The Cerence Third Quarter Fiscal Year 2020 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, we may refer to certain non-GAAP measures and pro forma 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 is Sanjay Dhawan, Cerence's CEO; and Mark Gallenberger, Cerence's CFO and Richard Yerganian, Cerence's VP of Investor Relations. As a reminder, the only authorized spokespeople for the company are Sanjay, Mark and Rich. I'm here for the opening remarks and as a show case for the new Cerence neural text-to-speech innovations which have been called breathtaking by one of our most important customers. Before handing the call over to, I'd like to announce several upcoming investor events. All of them have been converted to virtual events. So the exact timing of our participation is subject to change. Please visit the events page in the investor section of the Cerence website for the most up to date information on our participation. The conferences include the Raymond James Industrial Conference, the Jefferies Software Conference 2020, the RBC Capital Markets Global Industrial Conference and the Evercore Future of Mobility Forum. Now, onto the call, Sanjay.

Welcome to everyone on the call and thank you for joining us to discuss Q3 results. Despite of challenging conditions, Cerence continues to execute across the board. Before getting into the results though, I want to acknowledge what you just heard. A demonstration of one of our newest products, Cerence Reader, a neural text-to-speech application capable of reading articles based on linguistic styles associated with different types of content. Cerence Reader takes advantage of the latest capabilities in AI and processing hardware to bring amazing levels of human like speech to the car. It features long form reading capabilities, including the automatic prediction of the appropriate reading style and emotional tone based on content, context, and category of news. Jan Dusik, Head of Development Speech Output at Audi commented that Cerence Reader is quite breathtaking and will empower the next generation of our cars to interact with our customers on a whole new level. Cerence Reader is just the latest example of Cerence, Cerence engineers using AI to push the boundaries of what is capable in the car. As we're pushing the boundaries of what's possible. We're doing that what many of our customers including Audi' MMI infotainment system, and Ford, SYNC 4 communication and entertainment system, but nowhere is this more demonstrated than in the 2021 S-Class Mercedes. In a call with the media promoting MBUX Mercedes cutting edge infotainment system Nils Schanz, Head of User Interaction Voice Control at Daimler commented, I think voice AI is the future in technology in automotive excels new degree. On the same call, Nils offered some interesting statistics. He said 80% of Mercedes users say voice is the most important control element in the car. 83% of the consumers believe voice commands make it easier to search for information and 89% said…

Thank you, Sanjay. I'll first provide an update on the impact of COVID-19 on our business, and then I'll review our performance for the third quarter of fiscal year 2020 and provide a recap of our successful refinancing during the quarter. Lastly, I'll review our guidance for Q4 before taking questions. While our China R&D facilities are essentially in full operation, the rest of our locations remain mostly remote and we do not expect to return to normal workplace operations until the fall timeframe at the earliest, but more likely once a vaccine is available. Those offices that have opened have done so by following local guidelines. Although the majority of our workforce is still remote, we continue to deliver on key project milestones and our productivity has seen minimal impact as a result of these new work conditions. We realized approximately $6 million of cost savings in the quarter due to the cost reduction actions that were taken in response to the onset of COVID-19 and our expected $8 million of CapEx savings from our original plan is still on track. Next, this table provides a breakdown of the different revenue streams that make up our business. And you can see that our overall license revenue in the quarter was down 26% from the prior year. This is directly related to the impact of COVID-19 on auto production during the quarter. As Sanjay mentioned in his comments, the license revenue is the part of our business that is most directly related to quarterly auto shipments. Our cloud connected SAS revenue grew by 27% from the prior year, and professional services grew by 25%. As mentioned on prior calls, the growth in pro services is a leading indicator of future growth potential of our license and connected services as these…

[Operator Instructions] Our first question comes from the line of Chris McNally with Evercore. Your line is open.

Great, thanks so much team and congratulations on the great result. My first question you made a comment on I believe that the last two calls about your market share of wind, one point being 90% plus. Just curious without – doesn't have to be a hard number, are you still seeing that sort of momentum? We obviously haven't heard too many other major announcements whether it's from Google and I think you're actually winning back some of your business from Babel and Gaily [ph] there, so just maybe something about market share and sort of your booking success.

So let me start and – hi, Chris and then I will hand over to Mark if he wants to add. So Chris we remain very focused in the quarter on bookings. And as I stated in my opening remarks that we are very proud to have the second highest bookings quarter in the history of our company, given this was a COVID-19 affected quarter. I was keeping my fingers crossed, because we were – a lot of our customers were distracted obviously, with production issues and so on and so forth. Still our sales teams working closely with the customers were able to close very solid bookings. And that basically comes back to – I think in terms of – our win rate remains very consistent. As we have said before eight to nine deals or ten that we bid for we do and so overall we were maintaining that win rate, which really comes back to the product and the innovation and so on. I also said in my remarks, Chris, that with no travels happening in this last quarter our teams were extremely focused on product and innovation. And you will see some of the new product announcements, but there are some very interesting and exciting ones coming which would help us with hopefully maintaining the future win rates as well. Mark, anything you want to add to that please?

No, I think you've covered that, Sanjay. I think the business continues to do very well competitively. Whenever we do compete those win rates that we've seen historically have not materially changed. So that's why I think our market share is pretty solid today and it should continue into the future.

Great, and then maybe just on the core business and some of the strength in the quarter, I mean, if we look at the license revenue obviously almost 20 points above production, sort of implies depending upon the, the calculation that your ASP is up nicely and you've talked about this becoming a larger portion of the business about doubling the license per car. But should we assume that maybe some of these higher end products, MBUX and maybe some of that you can't disclose have already launched so that this sort of ASP trend in licenses is something that we can think about over the next several quarters because obviously, you'll be shipping more and more units to those – of those higher end – that higher end mix.

Yeah, so I can start and Sanjay, you can add to it. But I think in terms of – we're seeing some good ASP in on the billings right now, you could see in the new KPIs year-to-date, we've seen an increase of about 7% versus the prior year. I think as we continue to add more of the features to that software stack, we're going to be able to drive higher ASPs. Also keep in mind when you have a connected car in conjunction with the edge license that we have that becomes additive. And so as more and more cars become connected, our total revenue per vehicle will be growing just because you're now layering on top of your edge license revenue that connected licensed revenue. So that's another component that we think that trend obviously as with more cars getting connected in the future, that trend of layering on top of our core edge ASP should help our revenue per vehicle overall.

Okay, great. Thanks so much team.

Thank you. And our next question comes from Jeff Van Rhee with Craig-Hallum. Your line is open.

Great, thank you. Thanks, guys. Great job, well, just really impressive what you've gotten done here. Several if I can sneak him in here, first on the connected side. I'm curious on these recent wins, what the landscape looks like on those deals, particularly as it relates to what is your arbitration role in the latest wins? And how is that different from what you might have seen 12, 24 months ago and same thing along the lines of the ecosystem of other solutions, right, your whole vision of this connected life and everybody has their platforms of choice, but just how are you seeing that play out in the most recent connected wins?

So the most recent connected win has us – I'm just using one of the few examples, here in the Granted States has us coexist with Alexa Auto. And I have said in the past, also that I see absolutely a role for consumer tech companies to coexist in the car, because what the customers want is they want the car not to be a separate technology island, but an extension of his or her digital life. And the digital life of a consumer is more than just a single consumer tech company. It includes Apple, Google, Amazon, others, right. And so from Cerence's standpoint what we are doing is basically applying that philosophy across the board. And you will see, although we have launched our cognitive arbitrator that does both wakeup word-based arbitration and also intent based arbitration in the car, but we're not stopping there. You will see in this quarter, some other absolutely very innovative products that I'm very excited about that will further kind of extend this philosophy of helping the consumer to bring his or her digital life in the car. That's the philosophy that we have in our products and innovations, but at least one of the major cloud deals coming back to your question ahead us coexist with Alexa. I'm just trying to remember if there is anything else that – yeah. No, I'll just stop right there and maybe offline I'll follow up with you as I dig a little bit more deeper with a few of my colleagues about some of the China wins and the architecture there.

Fair enough. And then with respect to – I guess, as we've been talking to a lot of people even around your ecosystem, there's certainly an impression amongst those that work with Cerence that the company has gotten notably more agile responsive, easier to deal with. And I'm kind of curious, I know you made some changes early on with respect to R&D, you touched on the innovations. But I guess as I try to understand where the real surge in innovations, when that surge comes and how long it takes those changes in development to really yield results. Certainly, you've got a lot of innovation now, is this already reflecting the changes that you've made? It seems like it might be a little early for that. And the bulk of the substantive changes you've made are not yet visible or how should we sort of broadly think about that?

So firstly, the whole thesis of the spin of Cerence was to kind of enable us to focus in transportation and mobility and that was the whole thesis of kind of creating Cerence because we were, as you know, about a year ago, little less than a year ago, a smaller division of a larger company and now being focused in transportation and mobility gives me and my team the freedom to kind of move fast, innovate fast and so on. Now, I'm actually very proud of our product management teams across the world, who kind of innovate and then R&D teams to execute on those products. I wouldn't say we're only about one third into kind of sharing with all of you some of the new products and innovations, we're still half to two thirds away in terms of the new stuff that we have been working on, As you know product cycles take roughly between one to two years, they do kind of get it done then – and so on. So we're in that cycle right now, of reinventing the company and focusing. Our role – my goal is very simple. If you look at one of the slides that is there in this earnings package, you will basically see kind of how we have the core of the business, right, which we continue to grow and support with products and innovations and new technology. And then we're basically kind of expanding the core of the business in four different areas, which I list in this strategy – strategic plan slide and you will see new apps which have that SaaS sort of revenue. Two have them we have already announced, third one, we are working on that we plan to announce in the coming months. We're looking at adjacent markets. I commented on that a little bit. We have our first win in the two-wheeler market in last quarter. We're looking at other adjacencies to automotive. We're looking at extending the consumer digital life. Cognitive arbitrator was the first move, but we have couple of other moves that we're working on that we will be announcing later this year. And finally, we're also looking at how do we get into cars that have been shipped before without the Tesla sort of technologies, right? So how do we take an older car and make it kind of look and feel and drive like a Tesla, right, so from a user experience standpoint. So we're looking at kind of all aspects to grow our PAM, our SAM and basically do that with the products and innovations.

Great if I could then sneak one last one and Mark the – as it relates to the licenses. I know, a while back, I think you had a propensity to move away from prepaids. We saw a bump last quarter, and it was certainly well ahead of my number this quarter as well, you're strong on all lines, but that one continues to remain stronger than I would have expected. What is it about the behavior of the buyer preference that's leading to that number being so strong? And do you expect that's kind of the way we should think about it going forward?

Yeah. No, it's a good question. We had initially targeted about 40 million of prepays for the whole fiscal year. But it's difficult to predict because they can be lumpy. They're typically a small number of customers. And depending on the size of those deals, that could really drive some of the lumpiness. So it is a little bit of a challenge to predict exactly when and how much those prepays are going to be. So I think for this fiscal year instead of being at 40 we're going to be in that in that 50 million to 53 million range for the year. I think our bias is to continue to hold those prepays flat to down over the long-term. But I think just the first year here, it's been a little bit more challenging to predict when those opportunities arise. I think the good news though is with some of the short-term uncertainties, locking in some of these prepays, certainly does help not only on the revenue, but also helps us on cash flow during these difficult periods. So we actually are a little bit more receptive during these uncertain times to lock in some of these licenses now versus waiting for the future.

Sounds good, thanks again guys.

Thank you. Our next question comes from line of Chris Merwin with Goldman Sachs. Your line is open.

Hi, thanks very much for taking my questions and congrats on a great quarter. So I wanted to ask about one of the KPIs that you started to disclose, it looks like billings per car was up in the year-to-date 7% year-on-year and that's excluding the legacy contracts. I was hoping you if could maybe unpack that for us a bit it in terms of what's driving that increase? Is that the connected business and I guess in general, how does the pricing for the new connected business compare to the legacy contract at this point and you feel like you still have good line of sight into steady increases there and revenue per car from the connected business? Thanks.

Yeah, so I can start – Sanjay, you want to start or you want me to?

Let me give a quick comment and then I'll hand it over to you. Sorry for that Mark.

That's okay.

I'm very anxious to talk to Chris. So Chris, firstly, we saw a very healthy new bookings on connected services in the last quarter, it was our highest if you compare between kind of in a connected and edge bookings as a ratio, but last quarter I was extremely happy about that. Secondly, I think some of the new products that we had talked about previously right, which is enhancing our core voice platform with multi-modality-based interactions which are tied to the car sensors. These cars – these products obviously, add to the billing per car growth number. And thirdly, on the connected side as well, the reason we call the legacy, the legacy is – that was a very different business model than almost six, seven years back, but from a new kind of connected services revenue model, we had another larger bookings here in North America and that was also basically met and exceeded our ASP sort of per car guidelines as well. So all in all that's kind of – basically those three elements are feeding into this growth. But I'll have Mark give a little bit more color. Mark.

Yeah. No, I think you've covered the majority of those points Sanjay, I was going to just mention that excluding legacy contract, obviously, is pretty important if – just because that was a very different model and that's why we've excluded the legacy contract, which by the way is winding down anyways from a billings perspective and it's winding down as we had expected this fiscal year.

Okay, great. And then I guess my second question would just be on free cash flow, obviously, there's a really nice beat in the quarter on EBITDA, free cash flow is a little bit lighter than what we had modeled. I know you also mentioned that you had a nice contribution from prepaid licenses. So do you mind talking a bit about some of the dynamics with free cash flow and how we think about the rate of EBITDA converting to free cash flow going forward as well?

Yeah, so the reason why I made a comment in my prepared remarks around our CFFO, which is given where we think we're going to be at the end of the fiscal year, we're right on plan as to what we originally laid out almost a year ago, which was to be in this range of 42 to about 50-ish million of CFFO. And so that was even before COVID. And we think that we're going to be in that 43million of CFFO range. So no surprises, we said we would be in that range, we think we're going to be in that range. And we attributed that to the drop in the legacy contract and how that's winding down. And so that will – we've been very open about that. We've been talking about that issue for over a year now and that's playing out as we expected. So that's where the conversion from EBITDA down to CFFO, we said that that was going to put a headwind on that conversion rate for this year, and also going into fiscal year '21. Once we get into '22, things will start to normalize when deferred revenue becomes a source of cash again. And so we're almost there. I'd say we're about halfway through that period. And I'd say that we're pretty much right on plan in terms of what that conversion has been in terms of EBITDA.

Well, makes sense. Thanks very much, and congrats again on the quarter.

Thank you.

Thank you. And our next question comes from the line of David Kelley with Jefferies. Your line is open.

Hi, good morning and thanks for taking my questions. And maybe to start with 2024 guidance, commentary and you reiterated your outlook. I was just curious to your views on what has changed since you published your chart targets in February, clearly the auto industry itself has reset. So your initiatives have to be gaining traction here. So how much of the confidence stems from improved visibility to new product initiatives and customer reception to those versus say visibility tied to accelerating adoption of connected cars and your core product leadership?

Yeah, so I can start and Sanjay, you can add some color. But we still believe pretty strongly about the FY '24 target model that we put in place pre-COVID. Once again, it's a longer-term model, of course and so we don't see any changes to the secular story, right. I mean, cars are getting more connected, increasing penetration continues of the digital car. So all of those elements, whether pre-COVID or post-COVID, those elements have not really changed and so that's going to be obviously a key driver for us to hit that target model three or four years from now. And so that's largely intact. And so I think that in conjunction with the fact that we continue to invest pretty heavily, we're innovating, delivering new products, which are being well received in the marketplace, all those things combined gives us the confidence in not adjusting that target model because even though there's a short-term blip in auto production and auto sales this year, long-term the thesis in the secular story is still intact. Sanjay, I don't know if you want to add anything else.

Yes, I do. I do want to add a couple of things. It's a very important question. So basically from a new booking standpoint, we're focused on cars and systems that will be – that will go into design to be shipped in sea by '24, sea by '25 now. So we already have a pretty strong backlog. We disclosed at the start of the year and then you can do the math based on some of the bookings in a commentary that that Mark and I shared with you last quarter, this quarter, et cetera. So we're obviously, kind of adding to our backlog, which is what's going to kind of gives us the confidence in the model that we presented to you. And on top of that we are – what I said in the February analyst meeting was that we are trying – we are layering new products onto the existing installed base to kind of further grow our ASP and also grow our revenues, right, both short-term and midterm. So I think these things combined basically gives the confidence in the FY '24 model that we shared with all of you.

Okay, got it. That's really helpful color. And maybe a follow up on that last bookings point and you referenced bookings this quarter being the second highest in history. I would also assume there was some natural pullback and the opportunities just given the broad disruption day-to-day business. I was curious to either your visibility into the go for bookings pipeline, should we expect that to accelerate pretty aggressively into the fourth quarter and 2021?

So our pipeline looks strong for the current quarter and as we get into next fiscal year as well, purely COVID-19 created destruction, right. No questions. Having said that, the core transportation mobility like I said in my prepared remarks, one may argue that people may want to buy more cars and not use shared transportation short-term, right, which will fuel kind of further activity. Time will tell. From R&D spin standpoint for the OEMs we're seeing them still commit to the new product architectures, new product design differentiation using experience as a key. Product innovation is something that they're willing to invest in, right. So we're not seeing any major changes to long-term view because remember like I said, the decisions that they're making today is for cars that you ship three, four or five years out, right, basically. So those programs continue to be funded by the OEMs.

Okay, great, super helpful and thanks again for taking my question.

Thank you. Our next question comes from the line of Joseph Spak. Your line is open.

Thanks. Good morning, everyone. Sanjay, they say imitation is some serious form of flattery and with the new MBUX S-Class experience now that other auto companies have seen that product and how the entire experience can be voice centric. Have you seen increased interest from some other competitors and automakers?

Absolutely, yes. That's the best sales tool that I got this quarter. Every sales guy in our company has a DAC with our contribution onto that platform and so on and so forth. And those discussions are happening because we want to – others want to learn from kind of what's possible in close partnership with us, right. So we're absolutely having that discussion.

Okay, great, maybe on Cerence Pay and rear initiatives that you announced with Audi, I realize it's still early days. But specifically, I guess, with the Pay product, how does – is there anything you could tell us about how the financial model works since there were – it was announced with a bunch of other partners as well?

Yeah, so firstly we're not trying to be a payment gateway. There are plenty of payment gateways out there. We partner. So we're not the clearing house for the payment, right. We partner for that. What we're trying to do basically is to make that contactless payment much more simpler and easier for an OEM to bring in the car. So that you can drive up to pump number 15 and say, hey, Mercedes pay $50 on 15 and you're done, right. We're bringing voice biometrics and other integrations with partners to basically enable such an experience, right. The business, model little early for me to comment because we're having that – those discussions with various different OEMs right now, but it's very much based on revenue share.

Okay. Mark, maybe just finally and thanks for the comments on the 2024 model. But given that there's such a high recurring nature of the revenue and even on the portion that's volume dependent that's generally sourced years ahead, so can you let us know how much of that 600 million would you say is secured right now?

Yeah, I haven't done all the math to that I could really share with you in terms of a specific number. Clearly our backlog is quite large. We only disclose backlog once a year. But you can probably do a roll forward of our bookings year-to-date, at least the six months year-to-date and see that it's fairly substantial. And about that – that backlog, about 50% of it is probably going to turn into revenue over the next three years. And then the other 50% is beyond that. So I can give you sort of that anecdotal view of the world. But to give you a specific number, I don't unfortunately have that. But yeah, we do have great visibility. I mean, the bottom line is we do have very good visibility. These contracts are multi-year, they extend for many years into the future because our customers don't just make a decision based upon one model year, they base it off of a multiple year platform decisions. So that – once you're locked in, that's the luxury of being in this business, right. You are afforded that kind of visibility. So that's really what sort of color I can provide you at this point.

Thank you. I appreciate that.

Thank you. Our next question comes from the line of Jeff Osborne with Cowen and Company. Your line is open.

Hey, good morning. Most of them have been asked, but I just wanted to get Mark, a better handle on how to think about OpEx over the next few quarters. You had some austerity measures as COVID started and things picked up pretty sharply on sales and marketing and G&A here this quarter, how should we think about the next few quarters there?

Yeah, so we did – at the start of the pandemic, we decided to act quickly and adapt quickly to this environment, it's always better to go deeper than what you feel like you need to, just so that you're ahead of the curve. And so I think we were satisfied with that decision. Now, that we're – it feels like we're kind of past the worst period now. We are looking to add back some of those expenses. But we're going to be somewhat conservative because there's no vaccine and we're not out of the woods entirely from a global economy perspective. And so in Q4, we will be adding back some of those expenses, especially as it relates to professional services so that we can make sure that we deliver projects on time or even ahead of time. Once we get into the next fiscal year, we are doing that planning process right now and then we'll be providing some guidance in three months from now, on the next earnings call, as to how do we want to start adding back some of those headcounts that we basically put on hold for the last three to four months. I do expect a return to some growth of our headcount in fiscal year '21. But it's going to start first with contractors because that's where you can turn those on quickly and turn them off quickly. And we want to be probably a little bit more conservative as it relates to adding permanent headcount. But certainly, I think going into '21, if things continue to move in this direction, we will be adding back those expenses.

Got it, that's very helpful. And then I think you mentioned originally that the intent for this year was to spend about 35 million in CapEx and then I think you've pulled eight out of that or deferred that, so should we think about sort of 27 for the year and then that eight blowing through next year, which I think the intention originally was to spend about 7 million a year in CapEx, so is next are going to be closer to 15?

Yeah, so I think your math is right on fiscal year '20. We originally thought to 35, we took 8 million out of it. So it's about 27 for this fiscal year. Going into next year, I want to take the entire eight and just push it into next year. I think we're going to be able to see some savings as it relates to that $8 million and not have to just push it all into next fiscal year. So next year, we've talked about a $6 million to $7 million run rate CapEx. It might be a little bit higher next year because of the $8 million push, but it won't be the entire eight, maybe roughly speaking maybe about half.

Okay, that's helpful. And the last question is just a clarification. Did you say in the prepared remarks that you would have – either have announced two SaaS contracts Car Play or Car pay and Care or you will be announcing those next quarters. I was a bit confused as to the timing, if certainly had the press releases about them, but it was unclear do you actually have the booking in hand for those, about 75 million for '24?

Yeah, we've announced the products and we expect, like I said, even in the previous statement that we hope to have the bookings this quarter. We're engaged with several customers. And some of them are late stage discussions, right.

Excellent, thanks.

[Operator Instructions] I'm not showing any further questions at this time. I'd now like to turn the call back to your speakers for any further remarks.

Okay, thank you for joining us on the call this morning. We look forward to engaging with you at upcoming conferences or in one on one calls. Thank you. Have a good day.

Thank you.

Thank you.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.