Phunware, Inc. (NASDAQ:PHUN) Q1 2023 Earnings Conference Call May 11, 2023 4:30 PM ET

Company Participants

Russell Buyse - Chief Executive Officer
Matt Aune - Chief Financial Officer
Randall Crowder - Chief Operating Officer

Conference Call Participants

Darren Aftahi - ROTH MKM
Scott Buck - H.C. Wainwright
Howard Halpern - Taglich Brothers
Ed Woo - Ascendiant Capital

Operator

Good afternoon, ladies and gentlemen, and welcome to Phunware's First Quarter 2023 Investor Conference Call. [Operator Instructions] Joining me today are Russ Buyse, Chief Executive Officer; Randall Crowder, Chief Operating Officer; and Matt Aune, Chief Financial Officer. The format today will include prepared remarks by Russ, Matt and Randall, followed by a question-and-answer session.

As a reminder, today's discussion will include forward-looking statements. These forward-looking statements reflect current views as of today and are based on various assumptions that are subject to risks and uncertainties disclosed in the Risk Factors section of our SEC filings. Actual results may differ materially, and undue reliance should not be placed on them. Additionally, the matters being discussed today may include non-GAAP financial measures. Reconciliation of GAAP to non-GAAP financial information is set forth in the earnings press release, which is available on the Investor Relations section of Phunware’s website at investors.phunware.com. I further encourage you to visit investors.phunware.com to access not only the earnings press release, but also the current investor presentation, SEC filings and additional collateral on Phunware.

At this time, I would like to turn things over to Phunware’s CEO, Russ Buyse. Sir, you may proceed.

Russell Buyse

Thank you very much, and welcome to our first quarter of 2023 investor conference call. Contextual engagement, how to interact with users where they are, when they are to enhance their experience and reach them in a potential buying moment. That is what Phunware is all about. We bring contextual engagement to brands trying to achieve just that. We made huge strides in Q1 in realizing this purpose.

Starting with the product platform, we progressed both our mapping and engagement SDKs, which form the foundation for contextual engagement. We updated our SmartApp module, which underpins our industry solutions and creates a consumer-grade experience for our customers. And we updated our health care industry solution, our offering to enable health care providers to provide exceptional patient experience. We also launched our Experience Optimizer, which streamlines the patient experience across different hospital buildings and curates unique experiences for sub-brands of large hospitality companies, all without requiring the download or management of multiple mobile applications. This flexibility is a boom to brands and users alike.

And while we're talking about product progress, the U.S. Patent Office has awarded Phunware a patent for geofence event prediction technology, a technical innovation that uses machine learning to predict what experiences will matter most to users based on their location, preferences and previous activity. All of these advances serve to enhance brand's ability to delight their users with a more compelling experience and underscore the tremendous progress we've made as a company. On the customer front, Phunware finished its deployment with Gaylord Hotels by Marriott the Opryland, Texan, Rockies, Palms and national properties are now fully operational. Our deployment teams finished this rollout both under budget and ahead of schedule. VHC Health also expanded their engagement with us, adding 250,000 square feet with their outpatient pavilion and a parking system integration to boot.

We have several large opportunities in a late stage in the pipeline that we hope to announce soon. The current selling environment is pretty challenging with rising interest rates and nervousness around where the economy is headed, that has delayed decision-making with some prospects. Fortunately, we've been unaffected by the stresses seen on regional banks over the past quarter. I'm also delighted to tell you, Funerwear has joined the Siemens Connect ecosystem, a network that brings together experts in software development, IT, cybersecurity, remote and digital services and business intelligence. This partnership brings the power of our Blue Dot wayfinding technology to optimize smart buildings. Our smart workplace and multi-dwelling unit solutions integrate seamlessly with Siemens platforms, including as building management system, GezagoCC, the Apigee automation system and related platforms.

We look forward to working closely with Siemens and other Connect ecosystems network experts to deliver exceptional experiences to our customers as they journey towards smarter buildings and infrastructure. We see partners as an efficient and effective way to broaden our reach to target customers across markets, and we will be enlisting more of them to complement our direct sales force. We are also strengthening our marketing effort and investments to drive more customer awareness, including publishing more thought leadership content and ROI studies, demonstrating the opportunity and imperative of adopting our industry solutions to reduce costs, gain efficiency and increase revenue alike.

On the blockchain side, we continue to work on PhunCoin and PhunToken to facilitate the marketplace between brands and consumers, where brands can reward consumers for the right to engage them. As I mentioned last quarter, we're taking a slow and steady approach on this, given the current crypto winter and continuing regulatory headwinds. This privacy preserving and fully compliant offering will include ads and offers to help brands reach audiences they want, and it will complement our industry solutions to give our customers greater power to reach their existing and prospective users.

On the hardware side, our light business unit faced the same headwinds affecting the whole PC market in Q1. However, we managed to outperform the industry averages while maintaining discipline on customer acquisition and materials costs.

And now our CFO, Matt Aune, will cover our financial performance.

Matt Aune

Thanks, Russ, and good afternoon, everyone. I'd like to thank you all for joining us today for a review of our first quarter 2023 financial performance and our progress on key strategic initiatives. For clarity, I'll be discussing GAAP financial measures, unless otherwise specifically noted. Our press release, 8-K and website provide a reconciliation of all GAAP to non-GAAP financial results.

Net revenues for the first quarter of 2023 totaled $4.7 million, of which our platform revenue represented 28% of net revenues or $1.3 million. Our hardware revenue or light by Phunwear, represented 72% of net revenues totaling $3.4 million. Gross margin was 7.6% compared to 26.1% last year. On a non-GAAP adjusted basis, gross margin was 12.9% compared to 26.8% last year. Platform gross margin was 5.5% compared to 57.2% last year. On a non-GAAP adjusted basis, platform gross margin was 23.4% compared to 58.9% last year. The cause for the year-over-year drop can be primarily attributable to a mismatch of cost of goods sold and the revenue associated with it.

As previously mentioned, we are extremely excited to have completed the Gaylord deployment in Q1. However, GAAP revenue recognition for this project requires that the revenue will be taken over the 5-year life of the contract, which means all the costs associated with deploying the multiple locations in Q1 are not offset by revenue in Q1. If we were to be able to match the revenue, our non-GAAP gross margin for software would be much closer to last year. This will happen from time to time as we continue to build up a bigger base of SaaS revenue that ultimately will be able to absorb the shift in margins from a single project during the quarter. Our hardware business life by Phunware continued to show operational improvement by terming the business unit's adjusted EBITDA loss by 46% quarter-over-quarter with a target of reaching profitability in the next 1 to 2 quarters.

Total operating expense was $7.6 million, up from $6.8 million last year. Other noncash operating expense items were stock-based compensation and amortization of intangibles, making up a combined $1.3 million this year compared to $0.7 million in the prior year. By excluding these noncash charges, adjusted operating expense was $6.3 million compared to $6.1 million last year. We are pleased to see that our non-GAAP operating expense was dropped quarter-over-quarter for the third consecutive quarter. Non-GAAP adjusted EBITDA loss was $5.6 million compared to $4.2 million last year. Adjusted EBITDA loss was narrowed for the second consecutive quarter as we continue on the path to breakeven. We still have a ways to go to get to breakeven, but we are committed to showing improvement in this metric and look forward to sharing long-term breakeven plans in the future.

Net loss was $4.3 million or $0.04 per share compared to $14.9 million net loss or $0.15 per share last year. Weighted average shares used to calculate earnings per share were $103.2 million versus $96.8 million last year. Backlog and deferred revenue at the end of the quarter totaled $5.7 million. As Russ mentioned, we have several large deals at a late stage in the pipeline and expect the Q1 backlog and deferred revenue number to be a low point for the year. Moving to the balance sheet. We closed the quarter with $0.7 million in cash and $5.7 million in debt. We currently hold approximately $2.8 million of cash and digital assets based on today's prices.

We are actively evaluating various debt and equity options to fund operations as we continue to push towards cash neutrality. We will remain active with both financial conferences and investor meetings and our efforts to tell our story and further strengthen our corporate profile in the capital markets. The next major financial conference we will be attending is the 18th Annual Needham Technology and Media Conference May 16 through 18 and the 2023 Cancer Fitch Gerald Tech Conference on June 14 through the 15. We look forward to many one-on-one conversations and meetings with high-class institutional investors at those events and other financial conferences as opportunities present themselves.

With that, I would like to turn the call over to Randall.

Randall Crowder

Thanks, Matt. During the quarter, we took great strides to streamline how we price, contract and bundle our core offerings. For a simple annual license, any enterprise can launch a branded mobile application that is configurable, scalable and capable of any number of integrations with third-party point solutions to include our very own best-in-class location-based services that delivers real-time blue dot and advanced wayfinding. At Phunware, we can now take care of everything from any required hardware to professional services to maintenance, so our customers are only responsible for a straightforward software license. This is actually an important change that has been very well received by our prospects. In the past, we still sold like a custom development shop that resulted in overly complicated contracts and sometimes sticker shock, but now we are offering simplified SaaS pricing, we believe, will drastically improve our sales cycle and close rate.

Enterprise customers don't need to settle for low-code templated apps that will not scale and are limited in both features and functionality. They can now launch an enterprise-grade mobile application on our proven platform for less than $5,000 a month. Our platform approach is important because our customers benefit from all the product improvements we are making. For example, we successfully tested our configurable location-based services solution at Gaylord Opryland Resort and Convention Center in Nashville. This is something that many vendors have tried but failed to deliver and was something of a unicorn in the conference industry. However, Phunware has made the impossible possible. Our platform can finally help event attendees optimize their time and route to the right exhibits while giving organizers the ability to personalize attendee engagement conference organizers and venues can seamlessly reconfigure convention center space and our routes will adjust to account for any new layouts without additional hardware or fingerprinting.

We are thrilled to be working closely with several strategic partners who will be reviewing our solution live next month. These partners are able to open significant doors across the hospitality industry, both locally and abroad. Speaking of conferences, we were thrilled to partner with TD Senex at HIMSS in Chicago this year and showcase our digital front door to numerous health care prospects. We also made great connections at Vive in Nashville and next month will be at Biotech in Las Vegas for casino resorts as well as High-Tech in Toronto, which remains the premier hospitality conference each year where we'll be showcasing our amazing work for Atlanta Pajamas and Gaylord Hotels by Marriott. Regarding blockchain, we are still on track to issue approximately 25% of PhunCoin's maximum supply to securitize this summer with regulated trading to follow thereafter.

At this time, we are working to ensure all rightful holders have been notified and given time to properly set up their accounts. With the successful test of Phunblocks via PhunWallet, we are also looking at new ways to drive fun token utility and leverage its functionality within third-party applications. Switching gears to light, we are excited to announce our new workstation line will be available this summer as well, which will increase the size of our serviceable market and take advantage of our growing brand awareness despite headwinds in the industry due to macroeconomic trends.

For closing remarks, I'd like to turn things back over to Russ.

Russell Buyse

Thanks, Randall. To conclude, I am very happy with the progress we've made this past quarter and the changes we've made to extend our reach and deepen our contacts with customers in our target markets. You can expect more developments on these fronts from us going forward as we invest more time and energy into sales and marketing. We're all about market growth, meeting customer needs with our market-leading solution focused on contextual engagement. Expect to see bookings growth and spending discipline to control our OpEx. At the same time, our strategic transactions committee is actively looking for opportunities to grow the business through inorganic transactions.

And one last thing, we are no longer using the term multiscreen as a service or MAS as it fails to capture the range and significance of the investments we've made in our software platform. We call it our location-based platform, which is about more than just a screen and whose capabilities any enterprise can activate almost immediately. We deliver everything you need to engage anyone anywhere in a mobile-first world where context matters.

I would like to open up the call now for questions to the operator. Operator, please go ahead.

Question-and-Answer Session

Operator

Thank you. At this time, we will be conducting a question-and-answer session. [Operator Instructions] Our first question is coming from Darren Aftahi with ROTH MKM.

Darren Aftahi

Two, if I may. On your pipeline, can you characterize, I guess, one, how that's changed in the last 90 days? And maybe what verticals those deals are in right now? Sorry, go ahead.

Russell Buyse

So I was just going to say that good to hear your voice again. And how things have changed over the last quarter as we see more opportunities to have join the pipeline and the ones that were kind of in middle stages are now in later stages. And the 2 verticals that we see the most activity in are in hospitality and our health care, which are 2 favorites.

Darren Aftahi

Great. And then that kind of leads to my second question. Given the inroads you've made in hospitality and all the book law around generative AI, I'm just wondering, is that in the sort of road map in terms of integrating that into your platform just in terms of opportunity to provide clients with maybe more revenue opportunity or lift over time?

Russell Buyse

Well, AI is something we're certainly keeping an eye on, especially as large language models that have come up with very naturalistic write and speaking -- or excuse me, written language, which, of course, could be turning to spoken as well. And we're just looking for opportunities like where that would make sense for us to plug it in. We are about contextual engagement, which is reaching those consumers where they are and when they are. And so there may be an application in the way that we offer essentially, if you will, the writing that will allow them to reach those customers. We're still looking at that.

Darren Aftahi

Great. Maybe one last one for Matt. Just your comments about the mismatch on revenue and deals and costs when you called out Gaylord. But like is there any way to kind of smooth that out? Or is that just a function of GAAP accounting and so our of our hands and grow?

Matt Aune

Yes. I mean it is more or less a function of GAAP a County. Certainly, over time, as we're able to deploy quicker with less resources, there's not going to be as much of that upfront work. And also, as I mentioned on the call, I mean, we've got to build up a bigger base. So like if there's one customer has happened to last quarter, it had a pretty significant impact on the margins, whereas next year, if something like that happens, it might only change margins by 2 or 3 points. So it's a matter of we need to grow that base more. And then as we mature more and more, these deployments will get faster and faster. I mean Gaylord was already fast, but still there was a significant amount of work just going to the 5 different sites. But we should see that improve over time. It's just nothing that we can do kind of in the short term just as of the GAAP accounting rules.

Operator

Our next question is coming from Scott Buck with H.C. Wainright.

Scott Buck

I'm curious, could you give us just a little bit of color on what expectations are in terms of scaling up the partnership with Siemens and maybe when we could expect to see some incremental revenue from that partner?

Russell Buyse

Well, we're sort of hot off the presence in announcing that Siemens partnership. So we -- there's a period of kind of bring up of getting that partnership going and doing the cross training and whatnot. But we do expect to see deals kind of enter the pipeline within a quarter or so that will be related, especially to the smart workplaces, certainly with Siemens strength here. And it's going to really be a function of Siemens kind of a working set of opportunities themselves. But like I'm expecting to see concrete business that we do directly out of that partnership within a quarter or 2.

Scott Buck

Great. That's helpful, Russ. And then on the hardware business, it looks like revenue is down kind of 20% year-over-year. Is that just, I mean, macro environment and then people cutting back on discretionary spending? Or is there something else going on there? And as a follow-up, I seem to remember you guys were going to put -- had some new products there in the pipeline. What's the status of those?

Russell Buyse

Yes. Thanks for asking. The entire PC market, including Mac is actually off quite a bit in Q1. The PC group was basically off almost 30% and Apple, their Mac sales were down 40%. So we actually were tracking 10 points ahead of the cohort there in the PC space. And so what we've done is really just focus on the cost discipline around customer acquisition costs and make sure that we stay in line with our build costs as well. So we're tracking kind of ahead of plan if we had kind of a normal market. I think that we'd be seeing greater revenue out of that as well as better than the bottom line, too. And you asked about wider products in -- for the light unit. We are expecting to introduce the workstation lines this quarter. So that will give us offerings that are aimed at power business users, and that's a good complement to the gamer market that we already serve.

Scott Buck

Great. That's helpful. And then last one for me. Just on OpEx, you guys have done a nice job kind of reeling that in versus the last few quarters. Curious if you have some additional levers there to pull or what we're looking at this quarter is kind of the expected run rate here for the rest of the year?

Russell Buyse

Yes, Matt, I'll let you talk about that one.

Matt Aune

Yes, sure. Yes. No, I mean we're -- this is something we're constantly looking at. Like I said on the call, we've had a couple of consecutive quarters of reducing it, and we anticipate Q2 will be reduced as well. So I mean, in terms of levers, I mean, we're -- majority of our OpEx is headcount. And so we're evaluating that account and making sure we're rightsized for the number of deals we have. We have made a few -- trimmed a few here and there towards the end of last quarter that you're not really seeing the impact of in Q2 yet. So I think there'll be a little bit of savings there. And then we'll just kind of evaluate going forward and make sure if the staff we have is the stuff we need to continue to grow. But again, it's going to be a slow process. I don't see -- weren't going to drop $1 million or $2 million in OpEx in a single quarter, but it's mostly just a process of continuing evaluating and making sure that we're terming those expenses quarter-over-quarter.

Scott Buck

Great. Appreciate that, guys. Thank you very much.

Russell Buyse

Thank you.

Operator

Our next question is coming from Howard Halpern with Taglich Brothers.

Howard Halpern

Are you -- with the pivot, I guess, towards much more now the Software as a Service, SaaS-based model, are you seeing less hesitation by customers then because a lot of businesses are seeing hesitation deploying a fund. But with your business model now and your customers or customers in the pipeline, are they really committed to going forward with the projects?

Russell Buyse

Yes, they are committed. And what this -- what we've done, which is in simplifying the pricing for them, we've taken kind of fewer variables for them to have to consider. We had formerly had broken out all the costs around fulfillment and beacons around location-based services and everything was kind of unbundled. And we kind of rebundled it together. And it just makes it easier for them to understand and it's also easier for them to say yes because they don't have to contemplate sort of being their own -- thinking about every little option and addition that goes in there. And also, as you heard Randall talk about earlier there, we've also lowered the floor, if you will. So now we have a bundle where customers could get started for as little as 5,000 a month. And so that gives us much more range and variability in terms of the packaging that we can offer. It doesn't affect the margins or the size of opportunities at the enterprise end, it really opens the middle in the lower end more.

Howard Halpern

Okay. And in terms of your partners, I know you just announced Siemens, but prior announcements, are most of those up and running fully trained and bringing in leads?

Russell Buyse

We have a few that are up and running like that, and we are working on more partnerships where we expect it to broaden this, especially in markets where we don't have a direct sales effort. It's not exclusive to that. But as mentioned with Siemens, they're doing a lot of work about kind of building and constructing the smart workplaces in the future. And that's an area where we have like a specific outbound focus from within Phunware. And so we're looking for those kinds of players. And of course, we've got -- we've approved kind of the training materials and the structure of the agreements to make it easier to train their sales folks as well as to give them the proper incentives to be our advocates here. So eventually, this will turn into a model where instead of kind of co-selling with them, it's pure indirect where they can completely do it on their own...

Howard Halpern

Okay. And one last one for Matt. I guess, going back to the mismatch in revenues, especially with Gaylord you brought up. But the revenues now that will you'll be able to recognize going forward, they're going to be extremely high margin revenue, it's not 100% revenue margin?

Matt Aune

Yes, certainly. So yes, that portion is kind of devoted to the deployment will essentially be 100% gross margin going forward, that'll be blended in with our kind of support and maintenance continuing for the next several years. So it will get rightsized over time. It's just a bigger impact in the first quarter there as we saw.

Howard Halpern

Okay. And in the hardware, you're still seeing improvements in gross margin. You're not -- you're going to maintain that discipline going forward and improving it as much as you can quarter-to-quarter.

Matt Aune

Yes. So gross margin quarter-over-quarter dipped slightly in Q1, and there's some various factors that we're still working through in terms of inventory management and getting products out the door. However, on an overall basis, while the light business did lose some money, it did improve quite a bit quarter-over-quarter and had its best quarter since we've even owned the company. And so bottom line is doing well. Our customer acquisition costs have trimmed quite a bit from Q3 and Q4 of last year. So we finally kind of feel like we're in the fine-tuning process here where we're going to be able to get the time to breakeven or better in the next one to two quarters. So hopefully, this quarter, but we'll see if it happens this quarter in Mac.

Howard Halpern

Yes.

Operator

Our next question is coming from Ed Woo with Ascendiant Capital.

Ed Woo

Yes. Have you noticed any change in the pipeline given the uncertain economic environment in your sales cycle?

Russell Buyse

Yes. The way I would characterize it is just a little bit more slowness, a little bit more caution. We haven't seen any drop out of the pipeline, but this is kind of a multi-stakeholder decision when it comes to the enterprise end. And so they are going to double checking their alignment and their own forecasting. I mean even despite interest rates being at kind of a local high for the last decade or more, hospitality is having a good year. And so we expect them to keep going. And of course, health care is pretty countercyclical in nature. So this is more a function of the natural budget cycles, combined with a little bit more slowness due to that uncertainty.

Ed Woo

I wish you guy’s good luck. Thank you.

Operator

Thank you. We have reached the end of our question-and-answer session. So, I will now turn the call back over to management for any closing remarks.

Russell Buyse

Well, I have nothing further to add. I think our comments really kind of covered everything. I'd like to thank you all for your time. I do think this is still, despite kind of the economic environment, still a very good time to have the product we do that does what it does in constant engagement using our location-based platform and being able to really help brands improve the quality of their guest experience, their patient experience as well as reduce their costs and enhance their revenue; so there is no season where that is not attractive.

Operator

Thank you. This does conclude today's conference, and you may disconnect your lines at this time, and we thank you for your participation.