Model N, Inc.

Thank you. Good afternoon, and welcome to Model N's first quarter fiscal year 2014 earnings conference call.

Joining me today are Zack Rinat, Model N's Founder, Chairman and CEO; and Sujan Jain, Model N's SVP and Chief Financial Officer. Following our prepared remarks, we will take your questions.

Our press release was issued after close of market and is posted on our website, where this call is being simultaneously webcast. The primary purpose of today's call is to provide you with information regarding our first quarter fiscal year 2014 performance, in addition to our financial outlook for our second quarter and full year fiscal 2014.

Commentary made on this call may include forward-looking statements. These statements are subject to risks, uncertainties and assumptions.

Please refer to the press release and the risk factors and documents filed with the Securities and Exchange Commission, including our annual report on Form 10-K and quarterly reports on Form 10-Q for information on risks and uncertainties. Should any of these risks or uncertainties materialize or should our assumptions prove to be incorrect, actual company results could differ materially from these forward-looking statements.

In addition, during today's call, we will discuss non-GAAP financial measures. These non-GAAP financial measures, which are used as measures of Model N's performance, should be considered in addition to, not as a substitute for or in isolation from, GAAP results.

You can find additional disclosures regarding these non-GAAP measures, including reconciliations with comparable GAAP results, in our press release.

At times, in response to your questions, we may offer incremental metrics to provide greater insight into the dynamics of our business or our quarterly results. Please be advised that this additional detail may be onetime in nature, and we may or may not provide an update in the future on these metrics.

I encourage you to visit our Investor Relations website at investor.modeln.com to access our first quarter fiscal year 2014 press release, periodic SEC reports and the webcast replay of this call, which will be available for the next 45 days.

Finally, unless otherwise stated, all financial comparisons in this call will be to our results for the comparable period of our fiscal 2013.

With that, let me turn the call over to Zack.

Good afternoon, everyone, and thank you for joining us today to discuss our results for the first quarter of fiscal year 2014. For the first quarter, we reported revenue of $21.6 million and a non-GAAP operating loss of $700,000, both which were above the high end of our guidance range.

We are pleased to raise the midpoint of our guidance for fiscal year '14, as Sujan will outline for you in a moment.

We focused over the course of Q1 on both short-term sales execution improvements, as well as implementing our long-term go-to-market and product strategy. While we still have a long way to go, Model N had a solid start in executing our strategy, and I am happy to share with you the key accomplishments from Q1.

The first component of our strategy was to improve the focus and execution of our direct sales organization, targeting the enterprise market in both the life sciences and the technology verticals. In Q1, we were able to sign new customers and expand within our installed base in both verticals.

In life sciences, we signed Stryker Orthopaedics, a division of Stryker Corporation, one of the world's leading medical technology companies. Stryker Orthopaedics will leverage Model N's Revenue Management suite for medical device to manage their U.S.

revenues. Stryker chose Model N to automate and manage increasingly complex pricing, contracts and rebates, and reduce revenue leakage.

In addition, Stryker will leverage our industry-leading analytics solution, Price ImpACT, to gain additional insight on how to optimize their revenue.

In the technology vertical, we signed CSR, a leading multinational fabless semiconductor company. CSR is a top 20 fabless semiconductor company whose products are used in cars, music players and smart phones.

CSR selected Model N Revenue Management suite for semiconductors, including global price management, deal management, deal analytics, contract management and channel revenue management, to help scale the company's direct and indirect revenue worldwide. In this competitive win, CSR selected Model N due to its superior fit for CSR business model and for being the only solution that was able to support the entire process from demand to deal negotiation, and through managing channel inventory and channel incentive payments.

The second component of our strategy was to expand our reach to the midmarket, leveraging the success that we had previously with companies like Salix and Actelion. Emerging and mid-stage firms such as this have the same opportunity to gain competitive advantage over their peers by leveraging Revenue Management solution.

The focus on midmarket yielded early dividends, as we signed 2 midmarket deals this quarter. The first was an agreement with Ranbaxy, the North America commercial arm of Ranbaxy Labs Limited, a leading manufacturer of quality affordable generic medicines, serving customers in more than 150 countries.

Ranbaxy will implement Model N Revenue Management suite for pharmaceutical, replacing existing point solution with an end-to-end solution for Model N.

Our proven methodology for migrating companies from legacy tools and solutions to an integrated revenue management platform, incorporating industry best practices, was also a key component to this win.

Auxilium, Inc., a fast-growing global biopharma manufacturer, selected Model N Revenue Management suite for pharmaceutical to administer managed care contracting and regulatory compliance across current and acquired product lines, replacing their existing outsourced solutions provider with an end-to-end solution for Model N.

Auxilium is representative of a growing trend among midsize and industry leaders, insisting on solutions with a high degree of domain knowledge, usability and fit with industry requirements that offer a fast time to value.

In addition, the ability to stay on top of changing regulatory environment, without constantly needing to implement database changes or upgrades required by legacy or low-cost providers, is becoming increasingly important for this segment of the industry as well.

On the product strategy front, we discussed the focus on our global pricing management products, along with the new offering recently in this called REVVY CPQ. CPQ stands for Configure, Price and Quote.

We believe that it is a significant market opportunity to better integrate sales into the revenue management process. REVVY CPQ will provide our customers with a solution that enables the sales organization to automate and simplify the configuration, pricing and quoting of their product and service offering.

Model N was successful in signing deals involving both products during the quarter. AstraZeneca, a British-Swedish multinational top 10 pharmaceutical and biologics company, with operations in over 100 countries, signed an agreement to replace their existing legacy system with Model N's global pricing management product, which enable pricing in commercial stakeholders worldwide to increase focused accuracy and design-winning commercial strategies.

QuickLogic, an inventor and a pioneer of an innovative customizable semiconductor solution for mobile and portable electronics, OEMs and ODMs, signed an agreement to use REVVY CPQ. This will enable the sales organization to more easily configure an offer, price it and to provide a quote to their customers, improving the efficiency and effectiveness of the sales process.

So while we are encouraged by the early success with both of our midmarket efforts and our new product initiatives, please remember that both are in early stages and will take several quarters before we get the clearer pictures of the size of the long-term contribution to our business.

On the broader product line, we launched 2 key product updates. First, we announced a new version of the global pricing product I mentioned a moment ago.

Key features include an improved ability to optimize and migrate risks of new product launches by better anticipating and tracking process milestones and initial price points, as well as functionality for global headquarters to more effectively monitor prices and collaborate with regions.

Secondly, we announced the general availability of Release 5.7 of our Revenue Management suite. This release include the new version of our ScriptValidate product, the only cloud-based rebate claim validation solution in the marketplace.

The key features of this release includes enhanced embedded reporting capabilities and advanced support for global implementations.

We are pleased with the strong and balanced performance across the number of strategic and tactical initiative this quarter. Our new Chief Sales Officer, Chris Larsen, had a positive effect in his first quarter at the company, and we will be adding to our sales capacity throughout the year.

At the same time, we still have significant work ahead of us in order to get the company fully back on track. As you know, I am a believer in our market opportunity in Revenue Management and, now, more confident in our direction.

Let me now turn the call over to Sujan to discuss our financial results in more details.

Thank you, Zack. Total revenues for the first quarters were $21.6 million, slightly above the high end of our guidance of $21.0 million to $21.5 million.

This compares to $22.3 million in total revenue in the first quarter of fiscal 2013, with the year-over-year decline resulting from the sales execution issues that we have discussed in these 2 periods.

Within total revenue, license and implementation revenues were $9.5 million, and SaaS and maintenance revenues were $12.0 million. The year-over-year increase in SaaS and maintenance revenue was primarily due to our $1.6 million increase in maintenance and application support revenue and a $0.5 million increase in SaaS and related implementation revenue.

Internally, we track the amount of revenue coming from existing customers who generated revenue in each of the last 4 quarters, in an effort to monitor our sales into our installed base. In the first quarter of fiscal 2014, this metric was $92 million compared to $77.6 million for the first quarter of 2013.

Before I move on to profit and loss items, I would like to preface my comments by pointing out that I will be describing non-GAAP results from this point onwards. For the first quarter of fiscal 2014, these items exclude $2.0 million of stock compensation charges, $83,000 of amortization from acquired intangibles, $200,000 in compensation charges related to the LeapFrog acquisition and $69,000 of restructuring charges.

Gross profit for the first quarter was $12.2 million compared to $12.7 million in the first quarter of fiscal 2013. As we discussed on the last call, gross profit in this quarter includes an impact of $423,000 from the amortization of capitalized software that began upon the launch of our REVVY CPQ product.

Gross margins in the quarter were 57%, flat year-over-year when compared to the first quarter of fiscal 2013.

Research and development expense was $4.6 million compared to $4.0 million in the first quarter of fiscal 2013. A portion of this increase was driven by the expense related to the development of REVVY CPQ.

We had been capitalizing these expenses during fiscal 2013.

Sales and marketing expense was $4.7 million compared to $5.0 million in the first quarter of fiscal 2013. G&A expense was $3.6 million compared to $3.7 million in the first quarter of 2013.

Operating loss for the first quarter was $700,000 compared to a slight operating loss in the first quarter of fiscal 2013 and the guidance of operating loss of $3 million to $2.5 million.

Net loss in the first quarter was $800,000 compared to $300,000 in the first quarter of fiscal 2013. This produced a loss per share of $0.03 based on a fully diluted share count of 23.5 million shares compared to a loss per share of $0.02 based on a fully diluted share count of 15.3 million shares in the first quarter of fiscal 2013.

This was above our guidance of loss of $0.13 to $0.10.

Adjusted EBITDA for the first quarter was $200,000 compared to $400,000 in the first quarter of fiscal 2013.

We ended the first quarter with $102.8 million of cash and short-term investments, down slightly from $103.4 million at the end of the fourth quarter.

Accounts receivables at the end of the quarter were $16.7 million, up slightly from $16.1 million at the end of the fourth quarter. Our total adjusted revenue was $21.8 million at the end of the quarter.

As we have mentioned previously, it is important to understand that we believe our deferred revenue balance is not a meaningful indicator of the business activity during any particular quarter, as the timing of invoicing under our contracts impacts this item because we do not bill our customers upfront for the total contract fees.

For the first quarter, cash flow used by operations was $1.8 million, which, after considering CapEx of $80,000, produced a negative cash flow of $1.9 million. This compares to cash used by operations of $1.1 million in the first quarter of last year, which, after considering $200,000 of CapEx and $900,000 of capitalized software, produced a negative free cash flow of $2.2 million.

Similar to our prior comments in regards to our receivable and deferred revenue balances, there can be some quarter-to-quarter variability in our cash flow, as it is impacted by the timing of our invoicing under our contracts.

Moving on, let me now outline our guidance for the second quarter of fiscal 2014, as well as our expectations for the full fiscal year 2014. For the second quarter ending March 31, we expect total revenues to range from $20.0 million to $20.5 million; non-GAAP loss from operations in the range of $4 million to $3.5 million.

This would lead to a non-GAAP net loss per diluted share in the range of $0.17 to $0.14, based upon a weighted average share count of 24.2 million shares.

For fiscal 2014, as a whole, we now expect total revenues to range from $76 million to $80 million. This is an increase at the midpoint from our prior guidance of $72 million to $80 million.

Non-GAAP loss from operations in the range of $20 million to $17 million, an improvement from our prior expectations of $24 million to $20 million. This would lead to a non-GAAP net loss per diluted share in the range of $0.82 to $0.69 based upon our weighted average share count of 24.5 million shares, an increase from our prior expectations of $0.96 to $0.80.

In addition to the formal guidance, I would also like to add a few comments upon -- about the upcoming fiscal year. First, while we do not typically guide to the individual components of revenue, I wanted to provide some additional color on our expectations for SaaS and maintenance revenue for the upcoming quarter.

As I mentioned during the prepared remarks on our last call, our second quarter SaaS and maintenance revenue will be impacted by the seasonal pattern of revenue associated with the LeapFrog offering. Customers utilizing our LeapFrog products pay us a base level of subscription and also purchase additional reporting capability when needed.

The additional revenue from these [indiscernible] purchases is then recognized over the balance of the calendar year, and then resets in our second fiscal quarter. We continue to expect our SaaS and maintenance revenue to be approximately $10.5 million in the second quarter of fiscal 2014.

In regards to gross margins, on the last call, we had mentioned our expectations for gross margins to be a bit below 50% for the full fiscal year 2014, including the impact from the amortization of capitalized software I mentioned earlier. Based on the increase in the revenue outlook and slightly better-than-expected gross margins during the first quarter of fiscal 2014, we currently expect gross margins to be a bit above 50% for the full year.

I would also like to provide some initial commentary about the current expectations regarding the progression of total revenue into the next fiscal year. Based on the recent pace of our business, we currently expect growth in total revenue in fiscal 2015.

However, it is too early to comment on the precise magnitude of growth we expect in the next fiscal year at this point.

In summary, we saw some solid performance on our core initiatives in the past quarter. We have begun to put some of our execution issues behind us and are headed in the right direction.

With that, we'll open the floor for your questions.

This is Jack Nader [ph]. On behalf first -- on Sterling's behalf here, just one question, one quick question.

How are you guys thinking about cash burn for the rest of 2014? And then maybe beyond, how should we be thinking about that?

Well, Jack, as I've mentioned in our prior call, we're more looking at cash to more track our operating burn. So we are currently guiding operating burn for 2014 between $17 million to $20 million, and that's a similar projection we have for the cash burn for 2014.

In terms of moving forward, we continue to believe in the large opportunity that we have in front of us, and we'll definitely be making investment going forward to make sure that we capture the opportunity we have and return the company to growth.

So during the retooling of your sales organization over the last couple of quarters, did you see any meaningful change in your win rates relative to the competition? Any sort of change on the competitive environment?

So you look at kind of[ph] the market, the market for Revenue Management is going back -- as [indiscernible] in historical terms. So it's -- I don't think that there's any change in the size of kind of the market.

When you look at kind of the competitive environment, it also remains about the same. We are a believer in our product.

We are a believer in our solution. We are believing in our differentiation.

And we believe that we have a solution that is highly differentiated and that continue to be the status in the market.

And a quick follow-up, if I might. Can you characterize the mix of new business versus new customers versus upselling into the existing base, say, over the last 2 quarters and how that might change as you continue to grow the sales organization and as Chris Larsen settles into his new job?

Yes. So when you look at kind of -- no, at our business, especially when you look at some of the deals that we just spoke about, our business is focused on both penetrating our large installed base and our strategy and land and expand, as well as penetrating new accounts.

At the same times, we are not depending on new customers to drive our business. As you know, we have a very conservative way to look at customers.

One of the deals that I mentioned for the quarter is a win that we have with the Stryker Orthopaedics. This is an expansion of an existing relationship that we have with Stryker.

But when you think about this, this is really the opportunity that we have to grow and to expand our business within the current customers. So we don't disclose new customers versus old because we don't think it's meaningful.

At the same time, as I mentioned in my comments, I was very pleased with the balanced performance that we have across multiple initiatives that we had for the business.

This is Matt Van Vliet on for Tom. First question was about just regional differences in terms of what you're seeing, if there's any pockets of strength or weakness, and how the sales cycles are trending kind of through your different regions.

When you look at kind of our performance just from the comments, and then you look at the businesses that we had on one hand with AstraZeneca, which is a European-based company, on the other hand, the business that I mentioned actually in our core business team in the U.S., we see still a very good balance across regions. It's very similar to a historic performance.

We see -- actually, when you look at some of the new products that we brought to the market like the global pricing management, as well as the win that we had with CSR, this is a real opportunity for companies to go and to manage their prices on a global basis, and it's applicable for companies that are headquartered both in the United States and across the globe. And there's nothing particular that I can talk to you about differences between the regions, very similar to historical trends.

When you look at the sales cycles, the sales cycles that we have at the enterprise side is very similar to historical sales cycles that we had. And kind of at the same time, when you look at the products that we brought to the markets in the SaaS area, in areas such as global pricing management and with REVVY, as well as some of the trends in the midmarket, we see shorter sales cycles that we see there from the enterprise side, and that's a natural progress.

Okay. And then in terms of performance within the life sciences and the technology sector, are you seeing strength in one versus the other?

Are your changes in sales efforts being welcomed more so in one or the other, whether it be to a strong base and then a maybe slightly less strong? Or any trends you see kind of moving forward between -- that may differ between life sciences and technology?

As I mentioned in my remark, we had a strong and balanced performance across both verticals. So both verticals performed well in the -- kind of in the quarter.

And I do not see any differences in the performance between them.

And then just one last one, following up on some of the changes in the sales organization. Can you point to any specifics that have been made either in the strategy or the actual process that you're going through that's giving you more confidence in both tracking deal progress, kind of qualifying the pipeline, as well as actually following through and getting deals booked?

I think that Chris Larsen, as I mentioned in the remarks, too, he brought very good discipline to the sales organization. I think his focus initially was really to create a disciplined process and metrics to ensure we had timely execution, as well as to ensure that the sales organization is focused on the opportunities that we have.

And a lot of this was about really operational excellence and evolving the sales organization, making sure that the machine -- the sales machine is working there very, very well. And I think it really showed an impact on kind of our business.

So this is really the focus that we had during the quarter.

I wanted to follow up a little bit on Chris Larsen's apparent early success, which is terrific. Are you -- or is he planning on additional hires at this point and building out the sales force further?

And if so, can you give us a sense on how big that buildout is going to be?

We plan to continue investing in sales and marketing for the company. And as you know, and as we always say, we believe in the market opportunity that we have.

And we made and we are going to make investment in sales and marketing. Part of the process is definitely adding people to the sales organization, and that's a process that we're going to push on for the next couple of quarters.

I just wanted to make sure that our revenue numbers for the year are not dependent on us hiring more salespeople. But as we grow the business and as we move to fiscal 2015, we would like to add more salespeople and continue the investment in sales and marketing for the company.

And we are not disclosing specific numbers for the number of salespeople because we don't feel that, that's a valuable metric.

Zack, were you hiring new salespeople in the interim when you were running the sales department before you had Chris on board?

We definitely accelerated the process right now, where Chris is onboard, because we believe that he has the [indiscernible] charter [ph] and also the ability to grow and to bring top-notch people and scale them to the next level.

And then have you looked at all around the idea of applying the product to new verticals? You obviously highlighted your traditional verticals, life sciences and tech, which have always been strong for you.

But obviously, the Revenue Management products have applicability that's -- to broader or more broadly to other industries. Do you have any update on any work there?

We have no immediate plan to expand beyond the current verticals. We believe that these 2 verticals represent a very large market opportunity.

And we really need to take it one step at a time. And our first objective is really to grow and to execute well in these 2 verticals.

When you look at the opportunities that we have in these verticals, both within the installed base and then expanding to new customers, these 2 markets are very much underpenetrated. Just the initiatives that we started at the beginning of the year to expand the reach to the midmarket in life sciences, 2 deals within the quarter is just a great indication to opportunity to expand further.

And then when you look at our installed base, when you look at the revenue expand opportunities, as demonstrated in the deal that we have with Stryker, our market in both verticals remains underpenetrated. And we need to focus in the beginning to grow and execute well there.

And we have no immediate plan to expand into new verticals.

Great. And then lastly, Sujan, I had originally been modeling fiscal Q3 as sort of where revenue would bottom out and then start to recover again.

Is that still the way we should be thinking about it? And given the outperformance that we've had in the first half of the year, I've got sort of a bigger deceleration in the back half of the year.

Is that still the right way to be thinking about it?

Brendan, we continue to be encouraged by the signs that we see. We have put in a plan in place early this year, and we're already happy with the performance we have seen against the plan, especially in the last quarter.

Where the revenue exactly bottoms out will be more of a function of how our new bookings come in and also how the implementations takes place in terms of the pace of implementation. What we are comfortable talking now about is we definitely see 2015 to be a growth year than 2014, but we're not prepared to talk about exactly which quarter we see revenues bottom out.

This is Pinjalim filling in for Mark. Continuing on the hiring question, is it possible for you to give us an idea about where are you going to stress hiring on?

Is that the enterprise area or the midmarket area? And also, the buildout of the professional services, are you focusing on that?

Or are you planning to more outsource to partners for implementations?

So from a sales hiring point of view, it's balanced across both enterprise and midmarket, as well as REVVY. So we have hiring plans across all aspects of the business.

And as I mentioned, it's not just sales, it's also the investment in the marketing and ability really to create the machine that is going to create the results on a consistent basis. So it's across the board.

Okay. What about the buildout of the professional services?

We believe that we have enough professional services capabilities to drive the numbers. We are doing some hiring in our professional services organization, but we have capacity to deliver, as well as we have very active ecosystems.

We work with the large and small system integrators. We have a very striving ecosystem around the company, and we will continue to deliver project with them.

Actually, vast majority of our project is being delivered in concert with partners and that we are continuously working on, because we believe that the stronger the ecosystem around Model N Revenue Management, the better the market is.

Okay. And on the CPQ product, could you talk about the competitive landscape there?

And also, how do we think about the revenue recognition? Is that going to be ratably into the SaaS line?

Sure. So this is a product that we announced in the beginning of the quarter, REVVY CPQ.

It's the product that is starting in [ph] the market for Configure, Price and Quote, and that's a solution that enables the sales organization to interact, to configure an offering, to price it correctly and then to quote it for customers. We believe that, that's an important product because it's a product that has a very good market need, as well as the ability really to be a first in terms of integrating sales organization into the revenue management process in a much more systematic way.

This is a very active market and there are quite a few players in the market. It's a market that we studied for quite some time and developed this product that we believe is going to leapfrog what we have right now in kind of the market.

Competition in this market range from smaller companies to a recent acquisition that Oracle made in the company called BigMachines and a few others. So it's a market that is evolving right now.

We build our solution on nativeforce.com. It was a very easy-to-use graphical user interface in terms of taking this solution to kind of the next level.

And in terms of revenues, we are just in very, very early stages of kind of the process. And this -- it's very early to say when this product is going to get meaningful revenues for the company.

And I'll turn to Sujan to speak about how we are going to recognize the revenues.

So we will be recognizing it in the second line in the SaaS and maintenance, and the subscription piece of it will be on a ratable basis.

This is Ajay Shreffe[ph] speaking for Terry Tillman. My first question is regarding the update on the sales force.

Since leadership has changed, could you give -- have you seen any greater turnover on sales force?

We have not seen any change in turnover in the sales organization, and -- no we have not seen any. I'm just trying to think.

We have not seen any change in turnover in the sales organization.

Okay, great. And then my second question is, the recent new module releases like global referencing pricing.

Just want to know how these add-on modules are doing.

So first of all, this is about the global pricing management to really expand from the need of global pharmaceutical and medical device companies to manage their prices on a global basis. It became to be really a strategic imperative for this company because of reference pricing, but it really drove them right now to think about how they manage prices on a global basis.

We see this as a nice and growing market. When you look at the customers of Model N in this product, companies such an Amgen, Janssen, which is the pharmaceutical part of J&J, Gilead Life Sciences, AbbVie and now AstraZeneca, it's clear that the leaders in the industry need a solution.

It's also a solution that we build from the ground up or as a multi-tenant SaaS platform. And we see great interest in this product and in this space and also in the notion about how you effectively manage prices on a global basis.

Again, same comment that I made about REVVY, it's early to determine about when this is going to have a meaningful impact on our revenues, but from an interest point of view, we see a lot of interest in this product.

Well, thank you, everyone, for joining the call today and for the interest in Model N. I am encouraged by the progress that we have shown in the past quarter.

We continue to believe in Revenue Management. It's a large and attractive market, and we remain committed to capitalize on this opportunity and to return the company to growth.

Thank you again for the interest, and we look forward to providing further updates on our progress in the future.