CyberArk Software Ltd. (NASDAQ:CYBR) Q3 2020 Earnings Conference Call November 10, 2020 8:20 AM ET

Company Participants

Erica Smith – Vice President, Investor Relations

Udi Mokady – Chairman and Chief Executive Officer

Josh Siegel – Chief Financial Officer

Conference Call Participants

Fatima Boolani – UBS

Sterling Auty – JPMorgan

Rob Owens – Piper Sandler

Andrew Nowinski – D.A. Davidson

Hamza Fodderwala – Morgan Stanley

Jonathan Ho – William Blair

Gregg Moskowitz – Mizuho

Brian Essex – Goldman Sachs

Disclaimer: *NEW* We are providing this transcript version in a raw, machine-assisted format and it is unaudited. Please reference the audio for any questions on the content. A standard transcript will be available later on the site per our normal procedure. Please enjoy this timely version in the interim.

Operator

[00:00:03] Ladies and gentlemen, thank you for standing by and welcome to the CyberArk third quarter 2020 earnings conference call. At this time, all participants are in a listen only mode. After the speakers presentation, there will be a question and answer session to ask a question. During the session, you will need to press star one on your telephone. Please be advised that today’s conference is being recorded. If you require any further assistance, please press star zero. I would now like to hand the conference over to your speaker today. Erica Smith with Investor Relations. Thank you. Please go ahead, madam.

Erica Smith

[00:00:40] Thank you, Cindy. Good morning. Thank you for joining us today to review Seiberg third quarter 2020 financial results with me on the call today, or Udi Mokady, Chairman and Chief Executive Officer, and Josh Siegel, Chief Financial Officer. After prepared remarks, we will open the call up for a question and answer session. Before we begin, let me remind you that certain statements made on the call today may be considered forward looking statements which reflect management’s best judgment based on currently available information. I refer specifically to the discussion of our expectations and beliefs regarding our projected results of operations for the fourth quarter. Our actual results may differ materially from those projected in these forward looking statements. I direct your attention to the risk factors contained in the company’s annual report on Form twenty five of the U.S. Securities and Exchange Commission and those referenced in today’s press release that are posted to Cyberonics website, as well as risks regarding our ability to actively begin transitioning the business to a subscription model in 2021 and the duration and scope of the covid-19 pandemic, its related impact on global economies and our ability to adjust in response to the pandemic. Steimberg expressly disclaims any application or undertaking to release any public updates or revisions to any board looking statements made here in. Additionally, non-GAAP financial measures will be discussed on this conference call. Reconciliation’s to the most directly comparable get financial measures are also available in today’s press release, as well as in an updated investor presentation that outlines the financial discussion in today’s Call. This information can be found at www.youtube.com in the Quarterly Results Section Under Investor Relations. Also, a webcast of today’s call will be available on our website in the I.R.S.. With that, I’d like to turn the call over to our chairman and Chief Executive Officer, Udi Mokady.

Udi Mokady

[00:02:33] Thanks, Erica. Thanks, everyone, for joining the call today. We first of all, we hope you and your families are all well. While the global pandemic has had a profound impact on all of our lives, our community of customers, partners and employees have adjusted to the new normal. This is reflected in our third quarter business performance, record levels of customer and prospekt engagement and business productivity gains. I am very excited to discuss our strategy to begin actively transitioning to a subscription model in 2020 one. But first I will touch on third quarter highlights and industry trends. For the third quarter, we reported 107 million dollars in revenue, thirty million dollars in non-cash operating income and non-GAAP of 31 cents per share. We are pleased with our execution and the momentum in our business. In the third quarter, our mix of recurring revenue bookings accelerated, driven by increased demand for our SAS solutions. This impacted our reported revenue and profitability, which Josh will discuss later in this call. As we move deeper into our subscription transition, it will be important in the near-term to look beyond the headline PNL as it is a lagging indicator of our true success. We believe annual recurring revenue, or IRR, which grew 40 percent in the third quarter reaching 250 million dollars, provides increased visibility into the overall strength and the long term growth of our business. This metric demonstrates that we are building a rapidly growing base of high value, more predictable recurring revenue.

[00:04:06] Industry tailwinds continue to underpin our business and contribute to our record pipeline growth and remains at the top of Seow and Sisso priority lists, delivering a critical layer of protection against hacker innovation while enabling regulatory compliance, digital transformation and cloud migration. Escalating privileges is the most frequent pathway for attackers who are more aggressive with the expanded attack, service and work from anywhere environment to manage that risk. Organizations turn to cyber as the clear market leader and industry innovator. There’s also a long list of ever-changing compliance requirements that our solutions help address. As an example, the National Institute of Standards and Technology, or NYST, recently introduced standards for Secure Zero Trust architecture, which specify that the Palm Privilege Access Management is critical to comprehensive 021 security frameworks. When it comes to digital transformation and cloud migration strategies, customers can implement these programs faster, smarter and more securely by leveraging. These programs have created highly distributed I.T. environments and increased automation and application development and business processes, resulting in the proliferation of privileges. Almost all identities, including users, machines, applications and tools, can be privileged under certain conditions. Our customers have increasingly asked us to secure additional identity use cases, which is significantly expanding our total addressable market. Our vision for identity security is taking a SACE delivered security first approach with a foundation and plan to provide users with the right level of access and privileges depending on the activity.

[00:05:50] Transitioning to a subscription company accelerate this long term vision by aligning Cybex business to these trends, we have always focused on our customers and delivering a meaningful layer of security that evolved at the pace of their IP environments. This includes being ready for when enterprises demand shift into SAS and subscription in 2020 years of change that have happened in a matter of months. covid-19 and work from anywhere have accelerated digital transformation and cloud migration and significantly increased adoption because of our strong execution and business agility. We are in a great position as we begin to actively transition our business next year. In fact, we will enter 20 21 quarters ahead of most technology companies who have gone through similar transitions. Our financial results show that customers are embracing recurring revenue consumption models without making any changes to our go to market approach. Year to date, more than 35 percent of our new license bookings were from SaaS and subscription in the third quarter. This makes reach over 45 percent of our new license bookings, including seven of our top 10 license mix license deals. This dramatic increase in subscription mix was driven predominantly by record Sesemann. We have the broadest, most feature rich cloud portfolio to secure privileged access and identity security in the market. Our ongoing innovation, the breadth of our portfolio and the maturity of our cloud offerings will be a key driver of our subscription transition program, adding incredibly valuable SaaS, recurring revenue and deeper, long lasting customer relationships.

[00:07:32] We have been working on a comprehensive readiness program to ensure long execution, strong execution throughout this transition, and dedicated cross-functional team is also working to ensure we execute the transition with the rigor and focus. We also conducted internal research and engaged one of the leading independent consulting firms who validated the durability of demand for on premise subscription well beyond covid, covid-19 and the current economic environment. We will adjust our go to market approach that will holistically nurture our customer relationships, putting their success at the center of everything we do. Matt Cohen is taking on an expanded role in the newly created position of Chief Operating Officer. He will continue to head the global sales organization and is adding all those sales engagement, including services, support and customer success. This organizational structure will support long term sustainable growth by accelerating customer adoption and expansion and at the same time ensure that we deliver best in class customer satisfaction and strong renewals. Matt has deep operational experience and will be an integral part of our subscription transition success the field. He has done a great job selling and subscription year to date to help accelerate the pace of our transition. We will not only roll out comprehensive sales and channel enablement programs, but also shift our compensation plans in favor of sass and subscription sales versus perpetual licensing beginning in 2021.

[00:09:02] We will be rolling out attractive new solution packages to incentivize customers to adopt our service and subscription offerings. I am confident that this transition will reduce friction in the sales process, increase cross-sell activity and build enduring relationships with our customers by delivering deeper value and stronger security. Moving into a few details on the third quarter, we are seeing unprecedented activity with existing customers who are increasingly turning to cyber as a trusted adviser following our prescriptive Pam blueprint methodology. As examples, a large UK consumer manufacturing company is building its long term security programs on purpose and application access manager for drops to protect its fast growing global multi cloud environment. We are seeing increased traction for A as organizations increasingly shift left integrating security into jobs earlier to drive down costs and improve speed to market. Our largest adaptive win to date is an existing Seiberg Enterprise customer. This organization understands the power of multifactor single sign on lifecycle management integrated with PEN, which is the foundation of our identity security strategy. In the third quarter, new business activity and pipeline progression continues to pick up. We added more than 190 new logos, including a Fortune 500 company and the global 150 technology company. While we are seeing increased demand for new cloud solutions around premise offerings, including corporate taxes, security continue to meet the requirements of many large enterprises. A few new business highlights include in a seven figure rip and replace with a large regional bank is modernizing its security program with core parts for operational efficiency, with automatic prudential onboarding across its NWC and on premise environments, and will also benefit from our extensive secure integrations, including SailPoint Wireless and of.

[00:11:00] As part of its digital transformation program, a Fortune 500 company is rolling out cyber privacy cloud. This new Chief Information Security Officer wanted to maximize control of the environment while benefiting from the efficiency and tremendous time, the value of service delivery. A large health care system in the US blended with private cloud endpoint his manager and application access manager. Hospitals are frequently attacked by ransomware, and we provided this customer with peace of mind. Given that endpoint privacy manager has been tested against and successfully blocked over three million types of ransomware. Innovation is a foundational pillar of our strategy and strengthens our leadership position in the market. We were pleased to be named a leader in the Gartner August 2020 Magic Quadrant for projects management position, both highest and ability to execute and furthest incompleteness of vision for the second time in a row. We continue to make ongoing foundational investments in our core architecture that are enabling us to release major innovation and functionality more quickly. Yesterday’s introduction of cyber cloud entitlements manager and apower says a solution that enhances cloud security is a prime example of the innovation engine from our cyber labs team, as are as new environments and cloud services are deployed.

[00:12:17] Thousands of commissions are created that provide a pathway for attackers to gain privileged access. We can now help organizations to take back control of cloud security by transforming how these permissions are secured and managed with continuous visibility, in-depth analysis and real time remediation. Finally, I want to provide a bit of color on what we are seeing from customers and partners after crisis planning and business continuity and early 2020 organizations are deep into strategic planning. They recognize that long term success is dependent on the speed of their digital transformation progress. This is increasing the sense of urgency to not only implement strong security controls to mitigate risk, but also incorporate technology that would enable the organization to move forward faster in every quarter of 2020 our new pipeline generation across all of our solutions has reached another record, demonstrating that we are capitalizing on these trends. We are well on our way to transforming cyber into a high growing recurring revenue company with significant contribution from our SAS solutions. I am confident that this subscription transition program will further solidify our position as the market leader accelerates this adoption, build a base of high value recurring revenue, and position us to deliver sustainable growth and profitability. Josh will now discuss our financials in more detail. Our subscription transition and outlook for the fourth quarter. Josh?

Josh Siegel

[00:13:45] Thanks. Judy, before we discuss the details of the quarter, we wanted to remind you that we posted slides to the website this morning. That will be helpful as we walk through our results. As we mentioned, we are pleased with the momentum in the business. The acceleration of our staff and subscription offerings is beginning to impact our reported revenue and profitability, making it now in the near-term more a lagging indicator of our success. The shift in the bookings resulted in total revenue of one hundred and seven dollars million in the third quarter, compared to one hundred and eight dollars million in the third quarter of last year, while license revenue in the third quarter was forty million dollars, compared with fifty eight dollars million in the third quarter last year, the recurring portion of the license revenue was thirteen dollars million. That’s an increase from four million dollars last year, driven by even faster recurring license booking growth year to date. The detailed breakdown of license revenue can be found in the slides on our site, but I would like to highlight that that’s revenue increased nearly 300 percent year on year, reaching seven million dollars, and that subscription or term based license revenue more than doubled to five dollars million in the third quarter. In total, our staff and subscription license revenue represented about eight percent of our total license revenue, a significant increase from seven percent last year.

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[00:15:06] Our combined maintenance and professional services revenue with 61 million dollars increasing 21 percent year on year. The breakdown of this line is approximately 50 million dollars from recurring maintenance contracts and 11 million dollars in professional services revenue. As we begin actively transitioning our business to a subscription model in January 2021, we will be focusing more on metrics that measure and provide visibility into our business beyond the traditional PNL. These metrics include our total recurring revenue, the percentage mix of bookings from staff and subscription, and most importantly, annual recurring revenue. Or are. I would start with total recurring revenue, this metric includes that subscription or term based license and recurring maintenance revenue associated with our perpetual license contracts. In the third quarter, recurring revenue grew to sixty three million dollars, or 59 percent of total revenue, and that’s up 40 percent from the 45 million dollars and 42 percent in the third quarter last year. Our recurring revenue growth is being driven by strong staff and subscription bookings in 2020, as well as our continued strong maintenance renewal rates for our software. Our next Patrick, which we are introducing this quarter, is the new is a mix of new SAT and subscription bookings as a percent of total license bookings, which is an indicator of where the business is heading and is the driver of the increase in our deferred revenue in total tax and subscription represent more than 45 percent of our license bookings, which compares to about 10 percent last year and brings us to more than 35 percent of our license bookings from staff and subscription year to date.

[00:17:00] This mix has accelerated dramatically throughout the year and gives us strong confidence in our momentum as we head into our active subscription transition, including incentivizing our team. Of course, this growth in recurring license revenue bookings is increasing, the headwind to our reported revenue in the first quarter are Hadwin was approximately five million dollars. In the second it was approximately nine million dollars. And in the third quarter, the headwind to revenue from them from the bookings net was about 14 million dollars. This quarter, we are also introducing the well-known metric of LRR to provide investors with more visibility into the growth of our recurring business are is defined as the annualized value of Sath subscription or term based license and maintenance contracts in effect at the end of the reported period. As of September 30th, our RR was two hundred and fifty million dollars, increasing 40 percent year on year from one hundred and seventy eight dollars million as of September.

[00:18:06] Twenty nineteen. These three metrics demonstrate our success already towards becoming a high growth subscription company. As we discussed in January, we are also implementing a comprehensive stated strategy to support our transition, which includes modifying our compensation plans to further incentivize the team to sell recurring revenue, rolling out attractive subscription packages, strengthen our customer success, culture and team to ensure long term sustainable growth, and shifting our reporting and financial systems towards a recurring revenue model as demonstrated by the introduction of Air and Mitzie percent bookings. Historically, most of scripts and transitions have taken companies approximately eight to 10 quarters, given our strong starting point. We believe we are positioned to complete our transition on the earlier side of that timeline. Now, I’ll provide some further color on the business. We are increasingly seeing our approximately 60, 300 customers turned to cyber as a trusted adviser to execute their mission critical identity security programs. The level of engagement with existing customers is at an all time high, with Arab business representing about 77 percent of license revenue during the quarter, as we mentioned, we believe the move to subscription will help accelerate the sale motion.

[00:19:42] On the new business front, we signed more than one hundred and ninety Martillo goes in line with about 200 logos in the third quarter last year. We did experience smaller new business deal sizes and some new perpetual license customers are making shorter term purchasing decisions because of the economic environment, buying only the licenses they need immediately to get started. But with plans to expand. In addition, we saw an increase in staff bookings from new customers, which often started smaller before they expand their overall footprint with Sobhraj Solutions. Another key area for us is the amount of activity we see in the market overall new pipeline generation across geographies and our product portfolio for our staff and on premises solutions was at a record level again in the third quarter, which position positions us very well for 20 21. In terms of Solutionary, application access manager and employee privilege manager represented about nine percent and 10 percent of license revenue, respectively. Even faster than we anticipated already about 90 percent of our EPM bookings process. The business was well diversified across geographies, the Americas revenue in the quarter was sixty three dollars million, representing 59 percent of total revenue. It is worth noting that the Americas had the strongest percentage of staff and subscription bookings during the quarter, which impacts recognize revenue.

[00:21:19] Ymir revenue was thirty four million dollars, or 32 percent of total revenue in the third quarter, APJ generated 10 million dollars in revenue, representing nine percent of total revenue for the third quarter. In terms of verticals, we experience strong year on year growth in financials, health care, telecom, pharma and the I.T. services software vertical. We also encouraged we are also encouraged by the strength in the retail vertical in a large in large part as a result of the digital transformation strategies. As I move further through the P.A., all light items will be discussed on an ongoing basis, please see the full gap to non-GAAP reconciliation in the tables of our press release and posted to our website. Our third quarter gross profit was eighty nine million dollars, or an 84 percent gross margin in line with our expected decline from 87 percent gross margin in the same period last year. The year on year decline and gross margin is primarily related to the increase in our staff’s revenue and bookings mix during the quarter and the incremental cost in cloud infrastructure for our staff business, including about one million dollars, which is related to adaptive. We continue to make strategic but disciplined investment in the business to drive long term growth.

[00:22:40] R&d grew by 33 percent year on year to 20 million dollars to enhance our solutions and expand our staff’s portfolio like yesterday’s introduction of the cloud entitlements manager. Sales and marketing increased 18 percent to 47 million dollars to expand the reach of our global sales team, with the increase partially offset by the reduced travel spending. Gené expense was relatively flat and nine dollars million in total operating expenses was third quarter, increased 18 percent to 76 million dollars, which includes about 5.5 million dollars in operating expenses associated with the adaptive acquisition. Our operating income was 13 million dollars or a 12 percent operating margin, and in total, Adap.tv lowered our operating margin by about four percent.

[00:23:31] As a reminder, the approximately 14 million dollar revenue headwind had a corresponding impact on our operating income, normalizing for the headwind from the bookings mix, our operating margin would have been approximately 22 percent in the third quarter. Over 70 percent of our operating expenses are related to headcount. We ended the third quarter with one thousand six hundred sixty one employees worldwide. And of our total employee count, seven hundred fifty seven employees are in sales and marketing.

[00:24:02] Net income was one million dollars or 31 cents per diluted share for the third quarter of 2020. That’s compared to twenty six million dollars or sixty five cents for the third quarter of 2019. We are pleased to generate 63 million dollars in free cash flow from operations, or 20 percent margin for the first nine months of 2020. This cash flow contributed to our strong balance sheet, and we ended the quarter with one point one dollars billion in cash and investments. We also enter the third quarter with two hundred twenty eight dollars million in total deferred revenue, that’s a 28 percent increase from the one hundred and seventy seven million at September 30th, 2019. Approximately 15 percent of total deferred revenue, or 34 million dollars, is related to recurring staff contracts, and that’s compared to only four percent at September 30th, 2019. Turning to our guidance as a reminder, our guidance does not consider any potential impact to financial or other income and expenses associated with foreign exchange gains or losses, as we do not try to estimate future movements in foreign currency rates. For the fourth quarter 2020, we expect total revenue of 125 to 135 million dollars, which assumes about 80 million dollars in revenue headwind from our increased mix of tax and subscription bookings projected for the fourth quarter of 2020, we expect non-GAAP operating income to range between 25 to 33 million dollars and nongay of net income per diluted share of fifty to sixty seven cents.

[00:25:33] Our guide, our guidance also assumes 40 million weighted average diluted shares and a tax rate of 23 percent for the fourth quarter and for modeling the full year, we would expect thirty nine point seven million weighted average diluted shares and a tax rate of twenty one percent. Given the momentum in the business. We plan to still add between 35 to 45 people in the fourth quarter, including key hires, to expand our sales and engineering organizations and position Tigra to deliver future growth. We are not providing guidance for 2020 one, but to assist you in modeling, we expect our business next year to follow a trend similar to other subscription. Transition stories are successful. Execution will be marked by strong growth in our mix of staff and subscription bookings are and result resulting deferred revenues.

[00:26:27] This growth will nicely expand our base of recurring business, even with the delay in recognize revenue from a higher ratable recurring mix. We expect total revenue to increase next year after the 2020 levels. This will be against a backdrop of ongoing investments to drive long term growth that will cause a near-term decline in our operating margin in terms of free cash flow. We anticipate that it will continue to be in line with our non-GAAP net income margin to five percentage points above net income margin over a 12 month period. As we exit the transition period, we expect a meaningful acceleration of revenue growth, improving operating margins and cash flow generation.

[00:27:07] We are already beginning to see our recurring business expand, illustrated by more than 400 percent growth in staff deferred revenue and our two hundred and fifty million dollars in are, we are confident that our strategy to begin actively transitioning to a recurring revenue model in 2020 one will make growth more durable and profitable, which will drive value for sobre our customers, partners and shareholders.

[00:27:34] We want to wish you and your families health and safety. I will now turn the call over to the operator for Q&A operator.

Question-and-Answer Session

Operator

[00:27:45] As a reminder to ask a question, you will need to press star one on your telephone to withdraw your question, press the pound or hash key and please stand by while we compile the Q&A roster.

[00:28:01] Your first question comes from second Carlia. Your line is open.

Unidentified Analyst

[00:28:08] Ok, great. Hey, guys, thanks for taking my questions here. Can you hear me OK? By the way.

Udi Mokady

[00:28:12] Yep.

Unidentified Analyst

[00:28:17] OK, great, awesome. So maybe maybe for you, you know, maybe just to dig into some of the components of the subscription transition here, you know, I think you mentioned sales force incentives and 2020 one to help drive that higher mix of recurring, maybe without getting too specific. Can you just go one level deeper into what that might entail and and maybe, you know, others that you’ve looked out to to maybe think about how to model that, that, you know, those sales force incentives?

Udi Mokady

[00:28:48] Surasak, at first of all, good morning, as you can tell, we’re very excited about the transition and the momentum we have going into this now with 250 million and they are growing 40 percent and the fact that 45 percent of our Q3 license booking was from recurring.

[00:29:03] So this is without any changes. So we did this in the as we call this with infusion now that we’re actively transitioning or like you said, we’re going to put programs in place.

[00:29:16] We’re working on them to incentivize the reps in 2020 one. I think we we have a lot of examples, examples out there to we move from making it neutral for them throughout this past year to actually making it a net positive for for for the rep to to to promote our solutions or our subscription for for for on on Prem. In parallel, the the the other side of it is, of course, rolling out the subscription packages that will incentivize the customers. And we’re we’re seeing healthy demand and we’re really excited about putting that in place. I think be on top of this on the go to market front. The alignment that we’re having in the organization having mass now is Chief Operating Officer with both sales, but also a services customer success and support. Everything that is in the life cycle of customer care is going to be very strong for us to drive value. And I would say the life with with our customers and and and aligning our strategy with what’s best for for our customers. So we’re very excited about putting this in place. In terms of more details on the on the incentive packages, I would say we’re you know, we’re focused on Q4 now and finishing the year strong will provide more details on on on the on the packages beginning of the year.

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Unidentified Analyst

[00:30:44] Got it. God, that’s really helpful. Josh, maybe for my follow up for you, you know, it’s probably early to ask this, but out of curiosity, how are you thinking about the mix of of license license revenue between recurring and non-recurring in the next couple of years? I think you mentioned you’ve had about 20 percent here in Q3. I think you mentioned about 45 percent of bookings, you know, in Q3 as well. You know, understanding it will not be necessarily a straight line and sort of getting to your target. How do you think about that targeting long term of recurring versus nonrecurring in that license revenue line?

Josh Siegel

[00:31:22] Yeah, sure, HiSeq, good to talk to you again. So, you know, we I mentioned also in my prepared remarks, you know, when we think about the transition and we look at we looked at a lot of other examples and so forth, you know, this is usually an eight to 10 quarter transition when we when we think that we’re going to be at the earlier side of that for a lot of the reasons that outI just talked about now in terms of where we are going into the transition. And so, you know, for the most part we see and we see kind of the success, the success point of coming out of that transition and being more than 85 percent recurring revenue. And, you know, so it’s kind of going from where we are today at 45 percent to, you know, getting well into the 80s where we kind of can see, you know, already the other side of the transition. And I think when we think about next year, you know, our sales cycle still is a six to nine month sales cycle. So a lot of the pipeline for H1 next year is already intact. So I think that it’ll be a little bit slower at first on gaining those percentage points. And then as we get into the middle of the transition, you know, we’ll see a pickup towards subscription. But because we’ll still be selling Perpetual, there’ll be lumpiness. So there may be some quarters that it that it that it fluctuates or is a bit volatile. Then, of course, you know, as we get to the back end, it’s going to be a, you know, kind of a more of a linear tale heading up to the into the high 80s. And then I just want to be totally on the percentage of recurring revenue in terms of the mix shift of the bookings.

Udi Mokady

[00:33:04] And I just want to confirm, just meant success of the transition is 85 percent in the mix of license bookings for.

Unidentified Analyst

[00:33:14] Got it, got it, very helpful, guys. We’ll get back in queue. Thanks a lot.

Udi Mokady

[00:33:17] Thanks I.

Erica Smith

[00:33:37] Hi. We’ll take our next question.

Operator

[00:33:43] Your next question comes from Fatima Boolani.

Fatima Boolani

[00:33:48] Good morning to you and thank you for taking the questions just at the highest level, as I digest some of the newer metrics and some of the headwinds that you quantified as a result of the business moving to sass and subscription form factor this quarter. I wanted to get your perspective on a product level. So with a EPN in total, about 20 percent of your license revenue, that implies about 80 percent of the business is still tied to the bread and butter part. So I’m wondering if you can talk to the speed or velocity at which the pass business is accelerating and how we should see that manifest and impacting your numbers. And I have a follow up for Josh.

Udi Mokady

[00:34:33] No, absolutely, I think what we’re we’re excited, of course, to see the entire piece grow into subscription, a part of that is more and more on our cloud solution. But yes, you’re right, we’re seeing great demand for palm on both form form factors.

[00:34:53] And so is as part of this plan, we will serve customers that want to consume privileged access management on premise, but in a subscription model and of course, service this great growing demand for our private cloud. So we saw great uptake for private cloud in throughout the year and definitely in Q3. And it’s taking place in the pipeline. I think originally we were looking at midsize to the customers, to the lower end of the enterprise, but we saw that it’s also going beyond that. And even some of the examples I gave this morning were of Fortune 500 taking on projects as management, as a service.

Fatima Boolani

[00:35:41] That’s very helpful. And Josh, just a follow up question for you regarding the cash flow and cash flow impact as we look towards the next eight to 10 quarters as you’re in the thick of this transition. You did talk about a roughly five point increase on net income margins and the right way to think about cash flow and cash flow yields. But at a qualitative level, what are some of the puts and takes that you are considering in the cash flow profile from here between invoicing and in billings durations from some of these newer form factors that you’re going to be introducing? And that’s it for me. Thank you.

Josh Siegel

[00:36:23] Yeah, thanks, Fatema, for that. You know, if we think about the puts and takes, obviously, as we sell more and more stats, we’re looking at more annual payment terms, which is pretty traditional in that environment. So that’s certainly something that we’re considering in in our calculation for cash flow forecast, as we’re thinking about as we’re thinking about subscriptions as well, it’s less subscriptions. We’re still seeing more that will that will make our multiple year payments up front. But as we saw already in 2020, there’s been kind of an increase towards annual payments. And we anticipate that that trend will continue as we go into 2020 2021 as well. So both the stats for sure, which is the standard way for for those for that to be sold and that even on the on prem subscription, we anticipate more of that going to annual payments as well. When we talk when we talk about duration, you know, I think we’ll we’ll we’ll have a lot more visibility into that as we as we get into the first quarter of next year. And we and we begin and we we begin this transition actively. You know, for the most part, what we’ve seen in the last year is, you know, the the transition has been pretty stable around two years for for both staff and subscription.

Fatima Boolani

[00:37:54] Very clear, thank you.

Operator

[00:37:58] Your next question. I’m sorry, your next question comes from Sterling Auty from JPMorgan.

Sterling Auty

[00:38:06] Yeah, thanks. Hi, guys, and welcome to the recurring subscription world. It’s good to have you here. So I just want to level set on some understanding in terms of metrics and and how you’re thinking about the transition. When you talk about that, the average transition takes eight to 10 quarters. What do you mean in terms of what that means to be complete?

Josh Siegel

[00:38:34] Yeah, hi, doing his Josh, so, you know, I’ll start what we see that being completed is when we get a bookings mix of our when we get the new license booking mix above 85 percent of the mix in recurring revenue.

Sterling Auty

[00:38:50] Ok, good, because I think that’s important because I think a lot of investors have been fortunate to cover most of the subscription transitions and I think a lot of the investors, you know, look at, you know, the completion of the transition is when you’ve gotten back in terms of a revenue run rate equal to or above what you had prior to the move. And I’m just kind of wondering within that usually takes one time through your customer base to get them to consider moving to subscription. So under that type of guys, how long do you think it would take for all of your multi-year customers to at least have one shot to move over to subscription?

Josh Siegel

[00:39:35] You know, we actually we actually address most of our customers every year and, you know, we see probably, you know, half of our customers coming back to us and buying new licenses, you know, on an annual basis. So I I certainly think that, you know, if we were to look at kind of historical how how much contact we’ve had with with our customers, you know, probably over, you know, a couple of year to two plus year window, we’re going to see customers return to us for four new licenses.

Sterling Auty

[00:40:12] All right, perfect. That makes sense. Thank you, guys.

Operator

[00:40:17] Your next question comes from Rob Owens with Piper Sandler.

Rob Owens

[00:40:23] Great, and thank you guys for taking my question. First of all, I just want to touch a little bit on some of the opportunity might be sitting there around recent ransomware outbreaks.

Udi Mokady

[00:40:34] Absolutely, I would say that we’ve seen that increase, increased demand, we’ve seen the fact that the EPM you don’t need to know what the malware is in order to block it from from from accessing and encrypting.

[00:40:50] So it’s a tremendous success against ransomware samples. We’ve tested against almost three million or more than three million samples and with 100 percent blocking. Now, that’s in the labs. In the field. We have huge adoption for free. IBM already for for many years in the last couple of of months, we’ve seen increased demand for it because of the direct correlation. There’s no the perimeter has dissolved.

[00:41:15] There are more endpoints out there and and customers to extend the privacy protection to to the endpoint. And and, of course, as Josh mentioned earlier, primarily consuming our end point privilege measure in through SAS. More than 90 percent of the business deals in Q3 were SAS, were SAS CPMs. It’s become a very, very important product and solution for us.

Rob Owens

[00:41:44] Great, and then as you look towards the fourth quarter and where the pipelines are you anticipating, I think you mentioned six a.m. and sales cycles and that’s going to lend to some delays in the first half. But as you look at that fourth quarter, guys, are you anticipating a snapback in license at this point or does SAS continue Sason subscription to an increasing percentage of the license mix? Thanks.

Josh Siegel

[00:42:12] I think, you know, once you know, when we’re looking at Q4 in terms of the pipeline, we really have a very robust pipeline, both on the on a perpetual and on the fastest ascription net.

[00:42:24] So, you know, at this point, it would be hard to say it be a snapback in one direction or the other. But, you know, we’re really focused on, you know, just taking advantage of the really a record pipeline for us in terms of opening new opportunities and also and also the size of the opportunities.

Rob Owens

[00:42:45] All right, thank you.

Operator

[00:42:50] Your next question comes from Andrew Nowinski with D.A. Davidson.

Andrew Nowinski

[00:42:57] Great, thank you. And a high level, you know, I understand why it comes from a transition to a term based subscription during the Soviet period with with tighter spending constraints. But why would a customer choose a term based subscription versus a perpetual license? You know, outside of this covid environment, looking in the counter, 2021, you know, it seems like it has to be more expensive for that customer over a three year period.

Udi Mokady

[00:43:21] So I’ll start, Andrew. And actually, that’s why and when we talked last quarter, we really wanted to to test it out and be very thorough before we actively transition. And we did a combination of both our checks with with customers and also an external leading consulting firm. And the and the and the answer was very it was very clear this is how they’re they’re buying other software solutions. This is how they’re oriented in terms of their budgeting and their and their spend towards their opex. And so it’s becoming the the exception to buy in a perpetual license model. And this way we’re actually aligning with with how they want to to buy and and spend. It also gives them, of course, is the common the common model in the industry. And it also gives the customer more flexibility. They feel that they’re they are buying what they are going to to use and that it’s going to better align them with with the fact that this is a distribution model, that that the customer that the vendor needs to prove outcomes and customer success, which which we continuously do and are eager to do. So I think it’s a win win on all fronts. And the combination of having the SAS portfolio, but also the on premise description really allows us to cater to to all of their all of their preferences.

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Andrew Nowinski

[00:44:50] Great. Thank you. And then, you know, OCTA announced a partnership with Hachey Corp. back in August. Has that put any or have you seen any increase in competition on your kind, on your kind, your business as a result of that partnership and sort of pushing more into the Daboub space? Thanks.

Udi Mokady

[00:45:08] We haven’t really seen an impact of that. I think we we do a lot of partnerships and in our seeking to increase our stickiness and lead into to customers. I would say with with both. We haven’t seen an increase in competition, but definitely not related to to this to this partnership. We do compete with Hashi on the developes side. And it’s and it’s it’s a constant it’s also a good to have another vendor that pushes the need to secure secrets in modern modern applications that we come to it really from from security and a platform for all types of secrets.

Andrew Nowinski

[00:45:50] Thank you very much.

Udi Mokady

[00:45:50] Thank you.

Operator

[00:45:53] Your next question comes from Hamza Fodderwala with Morgan Stanley.

Hamza Fodderwala

[00:46:00] Hey, guys, thank you for taking my question. So if we just look back at kind of the disclosure you guys gave last quarter, right? So it seemed like the SAT in terms ascription was just about a quarter of license revenue that jumped up to 28 percent in Q3. It seems like that that that mix, it was an incremental five million dollar headwind versus what you were expecting when you gave the Q3 guidance. So if we adjust for that, it seems like the revenue came in just slightly above the midpoint of the Q3 guy. So I’m wondering, is there anything else that you would call out that perhaps drove revenue below the high end of what you got it from from a macro or pipeline perspective? And at what point did you really see the pipeline mix shift really accelerate towards that, you know, since we spoke back in August?

Udi Mokady

[00:47:04] Yeah, I will start. So I would say we’re pleased with the results and the strong industry tailwinds we saw driving driving us to to this result of 45 percent sacia subscription in our license booking. And and, of course, you talked about the headwind. The other data point I would add is we had a tough compare here when it comes to the Americas, particularly federal, the Americas grew 34 percent in in Q3 of of 19, driven by the largest ever federal quarter for us. And and this year, Q1 was our was our large what we call the CDF spent where where the government can spend outside outside the fiscal the fiscal cycle. And Q3 was not a strong federal quarter. And so we saw that we saw the spend elsewhere in the year. And I think that that creates a a tough compare on that. If we if we double click on on a year over year.

Hamza Fodderwala

[00:48:08] And just as we look into Q4, I’m wondering how you feel about the pipeline visibility into Q4 versus, you know, when we spoke back in Q3 and any sort of directional commentary on on air in Q4 as well. And that’s it for me. Well, any direction on what I didn’t hear the last, but on Iraq, I mean, obviously that seems to be the main metric that we should focus on. I’m wondering if, you know, I know you didn’t provide guidance, but any directional commentary on how we should think about that and to keep our.

Josh Siegel

[00:48:47] Yes, so with regard to the pipeline, as I kind of said earlier, you know, we’re we’re hitting record levels of opening pipeline opportunities really for this entire year, both across all the geographies and also across existing customers and also across new customers and across all of our product lines. And so we go into Q4, we feel, you know, we’re feeling aware and we’re in a good position, a very good position with the pipeline that we have in Q4, buddy. And of course, as you know, we have long sales cycle. So actually, as it goes into 2021 as well, when we think about, you know, the are the mix shift for the fourth quarter and it was at a couple of minutes ago as well. You know, we anticipate, you know, kind of the headwind that we’re that we’re talking about now that we gave in our prepared remarks of around 14 million dollars, are we believe the headwind for this quarter would probably show an increase in mix shift towards new license bookings a bit higher than where we were this quarter. And obviously then that would relate to seeing a nice growth in air as well.

Udi Mokady

[00:50:06] Yeah, and I want to emphasize that the pipeline is moving nicely so far and we see strong not only in the in the opening, but also as the progression through the sale cycle.

Hamza Fodderwala

[00:50:19] Thank you.

[00:50:22] Your next question comes from Jonathan Ho.

Jonathan Ho

[00:50:28] Can you hear me OK? Yes, I don’t, but I just want to just start out with the transition from unpretentiousness, you know, how much can you really influence that? You know, from a customer perspective? And, you know, I know like you’re seeing the trend move in this direction, but can you push the customer harder? Like, I just want to get a sense for, you know, how much influence you have on on that side of the equation.

Udi Mokady

[00:50:53] Yeah, Jonathan, absolutely. First of all, we have the ability to to introduce new packages, especially to to new customers that that will include a subscription. And of course, SAS is is a SAS and but but also new packages to two existing customers. It gives them the the excitement of of not looking modularly at the different product components, but actually having a user the ability to transition to a user based subscription as a as really an opportunity for for them and for us as we we really increased our portfolio over the years to to really create, I would say, win packages for them. So yes, we we say yes, we we think that we we we’ve succeeded with being I would say just infusing, passively infusing. We’re very bullish that that was an active transition. We can we can make it happen. And that will come out very strong from from this.

Jonathan Ho

[00:52:01] Got it. And you reference sort of the new identity use cases where you were starting to see customers pulling demand. Can you talk about where you’re maybe seeing the highest demand and you know, how much of an uplift this could be if you start adding on some of these newer use cases? Thank you.

Udi Mokady

[00:52:18] Yeah, I would think so. Since the acquisition of of Adaptive and and having the stronger full identity security positioning, we’re seeing our customers. First of all, the proliferation of privileges is really on their minds. So they’re expanding from from from securing the classic I.T. and developer type of of users to to definitely the personnel behind that are administrating cloud and the cloud consoles. We’ve had that before, but without doubt that we can really give them a smooth way to do that and put these controls under the looking and excited about the business users that are actually having privilege, whether they are they are an employee from an H.R. department that was administering the H.R. system or somebody from from finance. So the ability for for cyber to expand the controls to all types of users, I would say that this is a a multi what we’re seeing multiple vertical interest. Most of the dialog that I’ve seen has been with with the large enterprises and leveraging the fact that we have 60 to 100 customers to have these to have these conversations with.

Operator

[00:53:43] Your next question comes from Gregg Moskowitz with Mizuho.

Gregg Moskowitz

[00:53:48] Very much, hi, guys. Judy, I guess just my first question, you of excited about the new subscription packages, and I’m sure the new entitlements manager product is going to be an important part of this. Can you elaborate on how you may look to to go to market with these packages next year?

Udi Mokady

[00:54:04] I’m really excited that you brought up the I was manager again. The launch was the launch was yesterday, but we’ve been sharing it with customers for a couple of months. And it’s it’s really right where the puck is going because they are seeing that the cloud identities come with thousands of permissions and and a human on their own can really figure out how to put control over it. And this this way with with A.I. we and the solution here, we have the opportunity to to give them at least privilege, a process for for cloud immediately remediate excessive access. And so they’re very, very, very excited about that. So that’s another example of a of a of a service solution that that goes into goes into the mix, the mix here in terms of the type of packages, I don’t have to elaborate next next year. But given the broad portfolio, we can create different landing points for for for customers with with with a mix of our solution.

Gregg Moskowitz

[00:55:20] Ok, terrific. Thanks, Judy. And then just for Josh, it’s interesting that Sason subscriptions made up more than 45 percent of new licensed bookings this quarter versus only 10 percent a year ago. I think we all get the fourteen point headwind on unrecognized revenues this quarter. But what impact does this mix shift have on license bookings in absolute dollars or license bookings, growth, for that matter? How should we think about that?

Josh Siegel

[00:55:45] So what does that have impact on license bookings for the last part, on unlicensed bookings growth?

Gregg Moskowitz

[00:55:52] So if it’s a 14 point headwind on recognize revenue growth, you know, clearly there’s an impact to your license bookings, growth rate as well from this from this mix shift and just kind of wondering how we should be thinking about that part of it.

Josh Siegel

[00:56:06] Yeah, I mean, actually, I mean, the way we think about it is, first of all, in Q4, Will, we’re looking at a bigger headwind, you know, based on a mix shift that we’re that we’re anticipating. You know, we’re not breaking out the different license, you know, license bookings from from other types of bookings as part of as part of our guide. But really, you know, in the end of the day, it’s going to be what’s going to be important is, is how how quickly we get to, you know, growing our ACR, you know, the at the next level that we want. And that’s going to really you know, that’s really going to dictate, you know, the strength of the business. So I can’t I can’t give out what what we expect the license bookings growth will be.

[00:56:54] But, you know, we’re we’re you know, we talked about in Q4 being about an 18 million dollar headwind in the guidance we gave for total revenue. OK, that’s helpful, thank you.

Operator

[00:57:07] Your next question comes from Eric Suffolk’s with Goldman Sachs.

Brian Essex

[00:57:14] I good morning, it’s Brian. Hey, thanks for taking the question and I apologize. This has been asked before, but can you maybe touch on the difference between, you know, annual contract by what you’re seeing, stars versus license and you know, how you anticipate that might drive more effective customer adoption of the platform?

Udi Mokady

[00:57:42] Just you, I think that.

Josh Siegel

[00:57:46] Yes. So actually, we’re seeing on the satellite description side of the recently increase on the annual contract values that we’re getting on the Saddam subscription pieces overall. So, you know, we you know, they typically, though, when we see our SAS customers, they’re going to start smaller, but they expand much more quickly. And, you know, we’re still new in this game. So, you know, bear with us. But, you know, at this point in this year, what we’ve seen is that they’ve actually increased off of us up to a smaller number at the beginning of this year when we first started selling more and subscription.

Brian Essex

[00:58:32] Got it, and then how might that compare to the way that, you know, from what I understand, you know, on the license side, there is a little bit more, you know, phasing of deals or, you know, lowering of the initial contract by an expansion. Is it similar to what you’re seeing on the license side, or is it is that, you know, materially different because of the different way that that that platform might be consumed?

Josh Siegel

[00:58:57] No, I think it’s similar. I think that, you know, customers, particularly new customers, they come in and they and they start in a certain area where they want to go. The high is a high risk area if it’s in this privileged crowd. And then they’ve got a they have a map of where they want to expand, you know, over over the next couple of years and move out within their IT infrastructure. So I think we expect it to be fairly similar. Would that either the SASO operations or or with the buying on premise and subscription pricing?

Brian Essex

[00:59:34] Got it, that’s helpful, thank you.

Operator

[00:59:39] We would now like to turn the call back to Mr. McAdie.

Udi Mokady

[00:59:44] That is in the I want to thank everyone here, I want to thank our customers, partners and employees for contributing to our success in the third quarter as a subscription company. I’m confident that we will build even deeper relationships with our customers and partners. And again, thanks, everyone, for for the time today. And look forward to talking to.

Operator

[01:00:05] Ladies and gentlemen, this concludes today’s conference call. Thank you for participating. You may now disconnect.



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