Commvault Systems, Inc.
Q2 2019 Earnings Call Transcript

Published: 30 Oct 2018

[Operator:]

Good day, ladies and gentlemen, and welcome to the Second Quarter 2019 Commvault Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Mr. Michael Picariello, Director of Investor Relations. Sir, you may begin.

[Michael Picariello:]

Good morning. Thanks for dialing in today for our fiscal second quarter 2019 earnings call. With me on the call are Bob Hammer, Chairman, President and Chief Executive Officer; Al Bunte, Chief Operating Officer; and Brian Carolan, Chief Financial Officer. Before we begin, I'd like to remind everyone that statements made during this call, including in the question-and-answer session at the end of the call may include forward-looking statements, including statements regarding financial projections and future performance. All these statements that relate to our beliefs, plans, expectations or intentions regarding the future are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 and are based on our current expectations. Actual results may differ materially due to a number of risks and uncertainties such as competitive factors, difficulties and delays inherent in the development, manufacturing, marketing and sale of software products and related services, and general economic conditions. For a discussion of these and other risks and uncertainties affecting our business, please see the Risk Factors contained in our Annual Report in Form 10-K and in our most recent quarterly report in Form 10-Q, and in our other SEC filings, and in the cautionary statement contained in our press release and on our website. The company undertakes no responsibility to update the information in this conference call under any circumstance. In addition, the development and timing of any product release, as well as any of its features or functionality remain on our sole discretion. Our earnings press release was issued over the Wire services earlier today and it also has been furnished to the SEC as an 8-K filing. The press release is also available on our Investor Relations website. On this conference call, we will provide non-GAAP financial results. The reconciliation between the non-GAAP and GAAP measures can be found on Table IV accompanying the press release and posted on our website. Commvault adopted the new revenue standard ASC 606 on April 1, 2017. Our adoption was done on a retrospective basis, so all prior periods and our financial statements have been adjusted to comply with the new rules. As a result, the results in growth percentages we will discuss today are on a comparable basis using the new rules. All references to software revenue are inclusive of dollar amounts or percentages for both software and products revenue as disclosed in our P&L. Today's live webcast will also include a slight presentation as part of Commvault's prepared remarks to facilitate update on our Commvault Advance initiatives. These initiatives include an update on our transition to subscription revenue licensing models as well as our recent operational review. The slides also cover our announcement of new multi-year revenue and operating margin targets. If you have not done so already, I would suggest logging into the webcast now to view or download a copy of the slides. Please also note that in order to best see the slides, we suggest enabling full-screen slide mode within the webcast. In addition, the slides can also be downloaded from the Commvault website under the Investor Relations page. This conference call is being recorded for replay and is being webcast. An archive of today's webcast will be available on our website following the call. I will now turn the call over to Bob.

[N. Robert Hammer:]

Thank you, Mike, and good morning, everyone. And thank you for joining our fiscal second quarter FY 2019 earnings call. On today's call, we will discuss our fiscal 2019 second quarter results, our multi-year business model transformation to deliver shareholder value called Commvault Advance, including an update on the progress we have made to accelerate our transition to subscription revenue models, the results of our recent operational review, which includes the announcement of new multi-year revenue and operating margin targets and an update on our share repurchase program. Let me briefly summarize our Q2 financial results. Software and products revenues were down 3% year-over-year. Total revenues were up 1% year-over-year. EBIT margin was 14.8%, up 550 basis points year-over-year. EPS was $0.40 per share versus $0.21 in the prior fiscal year. Our EBIT margin improvement was driven by cost efficiencies implemented as part of our Commvault Advance initiatives. Later in the presentation, we will talk about our new revenue metrics that will provide greater clarity to investors on our subscription model transition, which has been accelerating over the last several quarters. In Q2, our subscription revenue represented the highest proportion of software revenue in our history and subscription annual contract value, or ACV, which we will define later in the call, accelerated this year-over-year growth to over 90%. As a reminder, last quarter, we were implementing a major corporate-wide transformation called Commvault Advance. Please take note that Commvault issued a press release this morning outlining the significant progress we have made since announcing Commvault Advance in May. The goals of Commvault Advance are to establish a strong foundation to improve revenue growth while at the same time achieving much improved operating margin leverage. The implementation was the culmination of a couple of years of effort across products, pricing, a reorganization of our sales and distribution functions, and the establishment of a much stronger, more efficient routes to market. We believe that our second quarter software and products revenue reflected the temporary disruption from the significant Commvault Advance-related changes we made during the quarter, including reorganization of our sales and distribution organizations which in part shifted a significant percentage of field resources to support our channel and alliance partners, and major simplification of both products, pricing to make our solutions easier to both sell and buy. We acted swiftly to implement these changes. And while there was a higher level of disruption than we had anticipated, the most significant changes are now largely completed and we are focused on go-forward execution throughout the remainder of FY 2019. Based on the early results of these changes, we are already seeing improved momentum and has seen a sharp increase in funnel growth, strong order flow in October and solid forecasts from the field. However, given the early stage of our transformation, we plan to remain conservative with our near-term outlook until we can validate the positive turn of (00

[Brian Carolan:]

Thank you, Bob, and good morning everyone. In addition to covering the traditional financial highlights for the second quarter of fiscal 2019, I will also spend time updating you on the progress we have made to accelerate our transition to subscription revenue models, including metrics, which demonstrate our continued progress towards more repeatable software and products revenue streams. I will also update you on the results of our recent operational review, which includes the announcement of new multi-year revenue and operating margin targets. And lastly, I will provide you an update on our share repurchase program. In addition to our earnings release issued earlier this morning, we also have made available a presentation on the Investor Relations section of our website and also included this presentation in our 8-K filing. If you are on the webcast, you can follow along with these slides during my remarks. Q2 total revenues were $169.1 million, representing an increase of 1% over the prior-year period. On a sequential constant currency basis, total revenue would have been approximately $1.9 million higher using prior-quarter FX rates. We reported Q1 software and products revenue of $69.5 million which was down 3% year-over-year. Revenue from enterprise deals, which we define as deals over $100,000 in software and product revenue in a given quarter, represented 66% (00

[N. Robert Hammer:]

Thank you, Brian. I would like to spend a few minutes talking about Commvault GO and the new products we announced during the show. We hosted our annual Commvault GO user conference earlier this month in Nashville. Registration exceeded last year's total with approximately 2,200 customers, prospects, and partners in attendance. We announced a number of new products and services, including an exciting new way for customers to interface with our software called Commvault Command Center, new Backup and Recovery as a Service offerings, and further expanded our portfolio of appliance offerings. We raised the industry benchmark for software interaction and data management with the announcement of the Commvault Command Center which provides customers with a single console for managing Commvault's complete portfolio of products across an entire enterprise's on-premise, cloud and end-point infrastructures. The Command Center is enhanced with a power of artificial intelligence and machine learning to provide easier to understand dynamic dashboard views of our customers' environments, much more comprehensive real-time reporting and unique learning capabilities including the ability to take corrective actions. Role-based security enables IT, admin, and end users to have their own easily customizable dashboards. The Command Center can be deployed on-premise or in the cloud, and is available now. We announced a new Backup and Recovery as a Service offering to deliver Commvault's powerful simplicity for customers wishing to consume backup and recovery needs as a service. We also announced two other backup services for virtual machines on AWS and Azure, and a backup service for native cloud applications, such as Microsoft Office 365 and Salesforce. These solutions will be available within cloud marketplaces for ease of acquisition and deployment. Customers can purchase the services as a pay-as-you-go license or as a fixed-term subscription. We also expanded the company's family of appliances with the addition of two new appliances. The new appliances expand our offerings into a family of small, medium, and large appliances that enable our customers to cost effectively scale from 10 terabytes to more than 1 petabyte or tens of petabytes. The new larger appliance is targeted at managed service providers and large enterprises featuring scale-out technology with our Commvault HyperScale Software. The small offering takes the full power of Commvault Complete Backup & Recovery into an Appliance offering perfect for remote office and branch offices. All of our appliances can be used to seamlessly backup data on-premise or move it directly to the cloud. Commvault uses cloud resources natively which has cost, performance advantages versus competitive offerings which require the customer to install an instance (00

[Michael Picariello:]

Operator, can we please open the line for questions?

[Operator:]

Our first question comes from the line of Joel Fishbein of BTIG. Your line is now open.

[Joel P. Fishbein:]

Good morning. I have one for Bob and one for Brian. I'll start with Brian. Hey, Brian, thanks for the detail on the move to the subscription model. What I'm just trying to understand is with a lot of these companies, you start this – you see deferred revenue grow, right, as you sign these deals, particularly larger ones. And I'm just trying to understand why we're not seeing an uptick in deferred revenue with some of these subscription deals. And then, I'll wait and ask Bob the next question.

[Brian Carolan:]

Sure. Good morning, Joel. So, as I described in the call, we're a bit unique when it comes to the application of ASC 606. When we sell our subscription software and license arrangements, we actually recognize that revenue upfront in the period of sale on the software portion. The only thing that goes into deferred revenue potentially would be the maintenance that's attached to that just like a normal arrangement under a perpetual model to same type of carve-out for maintenance and support that gets deferred over the contractual term. So, you don't see it show up in deferred. It actually shows up in in-period revenue that's been recognized. That's why we're going to try to point to other metrics such as ACV and repeatable revenue and try to give you good visibility into the traction that we're making on more repeatable revenue models.

[Joel P. Fishbein:]

Would you have a like a backlog number then like in terms of total contract backlog, or is that not a metric that might be meaningful?

[Brian Carolan:]

That's really what – it's almost really – you look at the ACV as a proxy for what the backlog would be essentially.

[Joel P. Fishbein:]

Okay. Great. And then, Bob, just for you. What gives you confidence that you can grow 9% next year? Obviously, you're making a lot of changes right now and I'm just – what's giving you the confidence, is it something that you're seeing out there specifically that you can point to?

[N. Robert Hammer:]

Yes, Joel. Clearly, we're seeing a substantial – I mean, substantial uptick in funnel flow in the enterprises, they start to change. We saw it in the spring, and it really accelerated through the summer in spite of our disruption and continued as we entered Q3 in very large deals into the funnel. And those deals were tied to a trend in the industry for large enterprises to consolidate all their data management functions to deal with cost, cyber, compliance, and the cloud. And I believe our data management platform and the market is recognizing this, is in a class by itself in terms of delivering those capabilities. So, that significant increase in large deal (00

[Joel P. Fishbein:]

Great, thank you.

[Operator:]

Thank you. Our next question comes from the line of Aaron Rakers of Wells Fargo. Your line is now open.

[Aaron Rakers:]

Yeah. Thanks for taking the questions as well. So I want to go back to that that last question and just understand the variables at play to underpin what looks to be a 17%-plus sequential increase in your implied software license revenue this quarter. I think with that in mind, it would be helpful to understand exactly what degree of funnel pipeline growth that you've been seeing, and what assumptions are you making in terms of converting those funnel opportunities into recognized revenue? I'm just trying to understand the basis for that increase conservatism-wise or what you see to drive that level of sequential growth.

[N. Robert Hammer:]

So, the funnel growth, Aaron, is material and significant. I mean, it's – we're talking about (00

[Brian Carolan:]

Yeah. I think just to follow on with Bob's point, I mean, we're using fairly typical and average close rates applying that to the current quarter funnel. Again, we see a healthy uptick in our enterprise deal funnel heading into this this quarter, which we're pleased with. Although, I did say that could be lumpy at times, we're pleased with that number and available funnel.

[N. Robert Hammer:]

I think, Aaron, you saw... (00

[N. Robert Hammer:]

...this kind of validates what you saw at GO since you were there and what you heard on the floor.

[Aaron Rakers:]

Yeah. Just a quick follow-up, I'm just curious, I think last quarter, Bob, in response to a question you said that – basically 98% I think was the number – that the total sales force realignment efforts have been completed. As we look at the leverage that you're presenting to us going forward, I'm curious if what else is there in terms of sales realignment or for that matter, sales head count reduction efforts that should be anticipated in front of us if there are any?

[N. Robert Hammer:]

I would say, the bulk of this is behind us. But as we go forward and bring new leadership in which we have done, I think over time, we'll continue to refine that model. So I think there are additional benefits to be gained on efficiency, but those are incremental relative to what we just went through.

[Aaron Rakers:]

Okay. Thank you.

[Operator:]

Thank you. Our next question comes from the line of Jason Ader of William Blair. Your line is now open.

[Jason N. Ader:]

Yeah, thanks. Bob, thank you for the CEO search update. I guess my question on that is, it's five months into when you announced it, and we haven't seen any announcements yet. So I guess why is it taking so long, is there anything you can give us some more color on that?

[N. Robert Hammer:]

I just made the comment that the search committee is making very good progress on the CEO search.

[Jason N. Ader:]

Okay. Fair enough. And then over the last few years, we've seen a series of restructuring and pricing and packaging changes. I know that you guys are optimistic on the things that you're implementing right now, but why should investors believe that this time is going to be different?

[N. Robert Hammer:]

Well, the only validation of that is for us to hit the numbers. That's the only real validation. All I can say is, the funnel growth and the types of deals we're seeing now are in a different category than we've seen in our history. So, a lot of the deal – there is a lot of deals that are in the multiples of millions of dollars. And it's both in – mainly in the Americas and EMEA, but I mean multiple millions is a, call it, $3 million, $4 million, $5 million, $6 million kind of deals and they're accelerating. So, we've got that, that's real. And these deals are well scrubbed (00

[Jason N. Ader:]

Thanks.

[Operator:]

Thank you. Our next question comes from the line of Andrew Nowinski of Piper Jaffray. Your line is now open.

[Andrew James Nowinski:]

Okay. Thank you very much. Good morning. So looking at slide 21, your assumptions for repeatable revenue growth suggest a growth of just 17% in fiscal 2019. I think that decelerates down to about 16% by fiscal 2021 despite the mix continuing to increase. So, is that factoring in price declines, or why should we expect repeatable growth to basically top-out at the fiscal 2019 level for just at the start of the transition and we having (00

[Brian Carolan:]

Well, again, we're trying to be a little bit conservative with our guidance out there, Andy. So, I think that we'll see an acceleration by FY 2021, will be the first meaningful year where we see renewals start to happen. But we want to be reasonable with our expectations until we actually see that happen.

[Andrew James Nowinski:]

Okay, fair enough. And then in Europe, if I look there, the software revenue actually did decline about 17% this quarter despite the GDPR tailwinds. I guess, can you just give us an update on what's going on in Europe, and are competitors such as a Veeam perhaps putting any pressure on your ability to grow revenue in Europe there?

[N. Robert Hammer:]

No, I mean, the EMEA team is consistently either met their number or beat it. And last quarter – we basically took the field out for about six weeks as we were going through this whole transition. So, in some sense, the quarter really didn't start to the (00

[Andrew James Nowinski:]

Okay. Thanks, Bob.

[Operator:]

Thank you. Our next question comes from the line of John DiFucci of Jefferies. Your line is now open.

[John DiFucci:]

Thank you. I have a question for Brian and then maybe a follow up for Bob. Hey. So, Brian, thanks again for all that information on the transition to the subscription model, that's all really helpful. But when we look at the utility revenue, I think that's one piece that's going to cause some questions, and I just want to make sure we understand that. Can you tell us about what the size or the percentage of that revenue is like on an annual basis? And if you can, what the annual retention of that utility revenue is even if it's on a customer basis (01

[Brian Carolan:]

Sure. So the utility portion of the subscription revenue and repeatable revenue is actually, it's relatively small in the grand scheme of the total. I would say that our retention rate is extremely high on that. This is often a pay-as-you-go model based upon usage. It's a quite sticky revenue stream that repeats so (01

[John DiFucci:]

Okay. Well, that's a start. So, thanks. It's small, but it does have a pretty high retention rate, so that's good to hear.

[Brian Carolan:]

It does. Right.

[John DiFucci:]

Okay. And, Bob, listen, so just to go along with some of the questioning here, Commvault's always had strong vision and product sometimes getting to market has been a challenge, getting the product to market. But in both of those points, it's always been strong vision in compelling and (01

[N. Robert Hammer:]

Now, let's be clear. Sales is still really critical. And the surprise – if you want to call it a surprise is, we've always been strong in the enterprise, and it drove a lot of our growth in our early years. And the enterprise for a couple of years shifted the buying point products in the next shiny (01

[John DiFucci:]

So, it sounds like sales – or voluntary sales attrition from what we're hearing in the field is – sounds like it's accurate, but there's so many things going on here that you think you've able to offset that?

[N. Robert Hammer:]

Yes. And, look, some of that goes on when you make major change.

[John DiFucci:]

Yeah. Okay. Well, thank you, guys.

[Operator:]

Thank you. Our next question comes from the line of Alex Kurtz of KeyBanc Capital Markets. Your line is now open.

[Alex Kurtz:]

Yeah. Thanks, guys. Good morning. I just want to follow up on that last question, Bob. Are you taking any specific actions with your top reps to incentivize them specifically to stay on for the next couple of quarters as you go through this transition? Is there any specific actions you're taking there was a (01

[N. Robert Hammer:]

The answer is just in general we are taking specific action in specific cases and trying to make it easier for our sales teams to earn their quotas. There is not a general corporate-wide action. There are specific actions in the field.

[Alex Kurtz:]

Okay. And, Bob, just competitively in the U.S. especially, I know there's been a lot of discussion the last couple of earnings calls around a couple of emerging platforms that are competing in the channel, just any kind of update and what you're seeing quarter-to-date, year-to-date, any changes sequentially?

[N. Robert Hammer:]

Well, in the enterprise, we're seeing a significant resurgence against all the competitors, legacy and the new competitors. In the mid-market and in certain, I'll call, lower scale deployments in enterprise, we clearly see the new converged guys in the market, and they have a lot of momentum. But now you've got a Commvault with a full product line and much stronger distribution to deal with that. I can say when we get into head-to-head competition now, when we're there, we have a really high win rate because of just the breadth and depth of what we're doing in terms of – and having products (01

[Alex Kurtz:]

Understood. And, Brian, just last question for me, I think historically, you've called out the subscription headwind, but the (01

[Brian Carolan:]

No, we didn't put a number on that. I'd say it's fairly consistent with what we did in prior quarters. It's probably in that $3 million to $4 million range is the headwind.

[Alex Kurtz:]

Great. Got it. (01

[Operator:]

Thank you. Our next question comes from the line of Eric Martinuzzi of Lake Street. Your line is now open.

[Eric Martinuzzi:]

My question has to do with a couple of your key channel partners, just wondering – sometimes I grow numb to the annual HP announcement or the annual NetApp announcement. Obviously, given the shift to channel dependency here and away from the direct side, what have we done differently this year versus past years? I feel like you've always had products that play well with them, but what are the one or two significant changes with those two key partners?

[N. Robert Hammer:]

I'll take HP and I'll let Al take the NetApp. The difference is that we have, what I'd call, fully integrated online (01

[Alan G. Bunte:]

Yeah. And I think NetApp is similar to what Bob just said on HPE. Lots of programs, lots of campaigns, lots of sales initiatives, but I think overall, one Bob didn't talk about, it's applicable across all of our major, particularly storage or infrastructure partners is our ability to deal with software-defined secondary storage, notably came out with our HyperScale both Appliance and reference architecture programs. And I think, Eric, and you would know this, we're seeing a major battleground developing for secondary storage. It's all predicted that there is going to be a huge amount of movement in this direction. We also think in the current market that there is lot of vulnerability to older technologies, expensive technologies. And again, the modern scale-out HyperScale environment is extremely compelling. So we see a number of – and again, what I'd call, historic storage suppliers wanting to participate in this kind of trend.

[N. Robert Hammer:]

Yeah. And Al just made a really good point. And HyperScale in HP's case, they drive that with their Apollo Servers. So, it's not just our Appliances, it's on their own server infrastructure for secondary storage. And concurrent with that, there is no doubt that our platform has ability to seamlessly manage data on-premise and in a cloud across an enterprise is a major strategic advantage versus anybody out there.

[Eric Martinuzzi:]

Okay. Because that's – they don't lack (01

[Alan G. Bunte:]

Well, that's (01

[N. Robert Hammer:]

Yeah. Yeah. And to be clear, in HPE's case, and they do have a competitor in the enterprise – they're (01

[Eric Martinuzzi:]

Yeah. Okay. Thank you.

[Operator:]

Thank you. And I'm showing no further questions at this time. Ladies and gentlemen, thank you for participating in today's conference. This concludes today's program. You may all disconnect. Everyone, have a great.