it.
There are no other questions at this time.
Well, thank you all for joining us on today's call. We look Forward to engaging with you at upcoming investor conferences or in any other form and hopefully sooner rather than later, we'll be able to meet in person again.