Good day and thank you for standing by. Welcome to the Bridgeline Digital Third Quarter 2024 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Tom Windhausen, Chief Financial Officer. Please go ahead.

Thank you, and good afternoon, everyone. Thank you for joining us today. My name is Thomas Windhausen, I'm the Chief Financial Officer of Bridgeline Digital. I'm pleased to welcome you to our fiscal 2024 third quarter conference call. On the call with us this afternoon is Ari Kahn, Bridgeline's President and CEO, who will begin the call with a discussion of our business highlights. I will then update you on our financial results for the quarter. And we will conclude by taking questions. Before we begin, I'd like to remind listeners that during this conference call, comments that we make regarding Bridgeline that are not historical facts are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Act of 1934, and are subject to risks and uncertainties that could cause such statements to differ materially from actual future events or results. These statements are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. The internal projections and beliefs upon which we base our expectations today may change over time, and we expressly disclaim and assume no obligation to inform you if they do. The results we report today should not be considered as an indication of future performance. Changes in economic, business, competitive, technological, regulatory and other factors could cause Bridgeline's actual results to differ materially from those expressed or implied by the projections or forward-looking statements made today. For more detailed information about these factors and other risks that may have impact on our business, please review the reports and documents filed from time to time by Bridgeline Digital with the Securities and Exchange Commission. Also please note, on the call this afternoon we will discuss some non-GAAP financial measures when commenting on the company's financial performance. We provide a reconciliation of our GAAP financials to these non-GAAP measures in our earnings release, and you can obtain a copy of that on our website. I'd now like to turn the call over to Ari Kahn, Bridgeline's President and CEO. Ari?

Thank you, Tom. Good afternoon, everyone. Recent advances in AI, especially large language models and Gen AI are revolutionizing e-commerce and reshaping online shopper expectations. As a result, nearly every e-commerce site will upgrade their site search to be both intelligent and conversational. This shift is disrupting the $1 billion site search market, forcing everyone to reconsider their search provider. HawkSearch is uniquely positioned to displace competitors. Our team has a deep history in AI and is approaching the site search market in a more meaningful way than anyone else. This gives us an opportunity to take a disproportionate share of the market during this turbulent time. We are the only AI company offering merchandising AI agents that work directly with our customers' marketing team to continuously tune their site search's results. This capability, known as tailored AI, is already positioning us as a leader in the market. Tailored AI has helped double the average HawkSearch sale size, win new customers every week, secure top-tier partnership and gain recognition from leading analysts like Gartner. We have truly taken a different approach to AI by providing collaborative agents rather than a black-box, one-size-fits-all solution. Our competition only allows customers to enable AI and assumes they should then be hands off as AI powers their site regardless of their corporate goals. With tailored AI, we deliver AI agents that collaborate with our customers' marketing teams to optimize their sites. Our customers are empowered to continually tune and train the AI agents based on their ever-changing goals, inventory and market demands. We're moving fast in AI innovation. This year, we launched concept search. We launched image search, visual search, conversation search, and now Smart Response. No other platform has moved this quickly to seize the tailored AI opportunity in site search. As we…

Thanks, Ari. I'll provide an update on our financial results for the third quarter of fiscal 2024 which ended June 30th, 2024. Total revenue for the quarter ended June 30th, 2024 was $3.9 million, compared to $3.9 million in the prior year period. Now going into each component of revenue. Our subscription license revenue, which is comprised of SaaS licenses, maintenance and hosting revenue and perpetual license revenue, for the quarter ended June 30th, 2024, was $3 million, compared to $3.2 million in the prior year period. As a percentage of total revenue, subscription and license revenue was 77% of total revenue for the quarter ended June 30th, '24. Services revenue was $923,000 for the quarter ended June 30th, 2024, an increase from $742,000 in the prior year third quarter. As a percentage of total revenue, services revenue accounted for 23% of total revenue for the quarter ended June 30th, '24. Cost of revenue was $1.2 million for the quarter ended June 30th, '24, a decrease from $1.3 million in the prior year period. And as a result, gross profit was $2.7 million for the quarter ended June 30th, '24, as compared to $2.6 million in the prior year period. Our overall gross profit margin was 69% for the quarter ended June 30th, '24, compared to 68% in the prior year period, with subscription license gross margins at 72% for the quarter ended June 30th, '24 compared to 73% in the prior year period, and service margins of 58% for the quarter ended June 30th, '24 compared to 44% in the same period in 2023. Our operating expenses of $3.1 million in the quarter ended June '24 were lower compared to $3.3 million in the prior year period. Moving down to below operating expenses. The change in fair value of…

Thank you. [Operator Instructions]

We have a couple of questions that were previously submitted. So while people go in the Q&A roster, we'll handle those. All right, the first one here. What are our opportunities to expand within our existing customer base?

Okay. Great. HawkSearch is the primary expansion opportunity. And we have more than 600 HawkSearch customers. Every single one of those customers just like every single website owner on the planet, needs to embrace what's happening with AI and upgrade their site search to include AI capabilities and conversational capabilities. So we see opportunities. We've already upgraded several customers within Bridgeline for Smart Search, but we're going to have hundreds more. And in general, our pricing increases by about 35% when somebody upgrades to site search within Bridgeline. And nearly 60% of our subscription revenue is search revenue right now. So that's a significant increase for us. However, that increase really pales in comparison to the broader market opportunity. This entire market is undergoing a really disruptive shift where everybody needs to evaluate what they're doing in the search area and how customers' expectations are quickly evolving to interact with websites in a more natural way, in a multimodal, meaning images and cameras driving search, and in a consultative way, meaning that they expect websites to come back with intelligent questions and to have a dialogue to better refine what products will fit their goals. And these are all opportunities for HawkSearch to grow across a $1 billion market.

Great. Our next submitted question, how are our relationships with companies such as BigCommerce, Salesforce and Optimizely helping expand our customer base? And what does our new customer pipeline look like?

Okay. Great. Every e-commerce site has a content management and commerce platform as its foundation. And what we are doing is making it so that HawkSearch is available point-and-click out of the box on each of these platforms. That doesn't mean that you won't do any work thereafter. But it means that you can quickly try Hawk out, launch it in its vanilla form, and tune it thereafter. And this is important because it's actually different than the approach that other companies have taken, at least in the AI part of site search, where they are thinking of AI as sort of this omnipotent capability that you just enable and it drives everything from that point forward. But we're partnering with Salesforce and with Optimizely and BigCommerce and Sitefinity and other commerce platforms so that you can quickly find us in their app stores, quickly and painlessly launch HawkSearch. And then from that point forward, tune HawkSearch to have more refined results based on your evolving business needs. So they're going to be -- they're going to continue to drive a large part of our business for us. And already this has resulted in substantial improvements to our own sales pipeline. We have a pipeline now that is nearly triple the size this time last year. We've got a conversion rate that is 1.5 times what it was last year and an average sales price that is nearly double what we saw last year. And all of this bodes for HawkSearch really becoming the dominant revenue factor for Bridgeline.

Great. Next question submitted. What types of doors have opened up after HawkSearch was named a top-performing enterprise search software provider? I think that's referring to the Summer 2024 Customer Success Report on Enterprise Search for FeaturedCustomers.

Okay. Great. Well, I'm happy to say that we're getting leads directly from analysts and directly related to these awards and reports. Without naming names, I'll say that one of the largest hardware suppliers came directly from this report, and we're in a sales cycle for them right now. And that would be one of the largest customers Bridgeline has won to date, in fact. So they produce leads, they reduce our customer acquisition costs, they accelerate our sales cycle. And it's a strategic part of our marketing going forward.

Great. Let's see if we've got any other questions now?

[Operator Instructions]

We have one more submitted. I'll go through that. When will HawkSearch's momentum outpace that of other products for Bridgeline and dominate the business?

Okay. Well, from a momentum perspective, in terms of growth, HawkSearch certainly is growing leaps and bounds faster than everything else. It is very dominant, and now represents 60% of our subscription revenue. However, that doesn't shine through in our financials yet, and it will at its current pace in just a couple of quarters. We expect the growth of HawkSearch to outpace any decline in other revenue in that time period. And most importantly, because what we've done with AI and because we are in a disruptive market, I mean, site search, everyone, everyone has to reevaluate those. So they might stay with their current solution, but everyone's got to evaluate it. And with our advances in AI, this creates an opportunity for an inflection point in the site search market that could be just absolutely incredible for Bridgeline. So we're positioned for that. We're taking a leadership role in AI that is beyond what anyone else is doing. Quite frankly, we have a very deep understanding of how AI works and how it collaborates, not replaces, but collaborates with the merchandising team. And these together can completely create exponential growth in that market.

Moderator, do we have anyone on the Q&A?

We do. One moment for our first question. And our first question is going to come from the line of Casey Ryan with WestPark Capital. Your line is open. Please go ahead.

Ari, Thomas, how are you? Nice quarter.

Hi, Casey.

I have a question about, hey, great to talk to you. What are the incremental margins, you're talking about sort of expanding what the a) like example customer might spend using HawkSearch, right? What's the incremental gross margin, I guess, is what I'm thinking about. So the corporate average is 68%. But if a customer moves from billing, say, $12,000 a year or something to $20,000 because they're utilizing more features of Hawk, does the gross margin expand, say, directionally far above the corporate average?

Yes, that's a really great point. Our cost of goods sold in the -- with this increase in revenue, our cost of goods sold are essentially constant for them. So we should start seeing our gross margins approaching 80%. As our customers begin to -- and that's even without the AI. Then as our customers start using more and more of the AI, that's going to be in the mid-70% range. So I expect us to stabilize in the high-70s. And one of the things that has happened recently that has been very that I think is going to be very impactful on gross margin, is above and beyond all of that, we've seen customers that have become so reliant upon the performance for HawkSearch that they are asking for isolated environments rather than a SaaS environment, and paying a premium, to be able to isolate their performance from anyone else. And in those instances, you also start averaging in about 80% gross margin as well. So we expect to be in the high 70s altogether, and we're going to be there, and I'm talking about for subscription in the near-term. One other point on that is that our sales are, now have a much higher percentage of license to services than they have historically. And our services are selling at a premium. This quarter we had pretty high services gross margin. I think we should be striving for 50%, in that range. But the subscription will become a larger percentage of our revenue as well, Casey.

Yes. That's actually a helpful point on the services side. So that 58% margin was sort of an anomaly maybe in the quarter and it shouldn't be something we expect every quarter moving forward from here.

Right. That is an anomaly. Historically, we've been in the 40s and I think that 50 is about the highest anyone should ever expect. And if we get a 58%, then, great, we'll take it, but not necessarily repeatable.

Okay. Thank you. That's really helpful. And then one more question. I'm just thinking about on the OpEx line. Maybe this is a market that needs evangelism and there's a natural cycle to it, I think as you were suggesting, as customers need to evaluate what these tools can do for them and start to integrate them, and as you say, not integrate them. But is there any value or potential, say, in like an unconstrained resource market where more sales and marketing could speed that up or does the market feel too big and it kind of needs to move at the pace and you guys can't necessarily drive that yourself?

I think that an increased investment in sales and marketing would have results for us. We see the market is almost infinite, and our ability to increase investments in sales and marketing would be proportionally -- will proportionally impact sales for us. We have focused in R&D recently and made a lot of investments in that regard, including partnerships with some revenue share to accelerate some of the development to help manage our own expenses. But sales and marketing is a place where we're looking for ways to invest even more and, in particular, for partnerships to help manage that customer acquisition cost, because we expect that if we invest more in sales and marketing, we're going to get proportionate results.

That makes a lot of sense. Thank you. It was a great quarter. We look forward to following along as we move forward. Thanks.

Thank you, Casey.

Thank you. [Operator Instructions] And I'm showing no further questions and I'd like to hand the conference back to management for closing remarks.

Thank you, everybody. Thank you for joining us today. We appreciate the continued support from all of our customers, our partners and our shareholders. We're excited about our business and ongoing growth prospects. And we look forward to speaking with you again on our fourth quarter fiscal '24 conference call expected to be in December of 2024. Be well, everyone. Thanks.

This concludes today's conference call. Thank you for participating and you may now disconnect. Everyone have a great day.