Q3 2024 Q2 Holdings Inc Earnings Call
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Lisa: Good afternoon everyone, my name is Lisa and I will be your conference operator today. At this time I would like to welcome everyone to the Q2 holding third quarter, 20-24 financial results conference call. All lines have been placed on mute to prevent any background noise.
Lisa: After this speaker's remarks, there will be a question and answer session. Please press star one if you have a question at that time. I would not like to turn the call over to Mr. Josh Yankovich and best of relations. Sir, please begin.
Josh Yankovich: Thank you, operator. Good afternoon everyone. Thank you for joining us for our third quarter 2024 conference call. With the other call today, our Matt Flake, our CEO, John DePrice, our perspective CFO and Kirk Coleman, our president, who will join us for the Q&A portion of the call.
Josh Yankovich: This call contains forward-looking statements that are subject to significant risks and uncertainties, including among other things with respect to our expectations for the future operating, the financial performance of Q2 holdings and for the financial services industry.
Josh Yankovich: Actual results may differ materially from those contemplated by these forward-looking statements, and we can give no assurance that such expectations or any of our forward-looking statements will prove to be correct.
Josh Yankovich: Important factors that could cause actual results to different materialies when those reflected in the four-looking statements are included in our periodic reports filed with the SEC, copies of which may be found on the Investor Relations section of our website, including our quarterly report, performed 10 Q to the third quarter of 2024 in subsequent filing, and the press release distributed this afternoon regarding the financial results we will discuss today.
Josh Yankovich: For looking statements that we make on this call are based on assumptions only as of the date discussed. Investors should not assume that these statements were made operative at a later time, and we undertake no obligation to update any such foreign looking statements discussed in this call. Also, unless otherwise stated, often, ancient measures discussed on this call will be on a non-get basis.
Josh Yankovich: The discussion of why we use non-gap financial measures and reconciliation of the non-gap measures to the most comparable gap measures is included in our press release, which may be found on the Investor Relations section of our website and in our form 8K file today with the SEC.
Speaker Change: We have also published additional materials related to today's results on our investor relations website. Let me now turn the call over to Matt.
Matt Flake: Thanks, Josh. I'll start today's call by sharing our third quarter results and highlights from across the business. I'll then hand it over to Jonathan to discuss our financial results and guidance in more detail.
Matt Flake: In the third quarter, we generated strong financial results coming in above the high end of our guidance. We generated non-cap revenue of $175 million, up 13% year-over-year. We saw continued strength in subscription revenue, which was up 18% year-over-year.
Matt Flake: And we had another quarter of solid improvement on profitability with adjusted EBITDA of $32.6 million, or 19% of revenue.
Josh Yankovich: and free cash flow of $35.1 million. In the third quarter, we met our previously disclosed goal of achieving Rule of 30 on a total revenue basis by late 2024.
Josh Yankovich: In addition to our strong financial performance, we saw broad-based booking success in the quarter, highlighted by a total of six enterprise and tier one deals.
Josh Yankovich: three of which were enterprise wins with top 50 U.S. banks, as well as significant bookings contribution from the Tier 2 space.
Josh Yankovich: Our sales activities spanned across the portfolio with a variety of digital banking, relationship pricing, and Helix wins, which we executed through a mix of net new and expansion deals.
Josh Yankovich: On the digital banking side, our bookings were driven by a combination of our ability to differentiate our offerings by the quality of the retail and commercial experiences and the breadth, scalability, and versatility of our platform, allowing us to serve financial institutions at various stages of their digital transformation.
Josh Yankovich: whether they're evaluating stand-alone solutions or a comprehensive single-platform offering.
Josh Yankovich: We had several examples of both scenarios in the quarter. In terms of notable stand-alone win, an enterprise top 50 bank selected our digital banking platform to service their retail customer base.
Josh Yankovich: This customer will leverage key components of our recently announced Q2 Engage Portfolio, enabling the bank to drive personalization and differentiation in their consumer banking offerings.
Josh Yankovich: We believe deals like this underscore the strength of our products and our ability to win in digital banking with some of the largest financial institutions in the industry.
Josh Yankovich: And in one of our single-platform wins, we landed a substantial deal with a Tier 2 bank that adopted our entire platform for their retail, small business, and commercial segments. This particular win was our largest digital banking deal in the quarter from an ARR perspective.
Josh Yankovich: showcasing our continued ability to drive meaningful bookings impact with financial institutions of all sizes.
Josh Yankovich: We've also mentioned how Q2 has frequently benefited when financial institutions complete M&A transactions.
Josh Yankovich: And this dynamic continued to play out in the third quarter.
Josh Yankovich: marking the second quarter in a row where we gained a Tier 1 customer through M&A activity. In this case, a prospective customer acquired a smaller bank, which happened to be an existing Q2 customer, and selected Q2 as the digital banking provider for the newly combined entity.
Josh Yankovich: This acquisition resulted in the addition of a Tier 1 bank that will use Q2's full digital banking platform to serve their retail, small business, and commercial customers.
Josh Yankovich: We believe this win speaks to the strength and attractiveness of our platform, as the digital banking technology of the smaller institution proved to be the preferred solution. We also believe this customer will remain acquisitive moving forward, so we're excited about our potential to grow the relationship over time.
Josh Yankovich: We continue to see meaningful net new activity on the relationship pricing side as well, where financial institutions of all sizes are looking to drive profitability of their commercial business.
Josh Yankovich: In fact, our largest ARR deal in the quarter came from an enterprise win with a $90 billion bank that purchased our relationship pricing products, ultimately replacing a competing provider and their internal tools with Q2.
Josh Yankovich: The ability to optimize pricing strategies for both deposit attraction and relationship profitability with our solutions proved to be a key differentiator in this win.
Josh Yankovich: We're pleased with the continued momentum we're seeing in the enterprise space on this side of the business.
Josh Yankovich: The deal I just mentioned is also one of our top 5 largest relationship pricing deals of all time based on contractual ARR at the time of booking.
Josh Yankovich: We're also well-positioned to continue capitalizing on expansion opportunities with our existing customers. As we've mentioned throughout the year, we believe our customer base gives us significant opportunity for expansion over time, and our performance in the third quarter illustrated this.
Josh Yankovich: With balanced expansion activity across our customer base, including notable expansions with Tier 1 and Enterprise customers that added products like our Risk and Fraud Management solutions, we had our strongest quarter this year for cross-sale bookings.
Josh Yankovich: Q2 Innovation Studio is playing a larger role in driving expansion activity as well. Some of our top cross-sold products in the quarter were generated from our partner ecosystem, showcasing its influence not only in generating bookings, but also in driving deeper engagement with our customers.
Josh Yankovich: This momentum is also reflected in our Innovation Studio bookings overall. While the base is still small, bookings from the first three quarters of 2024 have already more than doubled the total bookings achieved in all of 2023.
Josh Yankovich: Additionally, the majority of our net new wins in digital banking once again cited Innovation Studio as a key reason for choosing Q2, underscoring its importance in both customer acquisition and expansion.
Josh Yankovich: We believe these trends demonstrate the growing value that our customers see in our breadth of products while validating our land and expand strategy.
Josh Yankovich: Moving forward, our opportunity for expansion, coupled with the value of these bookings, reinforces our belief in the longer-term revenue potential within our existing customer base.
Josh Yankovich: We also saw meaningful activity with Helix in the quarter, highlighted by a major renewal and expansion with one of our top five largest Helix customers and our first fabric win.
Josh Yankovich: This significant win was with Envisint, a credit union services organization that will utilize Fabric to optimize and grow their prepaid card offering across the credit union customer base.
Josh Yankovich: As a front-to-back retail tech stack supported by our modern Helix core, digital banking front-end, and expansive partner ecosystem, Fabric allows our customers to pursue their unique growth objectives by helping them easily launch a variety of fee-generating and deposit-gathering services.
Josh Yankovich: both of which are top of mind across the industry.
Josh Yankovich: And while the InVisit partnership is just one example of what customers can do with Fabric, we believe opportunities like this highlight its versatility in helping a broad range of customers facilitate their own use cases to diversify their strategies and differentiate themselves.
Josh Yankovich: Overall, our third quarter sales performance demonstrates our sustained ability to capture the market opportunity in front of us.
Josh Yankovich: Demand remained strong and we executed against our profitable growth strategy while attaining our Rule of 30 target in the quarter.
Josh Yankovich: Before handing it off to Jonathan to discuss our financials, I'd like to take a moment to thank David for his time at Q2 as Chief Financial Officer. We're grateful for the many contributions he's made to the company over the past four years, and I appreciate his dedication to ensuring a smooth transition.
Josh Yankovich: And now, Jonathan will step into the role of Chief Financial Officer.
Josh Yankovich: Jonathan has extensive experience in corporate finance and investment banking.
Josh Yankovich: deep knowledge of the fintech space, and has spent nearly seven years at Q2 working closely with David and his teams while leading key areas of the company including corporate strategy and emerging businesses. We're excited to welcome him into the CFO position.
Speaker Change: With that, I'll hand it over to Jonathan to discuss our financial results in more detail.
Jonathan: Thanks, Matt. I would first like to thank David and echo Matt's appreciation for his many contributions to Q2 over the past four years.
Josh Yankovich: He's been instrumental in ensuring a smooth transition, and we're grateful for the long-term value he's brought to Q2.
Speaker Change: I'm excited to step into this role as the CFO and build on the great work David and his teams have done as we continue to execute against our profitable growth strategy.
Speaker Change: With that, let's turn to our financial results for the quarter.
Josh Yankovich: We're pleased with our performance across several key metrics, including the achievement in the quarter of our previously discussed Rule of 30 target.
Josh Yankovich: This milestone, along with both revenue and adjusted EBITDA surpassing the high end of our guidance, underscores the strength of our business model and solid execution.
Josh Yankovich: We've seen robust growth in our subscription-based bookings, which is reflected in our ARR growth.
Josh Yankovich: Notably, our subscription revenue in the third quarter accounted for over 80 percent of our total revenue, highlighting the success of our ongoing strategic shift towards higher margin recurring revenue streams.
Josh Yankovich: Furthermore, we've made substantial progress in our free cash flow generation, which has seen a meaningful year-over-year increase.
Josh Yankovich: We believe this improvement in cash flow, coupled with our strong revenue growth and expanding margins, positions us well to continue executing against our three-year target financial framework.
Josh Yankovich: I will now discuss our financial results in more detail and conclude with our updated guidance for the fourth quarter and full year 2024.
Josh Yankovich: Revenue for the third quarter was $175 million, an increase of 13% year-over-year and up 1% sequentially.
Josh Yankovich: Our total revenue growth was driven primarily from subscription-based revenues, which grew 18% year-over-year and 3% sequentially.
Josh Yankovich: As I mentioned earlier, subscription revenue comprised over 80% of our total revenue, highlighting the ongoing shift in our revenue mix towards our highest margin revenue stream.
Josh Yankovich: The year-over-year and sequential growth was primarily driven by a combination of new customer go-lives and expansion with existing customers.
Josh Yankovich: As a recurring theme we've discussed throughout 2024, revenue from expansion sales, including cross-sold solutions and improved contractual terms, typically materializes more rapidly than that from net new wins.
Josh Yankovich: This dynamic has been a key factor in our subscription revenue outperformance throughout 2024.
Josh Yankovich: Our services and other revenues declined by 11% year over year. As we have mentioned previously, this trend is primarily driven by the reduction in our professional service revenues, which are more discretionary in nature.
Josh Yankovich: Given the persistent pattern we've seen throughout the past several quarters,
Josh Yankovich: including an average year-over-year decline of roughly 12% in 2024 and our strategic focus on higher margin growth opportunities, we anticipate these headwinds in our services segment to persist into the foreseeable future.
Josh Yankovich: Total annualized recurring revenue, or total ARR, grew to $796 million, up 15% year-over-year, from $694 million at the end of the third quarter of 2023.
Josh Yankovich: Our subscription ARR grew to $655 million, up 20% year-over-year from $547 million in the prior year period.
Josh Yankovich: Our year-over-year subscription ARR growth was driven primarily from net new customer wins as well as expansion bookings with existing customers.
Josh Yankovich: Our total ARR growth continued to be negatively impacted by the decline in professional services-based revenue we previously discussed.
Josh Yankovich: Our ending backlog of over $2 billion increased by $78 million sequentially, or 4%, and a record $467 million year-over-year, representing 30% growth.
Josh Yankovich: The year-over-year and sequential increases were primarily driven by expansion-based bookings, including renewals and additional solutions added by existing customers, as well as net new customer wins.
Josh Yankovich: In addition, the sequential growth benefited from our best cross-sale quarter of the year, as well as continued strength in renewals.
Josh Yankovich: As we have mentioned previously, the sequential change in backlog may fluctuate quarter to quarter based on the number of renewal opportunities available within that quarter.
Josh Yankovich: Gross margins were 56% for the third quarter, up from 53.9% in the prior year period and from 55.7% in the previous quarter.
Josh Yankovich: The year-over-year increase in gross margin was driven by an increasing mix of higher margin subscription-based revenues and increased efficiencies within our delivery and support functions.
Josh Yankovich: Total operating expenses for the third quarter were $73 million, or 41.5% of revenue, compared to $71 million, or 45.8% of revenue in the third quarter of 2023, and $74 million, or 42.7% of revenue in the previous quarter.
Josh Yankovich: The year-over-year and sequential decline in operating expenses as a percent of revenue came primarily from improved scaling of sales and marketing expenses relative to revenue.
Josh Yankovich: As a reminder, the sequential decline in sales and marketing expense was primarily a result of our annual client conference, Connect, which impacted sales and marketing expenses in the prior quarter by approximately $1.5 million.
Josh Yankovich: We also saw a year-over-year reduction in expenses as a percent of revenue within both research and development and G&A, demonstrating our continued focus on operational efficiency and our ability to scale while maintaining our commitment to delivering best-in-class innovation to our customers.
Josh Yankovich: Total adjusted EBITDA was $32.6 million, up 66% from $19.7 million in the prior year period, and up 9% from $29.9 million in the previous quarter.
Josh Yankovich: We ended the quarter with cash, cash equivalents, and investments of $408 million from $372 million at the end of the previous quarter.
Josh Yankovich: We generated cash flow from operations in the third quarter of $43 million, driven by improved profitability and continued effective working capital management.
Josh Yankovich: For the quarter, we also generated free cash flow of $35 million, resulting in free cash flow year-to-date of $70 million, which is up meaningfully year-over-year from the $10 million generated through the first nine months of 2023.
Josh Yankovich: We now expect our free cash flow as a percentage of adjusted EBITDA for the full year to be over 70% for the full year of 2024, significantly exceeding our initial expectations heading into the year.
Josh Yankovich: Let me wrap up by sharing our fourth quarter and full year 2024 guidance.
Josh Yankovich: We forecast fourth quarter non-GAAP revenue in the range of $178.1 million to $181.1 million, resulting in full-year non-GAAP revenue in the range of $691.5 million to $694.5 million.
Josh Yankovich: representing year-over-year growth of 11% for the full year.
Josh Yankovich: As we approach the end of 2024, we expect our full-year subscription revenue growth to reach approximately 16% year-over-year, significantly outpacing our initial projection of 13% for 2024 that we made a year ago.
Josh Yankovich: This substantial full year out performance reflects the consistent strength of our expansion-based bookings and successful new customer go-lives throughout 2024.
Josh Yankovich: This acceleration in full-year subscription revenue growth reinforces our confidence in our three-year annual average subscription revenue growth target of 14 percent.
Josh Yankovich: And looking ahead to 2025, we continue to anticipate full-year subscription revenue growth to be approximately 15%.
Josh Yankovich: We forecast fourth quarter adjusted EBITDA of $34.3 million to $36.3 million.
Josh Yankovich: and full year 2024 adjusted EBITDA of $122 million to $124 million, representing approximately 18% of non-GAAP revenue for the year.
Josh Yankovich: In conclusion, our strong third quarter results and updated full year guidance showcase the durability of our business model and our solid execution, highlighted by achieving the total revenue Rule of 30 target we shared at the beginning of 2023.
Josh Yankovich: Our performance, marked by subscription revenue growth exceeding expectations, enhanced operational efficiency, and accelerating cash flow conversion, demonstrates significant progress towards our three-year financial targets.
Josh Yankovich: We remain dedicated to delivering growth, profitability expansion, and improved capital efficiency.
Josh Yankovich: and believe that our results to date collectively illustrate our progress and potential as we continue to evolve our business and drive shareholder value.
Speaker Change: With that, I'll turn the call back over to Matt for his closing remarks.
Matt Flake: Thanks Jonathan. In closing, we rounded out a great third quarter with strong financial performance and solid sales execution across the business.
Speaker Change: On the sales front, we saw a broad mix of booking success with Tier 1 and Tier 2 customers highlighted by multiple enterprise wins with top 50 U.S. banks.
Speaker Change: We continue to land a combination of net new and expansion deals within digital banking, relationship pricing, and Helix.
Speaker Change: including our first fabric win and one of our top five largest relationship pricing deals of all time. We believe our sales performance in the quarter reinforces our competitive differentiation and our ability to capitalize on a range of opportunities across our lines of business.
Speaker Change: On the financial side, our results exceeded the high end of our guidance, and we continued to deliver improved profitability in accordance with our long-term financial targets, enabling us to achieve our Rule of 30 target in the third quarter.
Speaker Change: As we begin to close out 2024 and look ahead to 2025, we're confident that we'll continue to drive shareholder value with our strong product portfolio, solid sales execution in terms of both net new and expansion opportunities, and our proven ability to execute against our profitable growth strategy.
Speaker Change: Thank you, and with that, I'll hand it over to the operator for questions.
Speaker Change: Thank you, sir. And once again, everyone, it is star one. If you would like to ask a question today, we'll go first to Dan Perlin, RBC Capital Markets.
Dan Perlin: Thanks. Good evening, everyone. Great quarter.
Dan Perlin: I wanted to just dive in a little bit if we could, you know, your subscription AR and backlog here again accelerated year-over-year.
Dan Perlin: You know, we look at kind of on a sequential basis.
Dan Perlin: So, maybe Matt, if you could just, can you touch on this a little bit, but maybe like dive into maybe how some of these deals are evolving a little bit. You're clearly winning, you know, bigger banks and financial institutions, but it also feels like the types of deals that you're signing are a little bit more holistic within your product portfolio. So, if you wouldn't mind just maybe revisiting that with a little more detail, that'd be great.
Matt Flake: Yeah, Dan, we continue to be pleased with the demand environment out there. Deposits are critical for everybody, and our system drives retention, acquisition, and growth of those deposits. And then our relationship pricing product, it's not...
Dan Perlin: It's not a rate-sensitive product, but it's a much more complex environment to price relationships. And so you're seeing the $90 billion bank we signed with it. I would say that upmarket on the enterprise and tier one deals, you know, there's...
Dan Perlin: They get one product in and they continue to expand with more products down the road. So if you just think about our business.
Dan Perlin: We have 100 customers that are greater than $5 billion, Tier 1 customers, and more than 50% of them only have one major product SKU, so we have a lot of opportunity to expand within that 100. Then we have 230 customers that are greater than $5 billion that are not digital banking.
Dan Perlin: and that number is even greater than 50% for them where we can expand, so there's a lot of opportunity there as well.
Dan Perlin: As I sit here today at the end of the third quarter, we've signed almost twice as many deals at the same time as last year.
Dan Perlin: at this point. So, demand environment remains strong and, you know, we talked about the Tier 2 that
Dan Perlin: bought the whole suite of products. We're seeing that happen in the tier 2 and tier 3 space where they do buy a more robust set of products, but really happy with the demand environment and we think
Dan Perlin: sets up for a nice fourth quarter as well.
Dan Perlin: Just pleased with the execution of the sales team and the ability to close these deals.
Dan Perlin: and the rest of the team. We'll see you next time. We'll see you next time.
Speaker Change: Yeah, I mean it sounds it sounds like you just continue to gain momentum on momentum But yeah, the follow-up to that real quick if I could you know as you as these as these wins are Becoming larger, maybe more holistic Deals and just given the sheer size of the backlog now
Speaker Change: Are there any concerns that like the implementation teams need to be kind of beefed up a little bit? I know you always give the timing of how these things are going to roll in but These are starting to be pretty big numbers And I just I often wonder if that doesn't catch companies off guard so anything there would be great. Thank you
Speaker Change: Yeah, Dan, it's a fair question, and in the history of 20 years of the business, we have been caught off guard, but our implementation sales and finance organization work very closely on demand and capacity planning, and I don't anticipate any problems like that in 2025.
Speaker Change: That's great to hear. Thank you. Thanks, Dan.
Speaker Change: We'll go next to Chris Kennedy, William Blair.
Chris Kennedy: Great, good afternoon. Thanks for taking the question. 16% subscription revenue growth this year, at least 15% next year, and then compares to your long-term targets. Any way to think about kind of the trajectory there?
Chris Kennedy: Yeah, Chris, it's Jonathan. I'll take that. So, yeah, as we said on the call, we feel really good about the performance. In particular, that 16% relative to the 13% we sort of saw and provided as guidance coming into the year. We've really seen overperformance in particular when it comes to cross sale, when it comes to the renewals that we've seen, both in terms of the economics we're getting on those renewals, but also how we've pulled in renewals out of scope from the year, which has helped the performance. And so that's really led to the overachievement that you're seeing in that first year, the 16%.
Chris Kennedy: And then as we think about the 15%, you know, sitting here today, obviously, we still have a fourth quarter that we're looking at that hopefully will be strong on the cross-site too, so have an impact there.
Speaker Change: And then we'll get more color around what the shape of it from a 26 perspective looks like on the February call. But all in all, sitting here today, feel really good about the dynamic and just got to continue executing at a high level, but very pleased with the results to date.
Speaker Change: Great, thank you. And then Jonathan, just a quick one for you. Can you just talk about kind of, you've been at the company for a long time but have a new seat, kind of what your key priorities are going forward? Thank you.
Jonathan: Yeah, definitely. So, I would say from a philosophical perspective, very much continuing down this path of profitable growth, and we're still early days when it comes to a lot of the execution, and I know we've seen a lot of
Jonathan: in terms of the profitability of the business, but we still feel like we have a long way to go, and we want to do that while we're maintaining an elongated runway of the type of growth profile that you're seeing from us. So really, it's around continuing down this path of profitable growth.
Jonathan: We're going to invest in areas that help maintain and drive our leadership position in the markets.
Jonathan: And we've talked a lot about it, but you see in the call today, the cash flow position of this company is strengthening. That leads to a stronger balance sheet, and that's really going to be a priority for us as we continue to strengthen the balance sheet and put the company in a strong position to, over time, be in a position to strategically act where there's opportunity. And so, right now, we're just heads down and executing, but very much pleased with the year so far and heading into 2025. I think we're going to have a lot of opportunity.
Jonathan: to continue a lot of the great work that David and his team have done and then continue exploring new opportunities to move the ball forward.
Speaker Change: Great. Thanks for taking the questions.
Jonathan: Thanks Chris.
Jonathan: And Terry Tillman from Truist Securities is up next.
Speaker Change: Great, thanks for taking the questions. This is Bobby Dion for Terry. So y'all continue to report great success coming in on the winning side of M&A. I'm curious, what are your expectations for the bank M&A environment heading into next year and how big of a tailwind is M&A for growth in a normal or elevated M&A year? And then I had one follow-up. Thank you.
Speaker Change: It's hard to predict what's going to happen.
Speaker Change: I think generally the view is that you're going to see M&A pick up in 2025. There's a backlog of deals that are sitting out there. I don't want to get too much into forecasting it, but I do anticipate it picking up after the...
Speaker Change: Trump takes office and you'll potentially see more and more deals happen, which is, as you know, historically for us, we're in about the 90% win rate where we retain the customer and pick up the acquisition. And we had a great story that I mentioned in the prepared remarks around
Speaker Change: Smaller financial institution got acquired by a bigger one and they adopted our platform So, you know, I'm not sure what that number could look whether that's going to be a one-off or more common But the platform is highly differentiated and I think you'll see it pick up as far as the revenue lift I don't know if you can quantify that
Speaker Change: Yeah, I would just say, you know, we're examining the deals that are out there that are in backlog. The way I think of it, though, is you have a real time lag between when the deal is announced to when it closes to when the migration would occur. And then, you know, you have the opportunity for one-time services dollars. And then depending on the negotiation and the nature of the contract in terms of their user counts.
Speaker Change: There's opportunity for upside on the subscription side of the equation as well But there's a lot of factors and every deal is sort of its own snowflake so hard to predict deals that haven't happened yet
Dan Perlin: Great, and then secondly, we've seen various reports on private company vendor challenges in this space. Have those been a driver of pipeline or new booking success in 3Q? And how do you see the competitive landscape evolving going forward? Thank you.
Speaker Change: Yeah, I mean, you know, we.
Speaker Change: There's plenty of examples of people that struggle to get the product live, that try to do different.
Speaker Change: New entrants and features and functions, especially on the commercial banking side, which are the crown jewels of our customers, the banks. And moving those customers is very risky, our ability to point out.
Speaker Change: 100 customers, more than 5 billion. We've converted on every core from every system multiple times. Customers are happy. They're referenceable for us.
Speaker Change: So.
Speaker Change: It's a tough business, the integrations are tough, the customer experience is tough, the conversion is tough.
Speaker Change: stickiness and a real experience that makes somebody feel...
Speaker Change: The bank's brand as they're interacting with it, which is what's a big part of digital banking, is you've got to drive an experience that the bank gets credit for. We do that really well.
Speaker Change: Much appreciated. Thank you. Thank you.
Speaker Change: And next we'll hear from Alex Sklar, Raymond James.
Alex Sklar: All right, thank you. Jonathan or Matt, just in terms of the subscription bookings commentary, I appreciate the color on flagging the tougher compare. Can you just elaborate a bit more on what you're seeing in the macro or late stage pipeline going to kind of what's normally a seasonally stronger quarter? What are some of the puts and takes why there might not be some real seasonal strength in Q4? Thanks.
Speaker Change: Yeah, I anticipate Q4 being a strong quarter. It's a tough compare when you sign the two biggest deals in the history of the company in Q4 of 23, obviously. And that was a historic quarter. But I anticipate having...
Speaker Change: A strong quarter. We have got we got to go execute. We got to win those deals but I would anticipate it being the biggest quarter of the year for us and Feel really good about our ability to execute on those deals
Speaker Change: And I would just add when you think about you know We gave that that color because I think it's important for investors and the audience at large to understand that
Speaker Change: The Q3 number was obviously very strong when you look at subs ARR. So sequentially, we wanted to make sure that people understood why the pressure in Q4. And as Matt alluded to, it's purely a tougher comp, Q4 of 23 versus Q4 of 24. Feel really good about the fourth quarter trajectory, as Matt said, we got to go execute. But that 12 to 14%
Speaker Change: gives some directional guidance around how to think about it relative to Q4 of 23, and then also puts into framing how to think about the subs growth in 25 that we provided.
Speaker Change: Okay, perfect. Thanks for the added color there. Jonathan, maybe just a follow-up for you. The incremental margins have been fantastic this year, obviously hit rule of 30 earlier than kind of planned. You've talked about the free cash flow conversion being up nicely. Just from your seat today, like where are your big focus areas going forward on the efficiency side of the business to kind of make sure that you are in a position from balance sheet strength going into the next couple of years? Thanks.
Speaker Change: Yeah, great question. So, as I mentioned, I think there's still a lot of work to do on some of the basic blocking and tackling, and then I think we have lots of opportunity to continue pushing the ball forward on new opportunities. So, one of the things I'll call out, as I mentioned in the prepared remarks, we crossed the threshold of 80% subscription mix.
Speaker Change: And, you know, while, you know, we've made tremendous progress in that from just looking back a year or two ago, we still think there's more to go there. And so that will certainly be one of the contributors, maybe not to the degree you've seen over the last two years in terms of the expansion, but we still see that mixed shift.
Speaker Change: continuing in through 25 towards subscription, which will have a positive impact on margin.
Speaker Change: The other thing that we're seeing as I mentioned on some of these renewals is we're doing a really good job when it comes to pricing and packaging and ensuring that we're getting the value of our platform in these renewals and so really like
Speaker Change: new strategies, trying new opportunities when it comes to how we think about pricing and demonstrating the value of the platform at the point of renewal.
Speaker Change: We've talked about efficiency when it comes to delivery, support, our upgrade process.
Speaker Change: And then I think David and team have done a great job down the path of some basic sort of OPEX opportunities.
Speaker Change: When you look at how strong our bad debt numbers are, optimizing our facility's footprint.
Speaker Change: procurement maturation and we're still early days in some of those levers so a lot more to go and this is a company-wide mindset that we've instilled and we still think there's a lot more to do on that front so those are some of the initiatives though that I think you were asking about.
Speaker Change: Awesome. Great color. Thank you both. Thank you.
Speaker Change: The next question comes from Adam Hotchkiss, Goldman Sachs.
Adam Hotchkiss: Great, thanks for taking the questions. Just curious on the Innovation Studio side, I think you said doubled year over year. What in your view is driving that, right? Is it just more partners being added? Is it because it's being referenced in almost every new deal? It's more new logos that are bringing on partner products. Are you educating folks more? Just curious what's driving that momentum.
Speaker Change: Yeah, it's a great question. I'll take this, just given the recency of the transition. The net new side has an impact, and we're certainly trying to educate our prospects and soon-to-be customers earlier so that they can think about adoption sooner and right into the go-live. But the traction that you're seeing that was mentioned on the call is primarily driven from existing customers.
Speaker Change: and them doing a better job of...
Speaker Change: promoting these solutions to their customers, where that's the model in the marketplace, for example, and candidly, just taking up more of these products as the familiarity with the model and the value proposition is becoming more and more clear. So because you're coming off a small base, I don't wanna over-rotate to the magnitude that we talked about, but it is still very early days in the adoption cycle. And so we think there's still a lot of room for the existing customer base to take on more products.
Speaker Change: and demonstrate the value of those products to their customers, which ultimately is what will drive the value proposition for all the parties involved here. So, mostly driven by existing customers is the short answer to your question.
Speaker Change: Okay, that's super helpful. And then just on the services side, I fully recognize the headwinds there, but is there anything that's either in or out of your control that you'd look for for that business to be turning around? Is it just bank earnings getting better? Are you hearing certain things from bank decision-makers that would suggest they're changing their minds? I'm just curious what might cause that to turn around and maybe what's causing the headwinds despite some of the success we've seen at the banks recently.
Speaker Change: I'll let Kurt or Matt comment on the bank environment, what could drive maybe a resurgence in spend over time, even though that's not what we're seeing today, to be clear. But I do want to make one thing clear as we think about this in 2025 and beyond.
Speaker Change: As we are optimizing on the profitability side that we've talked about, one of the things that we're really focusing on is ensuring that the economics of these engagements make sense to us going forward. And we have a real opportunity to think about if that business comes back and there's an opportunity to pick it up.
Speaker Change: What's the right type of business for us? Where do we want to take it on and what are the right?
Speaker Change: pricing levels to be able to do so. So I do want to caution that even if some of the macro indicators may signal an uptick in spend over the next couple of years,
Speaker Change: I think our approach is going to be more disciplined in terms of ensuring the pricing and the implied margin profile of this revenue stream looks a little different than what you've seen from us historically. So, I'll just add, this is Kirk, I'll just add that.
Speaker Change: You know, I think on balance, our customers are a little bit more optimistic than they were a year ago, and so that's good as they're going into...
Speaker Change: about their budget season and finalizing all those things. But that doesn't mean that to Jonathan's point that that you know there's going to be some huge wave of demand for the services. We're going to certainly can manage that from our side as well in terms of what's the right fit for us and the things that we ought to be doing.
Speaker Change: versus some other provider might do instead. So we'll manage that carefully. I think that there's still a good mix as we see some of these newer customers come on. You know, there's
Speaker Change: We can anticipate that it might still be choppy for a little while while they're getting into the next year.
Speaker Change: Okay, really useful. Thank you both.
Speaker Change: Thank you.
Speaker Change: The next question is Michael Infante, Morgan Stanley.
Speaker Change: Hey, this is James Fossett on for Michael. Wanted to ask really quickly on one of the CFPB rules that came out 1033, would be great to hear your perspective on that ruling and the feedback you've heard from our customers. And I guess we're wondering if this could be a driver of incremental attach of some of your centrics, risk and fraud capabilities.
Speaker Change: Yeah, it's still a little early in it. I guess the thing that I would say about this is that, you know, we have extensive experience in this, kind of all the integrations we do, numerous cores, all the legacy technology integrations that we have.
Speaker Change: The way that we standardize and map accounts, historical transactions, kind of all the real time and scheduled transactions, kind of all the things that are relevant to open banking and kind of what our customer profile looks like.
Speaker Change: How this kind of gets implemented and integrated across the industry I think is even though the rule is written now
Speaker Change: You know, we still have to see how this is going to play out from a technical perspective and what's actually required by the different institutions But we feel like we're in a really good spot to be able to help our customers and their customers
Speaker Change: with that. Certainly the broad space is going to be a key ingredient of this because you don't want people to be able to just be moving their accounts around without accountability for making sure that that's being done in a safe and secure way. We do a lot of that for our customers today. There's no reason we wouldn't see.
Speaker Change: doing that in the future. But still a lot to be learned about how it's going to get done out there in the field, so to speak.
Speaker Change: Appreciate that. And another question just kind of around evolving market conditions and potential demand for product. I'm wondering if you can provide a bit more detail on your premium treasury pricing solution and its market reception, particularly given the current interest rate environment.
Speaker Change: Yeah, we've seen really good take up for premium treasury pricing, including with some of our largest precision lender customers, which is a really positive development.
Speaker Change: But pricing commercial relationships is really difficult and really meaningful and you can't just you know I think everyone's kind of fully on board. You can't just price the loan side correctly. You got to price the whole relationship
Speaker Change: So that we continue to see strong demand for that. We think the conditions will remain.
Speaker Change: strong for that because although funding costs are starting to come down a little bit, a lot of people are repricing their deposits as they're repricing them as the interest rates come down.
Speaker Change: by getting that exactly right, making sure you're balancing that with whatever your fee income is is super important. So, I think there's some nice tailwinds there.
Speaker Change: That's great to hear it. Thanks for that.
Speaker Change: Thank you.
Speaker Change: We'll take the next question from Dominic Gabriel, Compass Point.
Dominic Gabriel: Hey, great. Nice to meet everybody and thanks for taking my questions.
Speaker Change: So, I just was curious, I wanted to dive just maybe a tiny bit deeper on the discretionary spend of banks and the flow through into services. Is there any chance that you'd be willing to provide a little more detail on the breakdown or how much of the roughly 11 to 12% year over year decline is within your control of de-emphasizing those products versus the demand piece?
Speaker Change: And I just have a follow-up.
Speaker Change: Let me give a little bit of color. We don't disclose the breakdown, but what I'll tell you directionally, when you think about the services components...
Speaker Change: The consulting engagements, consulting-like engagements, what we call premier or integrated services, is certainly the largest component of the bucket, but still under 50 percent.
Speaker Change: Then you have our implementations, which more tracks the bookings performance. So, you know, more controller, more tie specifically to.
Speaker Change: And then we have some other services, one-time engagements, other small-dollar services opportunities that are in that total bucket, as well as our what we call services and other, which would include pass-through on the Helix business. So that's the total.
Speaker Change: buckets. And again, that largest bucket still sub 50% is where we're feeling this pressure, where we clearly call it discretionary, and we don't really have control over the spend dynamics from a bank perspective.
Speaker Change: OK, perfect. I appreciate that. So it looks like on the marketing side, you know,
Speaker Change: You're getting quite a few large wins versus the historical set of wins per year, but your marketing expense, you're seeing more efficiency there. Maybe just talk about, you know, what your sales force is doing, the tenure of your sales force, why you're seeing these gains that are coming through the numbers while you're still getting larger and larger wins. Thanks so much.
Speaker Change: Well, I think to some extent.
Speaker Change: We made a commitment to get into larger customers about IPO time. It takes a long ten years ago it takes a long time to get there because you've got to win the deal you got to get them up and running.
Speaker Change: And as I always say, customers reference up not down, meaning a prospect wants to talk to a bank or credit union that's larger than them to make sure you can handle the scale and the growth.
Speaker Change: It takes time to do that. We've been very successful with that. As I mentioned earlier, we have more than 100 Tier 1 customers on digital banking.
Speaker Change: And so, word of mouth spreads, the sales reps, especially in the Tier 1 and above, are all experienced, they know the story, they know how the products work, they're professionals, they have relationships.
Speaker Change: and they drive those. It just takes time to get those done and it's, as I said, you know, the commercial offerings have matured significantly.
Speaker Change: Over the last several years, we invested heavily during the pandemic in our roadmap and our products.
Speaker Change: whether it's Precision Lender or Fraud Products or Innovation Studio or the Digital Banking Platform.
Speaker Change: So, it just takes time to build that customer base that you can reference off of, deliver, and then the expansion opportunity is a huge opportunity for us as well, as I've already mentioned earlier in the call. So,
Speaker Change: It's just a lot of work that goes into it, whether it's the sales team, the solutions consulting team, the engineering team.
Speaker Change: the delivery organization. So we've just built this organization with a long-term view on what we're going to do. And so I hate taking away from the tier two and three because that's still the bread and butter of this business.
Speaker Change: We win those deals. They're great banks and credit unions. They grow. They go make acquisitions. But to get into the space like we've done, especially over the last two or three years, it's a testament to the quality of the team and the products and the culture we have at this company.
Speaker Change: Thank you.
Speaker Change: Thanks so much.
Speaker Change: Hey everyone, this is Peter Karasoun for Geo Tonight. Thanks for taking our questions. I think at one point in the year you had said that 3Q was a bit lighter on the renewal side compared to the rest of the year. Obviously a really strong RPO result here. So is it the case where renewals came in stronger than expected or should this be read as just a really strong net new and cross all activity this quarter?
Speaker Change: Well the
Speaker Change: Q3 is typically a slower quarter because you have the summer and you got people coming back and they start doing planning for the next year in September typically.
Speaker Change: One of the things to think about, it was the largest cross-zone quarter of the year for us, is that we had our client conference
Speaker Change: About a month later this year, so we did it in June as opposed to May.
Speaker Change: The Client Conference generates a lot of energy and excitement around the product roadmap we have and the offerings that we present to them, and so that was in early June.
Speaker Change: A lot of those decisions just got pushed into the third quarter. I don't want to take anything away from, you know, what the team did, but...
Speaker Change: I think that's why you saw having such a big renewal quarter, but I would say that I would anticipate Q4 being a solid renewal quarter as well.
Speaker Change: I'm really happy with the performance by the customer success team, what they've gone out and done this whole year, but I'm excited about also what the fourth quarter looks like.
Speaker Change: Thank you.
Speaker Change: Great. And then on the upside from maybe the quicker time to revenue projects on the cross-sell side benefiting subscription this year, how should we be thinking about this trend as sustainable, particularly going into the next couple of years? Is there anything unique in this year that is maybe higher in this bucket, or do you think this is something that can continue to drive upside going forward?
Speaker Change: We're optimistic that we can continue to see strong performance here. I think what is a little unique so far that we've seen year-to-date...
Speaker Change: is a lot of renewals out of scope for the year that have been pulled into 24. And that's, I think, a testament to the team, as Matt said, but also to the client's commitment in wanting to use and expand with the product.
Speaker Change: So that's been one of the drivers, and then just to strengthen cross relative to plan.
Speaker Change: We're confident that that can continue into next year. I don't know that we would have projected this level of outperformance, so I don't plan for that as we think about 25. But from a demand perspective, I think it's a good spot that we're in, as Matt mentioned. When you win all these clients, both small and large, it gives us a huge opportunity to go cross-sell into it. And we're seeing that come to fruition, and we've certainly seen that in 24, which has driven a lot of the upside in your subs growth that you've seen.
Speaker Change: Great, thank you.
Speaker Change: Thanks, Peter.
Speaker Change: And we'll go next to Andrew Schmidt, Citigroup.
Andrew Schmidt: Hey Matt. Hey Jonathan.
Andrew Schmidt: Good to speak with you. Good results this quarter.
Speaker Change: Maybe we could dig into the gross margin performance. Apologies, I hopped on a little bit late, but you know, it seems like some good success there. And I know you guys have some tech initiatives that are ongoing to improve delivery and things like that. But maybe just talk about just the drivers in the quarter and then, you know, over the next couple years, you know, how we should think about gross margin progression with everything, you know, you're working on there. Thank you so much.
Speaker Change: Yeah, I would say the quarter sort of manifests itself in the improved sequential and year-over-year gross margin for all the reasons we've been talking about. Whether it's the mix, as I mentioned, Andrew, we sort of surpassed 80%.
Speaker Change: Subs which obviously is the highest gross margin revenue stream we have in the company. And so that's been a contributor
Speaker Change: As you mentioned, the delivery efficiency, support and upgrade processes, things we've put in place over the last year or so, sort of coming to fruition with more room to grow there.
Speaker Change: better utilization of global resources and maturation of that team and the role they're playing.
Speaker Change: And then, you know, as we've talked about, as you get sort of into 26 and beyond, the opportunity there with things like migration to the cloud and such are areas for ongoing expansion beyond sort of the next 12 to 18 months.
Speaker Change: We are pleased with the gross margin improvement we've seen, but still think we have a long way to go, and I think that's implied within our three-year framework that we've given as well.
Speaker Change: Got it.
Speaker Change: Thank you so much, Jonathan. And then, if I could switch gears to the digital lending business, I saw the Symphonics roll out.
Speaker Change: You know, I think that's an iteration on cloud lending. Could you just talk about competitives there? It sounds like you guys have refreshed that product, can go at it, you know, with a little bit more vigor. Maybe talk about just the opportunity to drive more digital lending wins across the platform. Thanks so much.
Speaker Change: I think we learned a lot from the rebrand we did of Helix. When you're playing in different geographies, which Symphonics is and Helix obviously being a domestic product, and you're serving a different set of clients, meaning primarily non-banks and credit unions,
Speaker Change: The importance of building that brand and identity, we sort of saw the value of that with the initiative we had in Helix a couple years ago.
Speaker Change: That was something we learned from and now have applied it to the bulk of the cloud lending business as it used to be known.
Speaker Change: And so we think of, you know, from a go-to-market perspective...
Speaker Change: continuing down that path. We're not changing the strategy in terms of now going after sort of U.S. financial institutions. We're still focused in the areas where we've been focused on with that business.
Speaker Change: But it allows the team to sort of be able to go to market with a clear value proposition and identity that they can benefit from and that matches sort of what they're trying to message in the market versus the conflation with the rest of Q2, which wasn't helping them.
Speaker Change: Got it. Thank you very much. Congrats on the good results here.
Speaker Change: Thanks guys, I appreciate it.
Speaker Change: And ladies and gentlemen, that does conclude our question and answer session. It does also conclude our conference for today. We would like to thank you all for your participation. You may now disconnect.