Q2 2022 ServiceNow Inc Earnings Call
Good day, everyone and welcome to the second quarter 2022 service now earnings conference call.
I'd now like to turn today's call over to Darren yet Vice President head of Investor Relations. Please go ahead Sir.
Thank you.
Afternoon, and thank you for joining service now second quarter of 2020 earnings Conference call. Joining me are Bill Mcdermott, our President and Chief Executive Officer, and genome essentially now our Chief Financial Officer. During today's call. We will review our second quarter 2022 results and discuss our guidance for the third quarter and full year 2020.
Before we get started we want to emphasize that some of the information discussed on this call such as our guidance is based on information as of today and contains forward looking statements and involve risks uncertainties and assumptions.
To date, no duty or obligation to update such statements as a result of new information or future events.
Please refer to today's earnings press release, and our SEC filings, including our most recent 10-Q and 2021 10-K for factors that may cause actual results to differ materially from our forward looking statements.
We'd also like to point out that we present non-GAAP measures in addition to and not as a substitute for financial measures calculated in accordance with GAAP.
Unless otherwise noted all financial measures and related growth rates. We discussed today are non-GAAP , except for revenues remaining performance obligations or RVO current RVO and cash and investments.
You see the reconciliation between these non-GAAP and GAAP measures. Please refer to today's earnings press release, and Investor presentation, which are both posted on our website at investors that service now in Dot com.
A replay of today's call will also be posted on our website.
With that I'll turn the call over to Bill. Thank you Darren and Hello, everyone. We appreciate you joining us for today's call service now is Q2 results once again beat expectations on the top line and the bottom line.
Revenue growth was 29, 5% at constant currency operating margin was 23%.
Both results were above our guidance for the quarter.
99% renewal rate remains the industry's benchmark, we had 54 deals over $1 million.
Our 27% constant currency <unk> growth is also strong and looking forward for a moment once you factor in the large renewal cohort effect in Q3, our full year <unk> outlook is also strong.
Like other Premier technology companies, we are managing through the current macro.
As Youll hear from Gena, we're simply returning to the outlook. We originally set for you in January of this year on a constant currency basis.
Unlike others, while the currency effect also applies pressure on our margin service now, we'll maintain our full year margin guidance of 25%.
We will absorb the impact through disciplined cost management as we run more efficiently on the service now platform.
Looking beyond 2022, our confidence and our mid term explorations, which we raised earlier this year to $11 billion, plus by 2024 and $16 billion plus by 2026.
Is rock solid.
In short service now ironclad fundamentals will not waiver.
Secular digital transformation tailwind are blowing stronger than the macro cross wins service now generates an unmatched combination of organic growth and profitability at scale.
We believe there is a generational value creation opportunity here on every level of our company. Therefore, we are hiring expanding and investing for the future.
Companies don't get stronger than this one.
Before I hand things over to Gina, let me offer some additional color to underscore the state of the business.
Enterprise software is it all weather industry. Some businesses out there are prioritizing enhanced productivity lower costs.
Others are evolving business models to stimulate growth.
All of them know full well that digital technology is the only answer that's why the demand environment as software is consistent and durable.
Market research from IDC and several prestigious institutions on this call I might add have all affirmed its stability of technology budgets. We also see consolidation of enterprise software as buyers shift further away from experimentation.
Unsustainable solutions. So when you think about the technology sector. There are niche vendors legacy leaders and platforms service now is a platform company with strong demand in a fast changing world.
And this is consistent with what we see from our customers.
It's all about re prioritization.
Customers are making significant investment with fewer platforms to drive faster ROI.
As this process unfolds, while sales cycles can lengthen deal sizes get bigger as more materials are negotiated into those agreements and we at service now are on the right side of the great re prioritization.
One customer has some things up well she said we have a capacity challenge not the service now but for all the others that want to be like service now it's time to standardize on the platforms, We trust for the long haul and quote.
The current macro environment likely will needs overnight, neither will the theme for automation as companies need to make money save money and differentiate and they need to do all of that really fast.
<unk> has become the greatest asset of business. When you look at our results and our opportunity is clear evidence that digital transformation is the only way forward service now is helping our customers innovate to win.
Our ability to execute is another key point of confidence. This is a proven team and what's happening here is about more than great business results.
Honoring Fred Luddy founding vision to change the paradigm of enterprise software.
Why from a technology perspective service now has maintained a fully integrated workflow automation platform.
Everyone have great experiences they deserve.
With artificial intelligence robotic process automation automation process mining and low code capabilities all embedded in our architecture, we make hyper automation about people.
With $750 million net new applications being built on the Horizon service now is leading the low code Revolution.
Our born in the cloud suite of applications stretches across the enterprise.
And all of our businesses are performing extremely well in Q2.
At the end of more than 12 of the top 20 deals with seven deals over 1 million.
Hi, Tom was in 13 of the top 29 deals over 1 million customer workflows within 14 of the top 20 employee workflows 13 at the top 20 and create a workflows within a remarkable 20 of the top 20.
World Class brands like Dun <unk> Bradstreet, Banco Bradesco Virgin Media, Ireland, and CDW are some of the many selecting or expanding on surface now.
<unk> works with service now to transform the way it serves employees driving 30% faster care resolutions for everyday requests.
NTT data works with service now to generate end to end visibility of their ESG performance and they also provide service now ESG solution to their own customers.
Cadence Hawaiian works with service now to streamline its end to end procurement operations.
Frankly service now has become the platform for digital business and looking at SaaS businesses across the industry that are built $200 million or greater in HCV businesses. It's important to call out. This service now has actually accomplished that milestone with 11 business.
As in our current portfolio.
And several of these businesses achieved at 200 million plus figure faster.
Faster than many prominent publicly traded software companies.
We see countless opportunities to build on this with expansion into additional adjacencies and most of these adjacencies will be built on our platform.
Youre seeing with ERP workflows.
Others might operate as integrated portfolio of businesses that benefit from our strong installed base across the global 2000.
And one example here is like step, which is delivering observe ability and incident response to some of the world's most innovative companies overall service now is hitting its stride as a platform and the business architecture and at the commercialization engine and next up is our Tokyo.
Release coming in September .
Adding the Tokyo personally and this will be a major milestone in our growing commitment to the Japan market and our pursuit of our annual objectives.
The final point I'd like to stretch.
Stress is this fast expanding service now ecosystem.
This is happening with some of our most strategic partners through our partnership with Microsoft Our technology workflows help customers streamline the migration of existing workloads to Azure.
This is opening additional addressable market to service now by creating an expanded co sell motion with Microsoft Enterprise sales and public sector teams.
This is about incremental net new revenue growth we.
We are not opportunity constrained the need for digital transformation continues to grow.
And enterprise software remains finding.
Finding deflationary force in this marketplace.
The ecosystem effect also applies to the talent marketplace.
The massive opportunity for talented professionals, who aspire to build their future on surface.
And as an employer, while others in the tech industry are slowly or even stopping hiring.
Service now is hiring.
We are hiring we are doubling down on our talent brand and that's a reflection of our deep belief and the amazing potential of this company.
Our customers and partners are also expanding the service now workforces at a record clip, which is another indication of the expansive cross enterprise adoption, we are seeing for the service now platform.
Finally <unk>.
Service now has impact solution is a critical piece of our ecosystem strategy. We are setting a new standard with respect to <unk> deployment and value realization.
After we implement the more we expand the use of the platform.
All adds up to a virtual cycle for stakeholders and the service now.
Closing, we are confronting reality, but not conforming to it our Q2 beat on the topline and the Bottomline reinforces who we are.
The digital transformation imperative will not shift to the sidelines.
I would like to thank our customers our partners and our shareholders for their continued trust and confidence in service now.
We're proud to help you make the world work better for everyone. We will continue full speed on our growth journey to be the defining enterprise software company of the 20 <unk> century, we are resolute because now as ever the World works with service now with that I'll hand things over to <unk>.
Gena over to you.
Bill.
In Q2, we beat the high end of both our constant currency subscription revenue growth and operating margin guidance, while maintaining our best in class renewal rate at 99%.
Our business remains strong opportunity is greater than ever.
However, as bill highlighted our customers are feeling the effects of the macro environment.
So what are we dealing with service now always does well, putting our customers front and center to deliver a great experience. So they can retain their customers.
To drive productivity, so they can bend the curve on the bottom line.
To reinvent their business model. So they can innovate to win and come out of this moment stronger than ever.
We're continuing to invest in a powerful go to market, an incredible R&D organization to drive future growth, while keeping both hands on the wheel and being disciplined with spend.
We are leaning into our people.
Our commitment to our amazing employees. So they can do their best work and we can fulfill our purpose together.
This is what the service now culture is all about.
Turning to our Q2 results.
Description revenues were 165 8 billion 29, 5% year over year in constant currency. This is flat and over 300 basis points acceleration in growth year over year.
<unk> ended the quarter at approximately 11 5 billion.
Representing 27% year over year constant currency growth.
Alright, RTL was approximately $5 75 billion, representing 27% year over year constant currency growth.
At the end of June we started to see customers elevate largest spend decisions to the C suite, resulting an elongated deal cycles.
We've already closed several of those deals in July and as Bill noted this access to the C. Suite has resulted in even greater exposure to the capability of the now platform.
Our renewal and net expansion rate remained very strong.
Low rate was 99% in Q2 for all regions demonstrating the resilience of our business.
The now platform remains a mission critical part of our customers' operations.
We finished the quarter with 1400 63 customers paying us over $1 million in ACD up 22% year over year.
And our largest customers continue to expand with us.
Now more than 100 customers paying us over $10 million in HBV up more than 50% year over year.
From an industry perspective technology media and telecom led all other verticals growing net new ACD, 100% year over year.
Our better together go to market positioning continue to resonate as we closed 54 deals greater than $1 million and net new HCV with 16 of our top 20 deals containing five or more products.
Turning to profitability operating margin was 23% one point above our guidance driven by operating efficiencies, partially offset by FX headwinds.
Our free cash flow margin was 16%.
We ended the quarter with a healthy balance sheet, including $5 4 billion in cash and investments.
Together. These results continue to demonstrate our ability to drive a strong balance of growth and profitability.
Before I move to guidance, let me give you some context as to how we're thinking about the months ahead.
While our business remains resilient, we do expect the elongated deal cycles that we experienced in the last couple of weeks of June to persist for the remainder of the year, we have factored that into our updated guidance.
Additionally, which I know is no surprise to any of you. We've continued to see an incremental strengthening of the U S dollar, resulting in further FX headwinds for the second half of the year.
We expect the total FX impact to be at $220 million headwind for 2020 to subscription revenue and a 180 million dollar headwind for Q3 the Rps.
We have a well diversified customer base with over 80% of our business and large global enterprises.
As a result, we expect to sustain our best in class renewal rates.
Over 85% of our new business comes from existing customers, which drives a robust net expansion and predictable growth.
Also continue to see a very strong pipeline and our recent knowledge events, which some of you attended in Q2.
Have a 40% increase in pipeline year over year.
We're confident that we're appropriately factoring in the macro trends as we see them today and will continue to be transparent as the remainder of the year unfolds.
With that in mind, let's turn to our 2022 outlook.
Primarily to reflect the incremental $87 million headwind with being some FX since the end of March we now expect subscription revenues between $6 91, 5 billion and $6 95 billion, representing 24% year over year growth, that's 28% growth on a constant currency basis.
In line with the original outlook that we provided in January .
We continue to expect subscription gross margin of 86% up 100 basis points year over year.
We continue to expect an operating margin of 25% as we currently plan to offset an approximate one point impact from FX with operational efficiencies and disciplined spend management, we will continue to monitor FX rates over the next couple of quarters.
We now expect free cash flow margin of 30%.
Afflicting slightly lower collections as we expect to provide greater payment flexibility to support our customers when they need us most in this current environment.
Finally, we expect diluted weighted average outstanding shares of $203 million.
For Q3, we expect subscription revenues between $1 75 billion and $1 755 billion, representing 23% year over year growth inclusive of a 450 basis point FX headwind on a constant currency basis, we expect subscription revenue.
Growth to be approximately 27, 5%.
We expect CRP or growth of 28% year over year or 23, 5% on a constant currency basis.
As I've discussed in prior quarters. This reflects about two points of headwind due to a larger than average customer cohort that renews in Q4.
Excluding this headwind our constant currency <unk> growth would be 25, 5%.
We expect an operating margin of 25% and we expect $203 million GAAP diluted weighted average outstanding shares for the quarter.
Finally, we remain very confident in achieving our 2024 and 2026 subscription revenue targets of $11 billion, plus 16 billion plus that we provided at our analyst day in May.
Long term trajectory has not changed.
In conclusion <unk>.
This now has established itself as an enduring platform our execution is prudent and we continue to lean into our great opportunity with operational rigor.
Accelerating our development cycles with our September Tokyo release to launch the powerful new products that our customers need now.
We're doubling down and expanding our go to market programs for customers, including our top 250 marquee accounts to help them recognize value with greater business agility.
We're being prudent with Opex, but remain bullish on higher end go to market resources and the critical innovation roles necessary for future growth.
And as always we will remain disciplined as we evaluate our investments to ensure we generate the greatest ROI possible.
These actions will enable service now to continue delivering strong growth and profitability on our way towards our future targets.
We remain ever confident in our journey towards becoming the defining enterprise software company of the 20 <unk> century.
Before moving on to Q&A I, just want to thank all of our employees around the world for their incredible dedication and commitment.
Our relentless focus on our customers' needs that makes us service now strong.
With that I'll open it up for Q&A.
Thank you today's question and answer session will be conducted electronically. If you would like to ask a question. Please press star one on your telephone keypad. Once again, everyone that is star one to ask a question.
Please limit yourself to one question, we'll pause for a moment.
Our first question comes from Kash Rangan with Goldman Sachs.
Okay.
Hi, Thank you very much for the question I had a question for Bill you talked Bill you talked about how the deal sizes are becoming larger although there is some delays in sales cycles in certain segments of the market can you talk about the flip side coming out of the elongated deal cycles. What are the positive consequences for service now as these deals becomes potentially larger than one for you.
Gina.
You said that.
While the Q3 <unk>.
Growth expectations have been trained and it does look like the burden of CRP performance shifts to Q4 can you talk a little bit about how you sort of.
Implied.
Implied that you're keeping your CRP ops, obviously really unchanged, which means that Q4 is when we see that.
Re acceleration can you talk about the dynamics there from a quarter to quarter perspective. Thank you so much.
Sure I'll take the CRP a question first and if you remember we've been talking about this for several quarters now that with the renewal cohort that Q3 was going to be the bottom right. So if you think about.
Renewal of $1 million at the end of Q4.
At the end of Q1. It becomes 750 end of Q2 500 end of Q3, only $2 50, it will pop back up in Q4, and so Q3 is absolutely the bottom of that renewable cohort and we'll see that reacceleration as we move into Q4.
And cash on the on the deal sizes, what Youre seeing in certain cases is lengthening deal cycles, because I call. This the great re prioritization.
We're C level executives are now looking at their business and they're saying what are the platforms and we will team up with for the next decade.
And they are prioritizing that list along the lines of which platforms make me more productive where I can do a lot more with less.
The work isn't going away, even though you might have less people doing it.
The second aspect is how do I grow.
And what channels will I need to innovate and to grow my business.
And then finally, how do I differentiate against competition every industry has that marquee company that seems to be out in front and lots of times companies, playing catch up or are they simply want to have a different level of secret sauce. So they can do something there competitor isn't doing well.
On all of those dimensions, we're now seeing the service now platform.
Joe has been.
Especially the global 2000 as that differentiation platform to really get business growing either to save money or make money or compete better and that is big because now we're not talking about a nice to have on the employee experience or better.
Customer service management, or even low code, we're talking about making that an amazing platform.
Business platform for digital transformation for the world's largest companies and I think Gino pointed out the $10 million and above growing 50% year over year. So even as you might need to wait a little bit longer in certain cases, when you do it just gets bigger and cash I think this is now.
The moment, where service now really get the big Big tailwind from a macro that forces customers to really think deeply about where they're spending their money and theyre not interested in long drawn out projects that might take multi year to get there they have to perform for the capital markets.
Now.
One of them.
So much for being a calling card we bring our calling card with the fastest ROI in the enterprise hard stops.
Wonderful thanks, so much for billing for the Bolden.
Im confident message. Thanks, so much. Thank you very much Cathy test.
We will take our next question from Brad Zelnick with Deutsche Bank.
Great. Thank you so much for taking the question.
Gino with the large Q4 renewal cohort coming up is there any argument to try and get some of these deals done early perhaps before the backdrop deteriorates further and I imagine where inflation stands right now customers might be only too glad to lock in pricing is that part of the strategy and just maybe a follow up as well for Bill Bill everyone knows the.
It has changed and I think we appreciate why service now is only more important but how do you distinguish environment first execution at times like these and how do you feel your field organization is performing during these uncertain times. Thank you.
Yes, Brad I'll take that the renewal cohort so what I'll point to is our continued best in class renewal rates Q3 at 99% across the board in every geography. During this macro environment gives me much confidence.
The renewal cohort is solid right and so.
Sometimes we renew early sometimes we don't we are having conversations always with our customers to lean in to what they're trying to do and how we can help them back I really tried to bring us together in this script by talking about how service now it's focus always on the customer first and we will absolutely.
We continue to do that and we will meet our customers where they are always.
Brad It's a great question and I'll give you a little feel for how confident I am in the field organization. So first of all.
Kevin Haverty, who ran the field organization appropriate decade as you know is still on the executive management team and putting special focus on public sector. Paul Smith, who is an industry veteran who is running global sales and he has a very experienced team.
A 10 year team in Europe , and Asia Pacific.
And Japan and of course in the Americas with our most tenured sales executive who hits every quarter. So we have a really really excellent team on the field. We also have a very diligent attention to detail as we run the business on the service now platform that's why.
We can run so efficiently and I actually have something we call. The CEO digital dashboard and I have a complete per view on the pipelines across the world and if you look at them year over year. Our coverage is better now than it was last year geographically and by industry and by persona.
I'm very comfortable with where we're at and of course, I'm very comfortable with our ability to execute. Furthermore, I just wanted to give you.
Some transparency on the coverage model, we are doubling down on hiring as I mentioned, we will have a full capacity to achieve our 23 objectives at the Q4 Mark. So please know that we're covered and that actually intensifies along the lines of each month.
This year to actually expand Furthermore, in our indirect.
All of our digital sales effort.
Doing some very unique things there to not only cover existing but also to get net new logos and I did in the midst of the scripted did mentioned the Microsoft Azure arrangement, where we can actually take advantage of customers that are moving to the cloud and takes.
The advantage of a hyper scaler, that's doing very well in the enterprise. That's also teaming their sales force up with our sales force to cover net new revenue growth opportunity. This can happen at the IL five.
It could happen at the sovereign government government level and it can also just happened in net new logos, where our strong market, leading <unk> solution can get many new customers for service now it's good for Microsoft is good for service now and I think it's also a tailwind.
Isn't really factored into our numbers.
Excellent. Thank you so much.
Thank you.
We'll take our next question from Raimo <unk> with Barclays.
Hey, Thank you.
Can you.
Bill I guess the platform message and that's what we hear in the market as well and can you speak a little bit to the components and I'm, specifically wondering if I look at your slides.
Customer and employee workflow this QUADRA.
In terms of contribution was slightly lower than in other quarters is that the thing that is not quite as strategic or build I would ask the others and thats why theres something going on there or maybe speak today, if something else what's happened here. Thank you.
Yes. Thank you very much Ram I appreciate it you don't read anything into.
Perhaps somewhat lumpy details on one workflow versus another in any given quarter.
<unk> experience is actually gaining momentum and we have a fantastic.
General manager of that business has been with us for many years, along with our well known great leader of Engineering C. J. This is Blake Mcconnell I'm talking about and he's got a great team. We just leveled off all of our product reviews about 10 days ago, and the prospects and employee and customer spend.
So we have John ball, John Sigler, two industry veterans at the platform the customer service level all of those businesses are going to do absolutely fantastic.
Don't look for one quarter or another to make any influences I think the employee experience in a world where head count is going to be incredibly important as companies decide on their hiring case, they're going to need to create great experiences theyre going to need to aggregate all the services in one portal to give those employees the most productive.
Futuristic user experience possible to give them all their training and needs and make sure that this service properly on the customer service side I just think what we're doing there on the mid and the back office to make the engagement layer come to life is extraordinary so I am really pumped up about us as a platform.
Company and I think the bigger thing you should read into it is companies now as they go through the great re prioritization or looking at things they used to do in the 20th century, which is to double click.
That's a lot.
And how quickly do I realize the benefits from that and is there a way using the service now enterprise workflow automation platform that I can leverage my processes give people a great UI, but also good business outcomes faster and when I say faster I mean, some of the conversation.
Or in quarter or within a half a year and therefore I think a lot of pressure will be on companies that tend to take a long time to get the value and the other thing which is new that came up very recently, but it's happening.
It is companies that our endpoint solution, where the customer says I'd like RPI or I might like process. This AI that youre basically saying look are they going to be on my team 10 years from now as the platform.
And a lot of them are starting to consolidate those point solutions into the now platform, saying you guys got that covered and theyre getting good economies of scale from service now when they do that so again all of that is new developments, where I actually think the macro could lead to a tailwind that's not in the numbers.
Okay. Thank you.
Youre welcome.
We will take our next question from Tyler Radke with Citi.
Yes, thanks for taking the question maybe we can just go back to the specifics in terms of the deal slippage in the quarter was it a handful of large customers or are these deals just now.
Now taking place in Q4, and then Gina just help us understand your assumptions you've made around close rates in the overall environment.
Are you assuming that kind of the operating environment in Q2 holds for Q3 and Q4. Thank you.
Sure Tyler sorry about that so yes, if you think about the elongated deal cycles I wanted to be really clear and transparent as I always try to be with you on how we're thinking about the back half and so we're assuming that we'll have similar trends through Q3 and Q4.
On close rates and elongated deal cycles.
We also are trying to emphasize is that the deals arent going away right theyre elongated, but many of the deals that were elongated in Q2 have already closed in July and so those digital transformation tailwind that we talked about the platform relevancy that we continue to talk about is <unk>.
Very relevant and as relevant as ever which is why we felt very confident and reasserting, our mid and long term guide of $11 billion by 2024, and $16 billion by 2026, and so close rate, which way we are taking into account the macro environment that we see in place today.
Our customers were leaning in more than ever with our customers and we feel good about our revised guidance that we're taking into account everything that we're seeing in the marketplace today.
If you really look at it Tyler I mean, FX aside we always said no one's outrunning the strength of the dollar in this environment and that was pressure and of course, because you've seen that play out in the market and we also acknowledge that especially in theaters of operation that are more affected by the <unk>.
Macro youll see a lengthening of the cycle, because especially in markets that have grown accustomed to doing things a certain way now there and the great re prioritization. There is a time equation there, but theres also an expansion of the power of our platform that's not factored into the numbers and we'll have to see how that plays out in the back half.
What I can tell you is we have a plan we have a very carefully thought through plan to actually not only get the deals that may not have come in at the time, we want to them, but they come in but we also have a plan to expedite the ROI conversation at the point of discussion versus the point.
A proposal to get to the close earlier, so companies can factor or larger scale relationship with service now in many of them can't even believe how quickly we can get them to value because they may not be as aware for example of service now and Frankfurt as they might be in.
<unk> city, so we're making sure that we're bringing all dimensions of fast ROI critical thinking and industry solution based <unk> persona and dynamite execution in each geo not only with service now, but also with our partners to deliver that business impacts and.
What's changed in the environment you didn't have to have so much on business impact when digital transformation was all the rage, you could land and just expand now I think you have to have that conversation, especially in the larger transaction and we're very very well equipped to do that.
Alright, it sounds like Youll be busy on the road. Thanks a lot.
Thank you.
Hello.
We will take our next question from Phil Winslow with credit Suisse.
Hi, guys. Thanks for taking my question.
For your building one for Gina Bill obviously, you've operated in the software industry for multiple years and seen multiple different sort of global crises.
I Wonder if you could compare and contrast, what are you hearing from executives can you speak to today versus let's say the beginning of Covid European debt crisis, Google Financial crime was wondering if you can compare contrast, what you heard from executives during those periods versus now and maybe even sort of the kpis that you are seeing in this business versus Pascal and then Gina just to follow up on the on the sales productivity side, obviously its sales productivity.
To your point remains high you also grew sales and marketing head count, 26% last quarter, you expected to grow head count and the high Twenty's does that still hold.
So I'll take the second part.
First and then I'll pass it over to Bill for sales productivity remains strong and is better this year than even last year and so we expect that the whole bill and feel really good about where we are we certainly have continued to hire feet on the street go to market with.
<unk> two is that we are not pulling back at all on feet on the street hiring and so we absolutely expect to continue to see similar pace in the back half as we continue to hire quota bearing sales.
And Phil just on the <unk>.
Data of the global financial crisis.
And COVID-19 comparing that to this current environment.
They are all a little bit different.
But the one thing that they all have in common.
They were absolutely and elixir for cloud computing. So if you think about the global financial crisis failure remember I was working with.
Different software company at that time, and I would tell the story in that September quarter, how I saw 1 billion euros disappear in a day. So it was very sudden.
This hasnt been as sudden.
And actually Covid evolves, a little less suddenly as well.
But that was the moment.
Everything moved to the cloud remember everything became Opex all budgets were controlled by the line of business executive well now as you got through the global financial crisis, and cloud computing became the pervasive computing theme of the 20 <unk> century.
As we've got you through Covid, because everybody had to work virtually and you had to enable productivity in a completely digital world because nobody was doing business in person again cloud got you through it in this one here what youre going to see is cloud just gets reinforced and I've always said that.
The infrastructure will move to the cloud the Hyperscale or we'll all do great. In this environment and then Theres only a couple of other SaaS platforms that matter.
And while it may be a little bit lumpier and a macro that's re prioritizing things those five platforms that have been defined by the marketplace will I believe do extremely well in this environment and it will be yet another proof point that it's all about the cloud.
Awesome, Thanks, guys best of luck.
Thank you Phil Thanks, Phil.
Our next question comes from Michael <unk> with Wells Fargo Securities.
Hey, Thanks, Good afternoon I appreciate you taking the question Gena on the free cash flow side, clearly you have the luxury of leaning into margin. If growth is seeing impacts you did mentioned just a minor step down on the margin you're expecting they were tied to collections.
Somewhat of a similar question to what you've been getting on the other metrics. Just wondering if there is anything you can add to put some context behind that whether it's a certain industry or something you're seeing and the confidence you have and the ability to use free cash flow to offset any moderation youre seeing for the rest of the year I think is very top of mind for investors.
Thank you, yes, sure so listen I think youre, absolutely right and we have this.
Flexibility and the ability given our best in class margin structure to be able to lean in with our customers here right and so I want to be clear, it's slightly lower collections as we think about.
Assisting our customers and as you think about industries that probably have a little bit of cash flow.
<unk> built up working capital given the supply chain constraints.
Those are the industries that you would expect to see us leaning in with here.
But again, it's a small impact to our free cash flow margin that from our perspective makes complete sense and it's really purely just timing there's no concerns with respect to any bad debt assumptions or anything like that it's just about allowing for and leading in sale a little bit.
Longer payment terms, given the current macro environment and so real strength here, it's all about being proactive and working with our customers.
That's helpful. Thank you.
Thank you.
Okay.
We will take our next question from Keith Weiss with Morgan Stanley .
Excellent. Thank you guys for taking the question.
I think this one's for you than two for you.
Cash was trying to put some words in your mouth and talking about sort of no change in the CRP of outlook for Q4.
Wanted to ask you that question directly like are you guys. Adjusting your view on sort of the CRP Oh growth that youre exiting Q4 within any chance that you would give us that number. So we have more of a sort of a perspective on sort of how we're entering calendar 'twenty three.
Sure. Thank you lift listen Im not im not guiding to Q4, now, but what I wanted to make the point and I think what Pat with cash was trying to allude to as well is is Q3 the bottom when we think about that renewal cohort and how do we think about the back half right and so.
You could imagine from a slight return to our January revenue guide that we are absolutely continuing and I was very explicit in my script that we're factoring in throughout the back half of the year slightly longer deal cycles, and so that will impact Q4.
But again just the timing perspective, why we are also very confident in reiterating our mid and long term goals of $11 billion by 'twenty, four and $16 billion by 2026, So I know you'd love to hear a Q4 guide.
Give us a few more months and we'll give it to you that.
I think investors would love to hear your Q4 guide is not just the other question I have for you Jean that was on the operational it sounds like its not coming from head count is not coming from slowing down hiring can you give us some visibility into where the additional operational efficiencies are going to come from in the back half.
Yeah. So a couple of things so we talked.
Explicitly about not slowing down hiring on feet on the street go to market and on critical R&D resources, but we are being much more mindful and planned fall of other kind of support types of roles as well as if you think about.
<unk> expense as Vance expense.
Marketing things, we're not touching anything thats driving demand.
Just being really smart and disciplined keeping.
The hands on the steering wheel, making sure that we are being disciplined about costs, while really not touching our feet on the street or critical fingers on keyboards engineers.
Okay. Okay.
Sorry, I cut you off.
All right last question go ahead.
I would just apologizing for cutting you off before.
No no no Keith I don't want to Miss your opportunity to get something and I just wanted to offer something to build on with Ciena is saying like we never talk about this but we've run the company on the service now platform is not an employee at a almost 20000 people that know that we have anything both to serve as a platform. So for example, when you're hiring its pretty nice to know.
And real time, where the money is moving in terms of the market and what it takes to hire the best in class talent and how you can adjust the ratios.
Salary versus equity in these kinds of things that for a large company can be millions and millions of dollars its pretty nice to run on a platform. That's the leanest in terms of the G&A component of it in the industry.
So there are many aspects of the service and our platform that we're actually putting to work on the agility side.
The savings that we're putting forward and managing operational excellence.
Our margin rate and a lot of companies could never do that on the fly so thats a very interesting observation. The second thing I just wanted to say like.
Just at all respect for all shareholders, because we love and respect our shareholders you have no issues with this company on renewals and the cohort from Q3 to Q4.
It follows the historical path, it's just that we've never.
Outlook that way so why start now, but I think we should give you every confidence that the company is in great shape, and you don't need to lose any sleep.
Okay. Thank you guys.
Thank you.
Our next question comes from Keith Bachman with bank of Montreal.
Hi, Thank you very much I wanted to ask a clarification and then a question gene as a clarification is for you and I agree with the other keys comment that I think investors are keenly disappointed with the CRP O Guide for September and so when you say there'll be an increase for the December quarter do you mean.
From the $25 five adjusted number the 23 five if you could just clarify what it would increase the base level is and then my question for Bill is.
We've talked about a few times over the last year.
Sales cycles elongate the valuations of tech companies.
The decline in continue to decline.
No.
How do you think about the ability to make M&A work on behalf.
Service now increase your interest no change in strategy, if you could just.
Update us on how youre thinking about.
The M&A opportunities.
You look at the deal pipeline many thanks.
Thanks Keith.
That clarification and I know everyone's wanted to get a Q4 guide for me on <unk>, what I will say is that we expect it to reaccelerate from Q3, and we expect it to reaccelerate by at least two points.
Because that's what the renewal cohort is impacting in Q3.
Yes, sorry, just to push you, but accelerate from what what number are you referring to is what I'm trying to just 23 five. This morning, three five that is the constant currency guide for Q2 for Q3.
Expect Q4 to increase by at least two points from there okay.
Okay. Thanks, and then bill for you.
Yes, so first of all on our capital allocation strategy. There is no change to the strategy at this time.
The $11 billion, plus and the $16 billion plus.
With regard to 2024 and 2026, respectively as Gino said, we reinforced that.
Upon our current strategy and no change to it.
I also would say that we have done tuck ins and that's business as usual one of them that has caught fire really is hitch works.
And we did that because the employee experience now matters more than ever.
And managing employees and their capabilities.
Productivity needs in the project needs that different companies are managing.
Really really important priority now so it's those kinds of things where it makes sense to one of our core platforms.
What the customer wants us to tuck in and Thats. The kind of thing that we would look to do I do acknowledge that you bring up a good point.
We're in a very strong position and Jean who gave you the CRP.
The IPO at $11 5 billion in cash and $5 $4 billion. We know that's only going to grow over time, so we're watching everything but right now business absolutely.
Absolutely no change to the strategy.
Okay. Thank you very much youre welcome.
We will take our next question from Alex Zukin with Wolfe Research.
Hey, guys. Thanks for taking the question so.
Kind of going on this path I think one of the other things that candidly surprise people was just.
The rate of change in the pace of change.
Q2.
So maybe just help us understand when did these issues start showing up I think you've alluded to certain verticals and certain geographies that may have been more impacted than others.
And to the question I guess it was asked earlier, if you think about the <unk>.
Assumptions that youre, making in terms of what Youre seeing now in July for the rest of the year versus maybe what you saw in the quarter are you assuming in some of the guys, particularly for <unk> in the back half a worsening of trends as we start to see longer sales cycles at a larger cohort.
Sure.
Of bookings come to bear.
And then just on the cash flow portion I guess is there any assumption in that 30%.
There is.
Further deterioration or further I would say flexibility in terms of collections with certain clients or.
Are you already embedding some conservatism there.
Okay.
So I'll start with the forecast right and so we're not assuming a worsening trend in our CRP a guide from what we saw in the last couple of weeks of June and so the rate of change when the issue starts showing up it was very late in the quarter.
And we are assuming similar.
Similar assumptions in Q3 in Q4, so no worsening trends in fact July looks strong a lot of those deals have closed and as bill articulated.
Actually close at a higher bill of materials that than initially assumed and so similar assumptions for Q3 and Q4 and this is after.
Alex rigorous analysis of pipeline trends rigorous analysis by industry.
Coverage rate ratios look strong.
<unk>.
And so very similar to what we saw in the last couple of weeks as soon as our assumption and what we're seeing through July .
July on the free cash flow.
The 30% includes the flexibility that that I'm talking about I do not expect further deterioration from that point.
And Alex and our customer relationships the <unk>.
Our relationship with the customers couldnt be better.
If you look at customers that you look at net promoter score you look at the retention rate that Gino took you through at 99 plus.
And it's absolutely the standard in the industry.
And if you look at Q2, specifically and you say where did you see what as gene has the last couple of weeks of June you saw some deals elongate their cycles based upon higher levels of authority, having to approve them and you saw that.
More in Europe than you saw in other geographies.
That's in a nutshell and as it relates to the guide the guide like Gina said assumed a continuation of that to ensure we had this level.
Based on our customers dealing with the macro because thats what enterprise companies do we serve them. So they can serve their customers and we factored that into the guide again, it's restoring the 2022 guide we all know FX is an issue across the industry and we all know.
Now that we've heard our customers are dealing with a tougher macro that's in the numbers I'm not worried at all about G&A guide on the Q3 for the cohort conversation going into Q4, we're in great shape really are in great shape. So.
Don't take.
Waiting for a little bit longer as any lack of strength on the contrary, we are seeing signs that it's making this even stronger.
Super clear. Thank you Bill Thank you Janet.
Thanks, Rob.
We will take our next question from Brad Sills with Bank of America Securities.
Oh, great. Thanks for taking my question service now has such a unique perspective across such a broad swath of different categories. I am curious with the changing macro if youre seeing any re prioritization within the categories, whether it's customer employee custom apps.
You've noticed there.
Well. Thank you very much Brad there's no question that all of those dimensions are really super important but this low code Revolution. If you think about companies having to build $750 million net new applications. In the next two years you would have to say that that's one that we should do a call out.
On especially since we have the best low code platform in the business.
There is nobody that is going to back off on taking care of their customers and having a predictive way of managing their relationships with their customers and to make sure. The promise that's made in the engagement layer can be kept in the full value chain of mid and back office operations.
So you deliver the right product at the right price points and configurations in the right place at the right time, and then you service that customer and that.
<unk> very carefully every company wants to do that and I can tell you the employee experiences piece Super Super important because you have to make every employee would have more productive and then if youre not going to have the employee number that you expected because you have to deal with the macro youre going to have to apply automation. So.
I think this experience of the knowledge worker and how you enable them to work from any place and be extremely happy and productive because you don't want them to turnover and certainly you got to get more out of each one or more automation and I don't think any company ill argue with that and then on the <unk>.
<unk> site.
It is.
The marquee jewel of our company and it just keeps chugging, along and growing and growing and growing and one of the areas that has really taken off as asset management because companies have to be very careful on how they manage their assets. They have to get all the value out of your assets. So they have to bring their asset and then you have to retire their app.
Asset and then you have to do that in a highly sustainable way, which is something that gene is champion along with CJ for the company on ESG and Thats, a really fast growing business for us and security operations.
Look at having all security operations on one pane of glass.
Security is an issue at the SKU level in every company and it's not because they haven't invested they've invested so much in so many different things that they need one thing that can pull it all together so they have visibility on an end to end basis to secure their operations and that's been just growing so fast for us.
I don't want to give a shout out to been in lifestyle. The logos that they win it's just unreal. So when you think of observe ability and the areas that light step and Ben are driving in the best brands in the world. The most innovative brands in the world is pretty compelling and again, that's all part of our our category.
So they are all doing very very well.
Great to hear thanks Bill.
Thanks, Thank you very much for the question Brett.
Our next question comes from Derrick Wood with Cowen.
Yeah.
Great. Thanks for taking my question.
Yes.
Been a lot of a lot of questions on what's causing the sales cycle and kind of where it's coming from maybe I'd ask it a different way when you look at your three core cohorts the GTK the government and the commercial.
Could you just kind of give us a little compare contrasting across those three areas in that sense, where we're heading into the big government flush quarter in Q3, how do you feel about pipelines and close rates and spending behavior out of the fed looking into the upcoming quarter.
Yes. Thank you very much Derek as you know this is.
This is the time of the year for the government business couldnt be more confident.
I can tell you couldn't possibly be more confident in what we're seeing in federal state and local in terms of our commercial business.
Very very good.
And you look at our industries.
We're very bullish on all of them and I'm also very very happy.
We put industries as a priority for CJ and all engineering team to link the industry domain expertise of great development and cloud services to the solution experts that actually interface with the account executive and Comporting with.
Best possible road mapping and account plan for every customer we have including how our partners in service now deliver that impact of business value that value chain has fully been realized and its structure and its execution.
We actually expect now to start getting some real returns out of that in the back half and beyond so we're real real strong on all of the dimensions that you mentioned and really really can't be more confident and I would just add to that the largest industry is the plan. If you think about financial services industry.
Energy sorry public sector Federal Telco. These are all industries that holdup I know most resilient in these environments and so feel really good about the industry perspective.
<unk> Q3 going into Q3 feel really strong in particular, we had we.
We had great results and impact even in Q2 in the fed business.
We saw really strong demand for that new solution. So as we're going into Q3, the federal team has ramped up in and very excited.
And so really across the board.
Industry perspective, federal as well as the GTK very strong.
Thank you.
Thank you Sir.
We will take our next question from Peter we'd with Bernstein.
Okay.
Yes. Thank you for taking my call one of the things that I think that business has been built on for so long has been a consistency and the ability to expand if you've talked about being on getting sales cycle.
And you might be able to interpret that as.
Putting a damper on expansion.
But what I observe looking at your cohort chart is that you've been able to change right around 130% net expansion with some of your oldest cohorts.
But growing quite strongly and are well into the mid 100 Twenty's what are you seeing that it's enabling.
Even your cohorts that are.
A decade or longer old too.
To continue to have such consistency, particularly in.
Situations like this where they may be incredibly built out and it might be easier for them to push out or strategic benefit.
Enabling that consistency.
Thanks.
Yeah, a few things there so first of all you're absolutely correct right, we talked about 99% renewal rate across the board in every Geo in Q2, we're also seeing exactly what youre, what youre seeing on expansion rates remain extremely high even at our scale, even with our customers who have been with us.
For so long the reason for that Peter is exactly what we're talking about is the <unk>.
Breadth and scope of our incredible product portfolio right. It's the expansion out of IC into HR into customer into creator it's about the platform evolution.
And that is more powerful today than ever before and so youll continue to see similar levels of renewal expansion rates.
As we continue to innovate as we continue to make our platform stronger and better and more capable as we continue to innovate where customers need us and want us to go and Peter one stat that may be interesting to you.
Even where we have as Gino said, great customer relationship and we're expanding along the lines of that platform.
We're only 15% penetrated.
So if you look at the product portfolio and the innovation that's come out of our engineering team.
And every count has so far to go against our bill of materials of that roadmap and all of that is upside in the global 2000, and it also gives us permission to take it way beyond the global 2000, as well in our commercial business and in our <unk>.
Our inside selling business and some of the partnerships that we've built.
Taking advantage of co selling with some of the bigger companies in the World. We will also be an interesting thing to keep an eye on.
Thank you.
Youre welcome. Thank you.
We have time for one last question. Our last question comes from Pat Walraven with JMP Securities.
Oh, great. Thank you so bill maybe to sum it all up here.
However, you can allocate your time over the rest of this year what are your top one or two priorities.
Yes, thank you very much.
One of the things I said is them all back.
In Japan, as we do our Tokyo release, and I'm doing that because Japan is a major market and we intend to treat Japan as one of the most important region in our company and Thats. The worlds third largest market as measured by GDP and we intend to do extremely well.
I'll also spend two five weeks going across AP Jay.
<unk> in Europe .
And obviously across the Americas. So I think the most important thing and I've made this very clear to our management team is to take it to the street. So I will be taken into the streets. After we're done with this we have an all hands meeting, where we will talk to 19 plus thousand of our closest friends.
Around our Great Board meeting and now are wonderful opportunity to talk to our investors and now it's all about the customers.
When we take this level of passion to the streets, usually very good things happen.
Great. Thank you very much both of you.
Thank you very much.
And that does conclude todays presentation. Thank you for your participation you may now disconnect.
Please wait the conference will begin shortly.
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