ANSYS, Inc.

Ladies and gentlemen, thank you for standing by, and welcome to the ANSYS First Quarter 2020 Earnings Conference Call. Today with us, we have Ajay Gopal, Chief Executive Officer, Maria Shields, SVP, and Chief Financial Officer, EF Finance. At this time, I'd like to turn the call over to Mr. Dwight for some opening remarks. Please go ahead.

...remarks document and the link. to our first quarter form 10Q and our investor relations website. They contain the key financial information and supporting data relative to our first quarter financial results, as well as our Q2 and updated fiscal year 2020 outlook and the key underlying quantitative and qualitative assumptions. I would like to remind everyone that in addition to any risks and uncertainties that we highlight during the course of this call, important factors that may affect our future results are discussed at length in our public filings with the SEC, all of which are also available via our website. In particular, that uncertainty regarding our performance really from our projections. Results should not be considered an indication of future performance, as there are risks and uncertainties that could impact our business in the future. These statements are based on today, and ANSYS undertakes no obligation to update any such in a public forum. In remarks, we will be referring to non-capitalized financial measures unless otherwise stated. It is good and a full reconciliation of measures is included in this morning's earnings release materials and related form 8K. I would now like to turn the call over to our opening remarks. Ajay?

Thank you, Lee. Good morning, everyone, and thank you for joining us during these uncertain times. I would like to start by thanking the entire ANSYS team. Their professional practices have been exemplary. Let me first and describe our Q1 performance and how we are operating our business in these unusual times. Then I will take a step back and discuss the answers, particularly why answers is important to customers and why the business is resilient. Finally, I will provide some color on key elements, description of some of the headwinds that we are seeing and before I turn the call. Of course, ANSYS's first responsibility is to the health and safety of our employees and their families, and to the ANSYS community around the world. And enabled our employees to work from home. As the crisis around the world. Today, with the improving situation in China and Korea, our offices in those countries maintaining appropriate social distances and health and safety protocols. Our offices elsewhere remain closed or open only to a majority of employees worldwide continuing to work from home. Our employees have quickly adapted to this challenge, moving us forward in a work-from-home model. In the last several years, we have invested in our applications, including our networking and remote access capabilities, as well as collaboration technology. These investments have turned our business today. We are continuing to pay all our salaried and hourly workers. In fact, we are onboarding new employees remotely and provisioning them to work from home. We have a number of open job requisitions and are seeing a strong flow of candidates a company like ANSYS can provide. Investments in our growing team additional opportunity once this crisis ends. As you may recall from when we guided in February, we were expecting the first quarter and the first half of the year to be challenging because of tough year-over-year compares and a back-and-loaded full year. Worldwide economic conditions worsened through March. Nonetheless, I am very proud that the solid expectations Our revenue, earnings, and operating margin 51 came in just about at the midpoint of our guidance. A number of industries, including automotive, high-tech, and energy. In these verticals, our solution economy, electrification, and 5G continue to resonate with our customers. In Asia, we inked a new three-year contract with an existing to expand its usage of our as well as to expand into digital . In North America, we closed several large including at a global hardware provider that agreed to standardize ANSYS displacing several competitors. We all new scale power to bring its small modular nuclear reactor of simulation. We were also able to forge new relationships with organizations that have not previously used ANSYS, or contract with a new customer, software motor company, or SNC. By using ANSYS Multiphysics, SNC is developing an automated workflow to rapidly use across industries. The enhanced workflow can compress the weeks of prototype testing typically required for these virtually silenced motors. In Q1, we delivered ANSYS 2020. Despite working from home, we will deliver our release to the customers in the summer as originally scheduled. These are major releases and include new capabilities across a multi-physics product. Our products continue to receive recognition and accolades from our customers and partners. For example, industry-wide ANSYS, Redhawk S-Chip, power and noise sign-off process nodes. This helps customers verify the power requirements for use in artificial intelligence and high-performance computing applications. Similarly, Samsung Foundry has certified the ANSYS Raptor H electromagnet using its new three-dimensional integrated circuit packaging technology. Raptor H marries the best which we gained in last year's Helix acquisition and ANSYS flagship HFSS system design environments. By validating electromagnetic effects in Samsung's 3D assembly, Raptor H empowers designers to eliminate critical points of failure and accelerate the rate of new technology adoption. We are continuing to look at opportunities to expand a portfolio through M&A. We recently closed our acquisition of Lumerical, which will enable Ansys customers to predict the behavior of live devices, structures, and systems. This is critical as 5G applications take massive amounts of data, forcing organizations to handle even more information faster than ever. Lumerical's process enable designers to develop new, high throughput optical networks by modeling the most challenging, including interacting optical, electrical, and thermal effects. We were able to virtually onboard the Lumerical team, and I'm excited to welcome them into our one Ansys family. I'd now like to discuss the Ansys business and explain its resilience. The Ansys value proposition is compelling. both in good times and in tough economic times because simulation helps our customers drive both top line revenue growth and achieve significant cost savings. Using answer simulation, customers can rapidly innovate, easily validate design ideas, and improve cycle time. This means that they can launch more of the right products and do so at a faster pace, which translates to top line. In addition, Simulation can help customers get more impact from tight R&D budgets by giving engineers the tools to evaluate multiple design options cost-effectively and in parallel, eliminating the need for costly physical testing. That is particularly relevant during this global crisis when some customers cannot get access to their labs to physically test products. The compelling value and the mission-critical nature of simulation is why customers continue to rely on Ansys, even during periods of uncertainty. It is important to note that the bulk of customers' investments in simulation comes from their research and development, or R&D, budgets. R&D is the lifeblood of our customers. It's their key differentiator. Our experience is that in tough economic times, R&D is typically the the first restored, primarily because it drives future growth and market success. We believe that this is a commonly accepted perspective, and it is corroborated by studies in the Harvard Business Review and by the consulting firm McKinsey. This ongoing investment in R&D and in simulation in tough economic times is best illustrated in the automotive industry, where softening demand and worker safety concerns caused by the COVID-19 crisis have forced manufacturers to shut down factories and cut budgets. However, Volkswagen, General Motors, Honda, and other automakers have publicly reported continued investments in R&D, especially in next-generation technologies such as autonomy and electrification. If you recall from earlier discussions, these next-generation technologies are exactly where Ansys has been making strategic investments through both organic development and acquisitions. At Ansys, we continue to see investments in simulation by automotive OEMs and their suppliers across geographies. Let me give you two examples from Q2. In Asia, Denso, the tier one automotive supplier, recently signed a three-year, multi-million dollar deal to adopt ENSA solutions for automotive parts development for electrification and autonomy, as well as for our platform technologies. In Europe, our channel partner, Dynamore, recently inked an important deal with a major automotive OEM for the adoption of LS Dyna for virtual crash testing, replacing a competitive product. This is exciting news indeed, coming just a few months after we closed the acquisition of LSDC. As I also discussed at last year's Investor Day, ANSYS is a resilient model due, in part, to the number and... We have thousands of customers across multiple industries, including high-tech, semiconductor, aerospace, defense, automotive, industrial, and energy. And we are well-balanced across the geographies coming from the Americas, and the rest split roughly evenly between Europe and Asia. That diversity means that we can harness growth from a wide variety of sources. And it also means that we're resilient to the business or ecosystem individual, customer, industry, or country. Furthermore, our sales channels coming from our direct force, with the remainder coming from channel partners. We are very flexible in our licensing and consumption models, and customers can purchase a perpetual license, a lease license, or a pay-as-you-go elastic license, and can consume our technology on premises or in the cloud. We believe this diversity and flexibility allows us to reach and support a broad range of customers around the world. I'd now like to give some color on the challenges our users are facing and how we're accommodating them and provide additional comments on the demand environment, including a perspective by industry and by geography. It is important to note that our analysis of demand has already your guidance. Let me also caution that with the unprecedented market volatility we are all experiencing, demand could change in either direction as the global situation continues to evolve. We expect the most significant business disruption to occur in the second quarter when our teams and those of our customers work remotely. We are currently assuming a modest recovery in the business environment during the third quarter as states and countries slowly reopen. and business and consumer sentiment begins to improve. We also assume business activity and customer sentiment will continue to improve through the fourth quarter. Comparing this period of disruption with the pre-COVID environment, we expect different kinds of customers will be impacted in different ways. First, it is likely to be more challenging to close deals with brand new customers. primarily because of the difficulty in building new relationships and driving demand with new prospects remotely. Fortunately for Ansys, over the course of our 50-year history, we have built a large and loyal customer base. And so while new customers are important, the majority of our business comes from existing customers. Second, we expect larger accounts to perform more strongly than small and medium-sized businesses. This is to our advantage as the majority of our business comes from these larger accounts. Larger customers have stronger liquidity and capital positions, and we believe that a majority of them will be able to maintain their R&B cycles. In contrast, smaller customers tend to be more sensitive to liquidity constraints and are more likely to delay purchases. Note, however, that we believe government programs, especially in Europe, will mitigate some of this risk. Furthermore, during this period of disruption, we expect renewal rates to remain strong or the new businesses will come under incremental pressure. Furthermore, during this period of disruption, we expect renewal rates to remain strong or the new business will come under incremental pressure. We also expect customers to prefer leases over perpetual because of the smaller initial financial commitment of the lease. And we will see additional scrutiny given to large multi-year contracts, which could result in delays in signing or perhaps smaller commitments than we had previously expected. This could introduce incremental timing uncertainty into our top line. Our prepared remarks contain a more comprehensive discussion of the attributes affecting our pipeline conversion and their related impact. With that backdrop, I'll shift to an industry view. We are seeing little to no reduction in demand in the high-tech and semiconductor vertical, which accounted for about a third of our business in 2019. Many of these customers have deep pockets and are developing products against a multi-year roadmap, and they are not willing to let a few quarters of uncertainty slow them down. Other companies in large markets such as 5G are in a global race for leadership positions within their industry and are unwilling to delay their R&D efforts and thus cede their future to a competitor. Let me now move to aerospace and defense. We anticipate investment will continue for defense and military aerospace driven by long-term government programs, and we expect to see little to no reduction in demand for ANSYS technology in this vertical. Commercial aerospace, in contrast, will be impacted in the short term, driven by both pre-COVID challenges faced by some companies and by the dramatic reduction in passenger air travel as a result of this pandemic. However, in the medium to long-term, I believe this will be somewhat mitigated by the continued need of long-term R&D initiatives that address environmental issues and government regulations. In the automotive industry, although there has been widespread idling of manufacturing plants, R&D is still receiving funding. And that is particularly true for emerging solutions like autonomy and electrification, where ANSYS plays a key role. However, we're expecting to see headwinds on more traditional R&D activities in the sector. Given the need for competitive differentiation, we expect to see ongoing investment in new product introductions for industrial equipment, although we anticipate a reduction in R&D spending on existing products in this vertical. The low price of oil is causing headwinds in the energy sector. Fortunately, this vertical accounts for a relatively small portion of our business. Let me turn now to a geographical view. Relative to our expected performance of the geographies at the time of our last earnings call, we believe North America will fare the best. North America has the largest installed base of big enterprise customers, and a number of these customers are due to renew their leases of Ansys products in 2020. We expect a high renewal rate for those leases, and we also expect to attach new product sales to the renewal. Our North America customer base includes a good percentage of high-tech and semiconductor companies, and we expect their R&D and simulation initiatives to continue to receive funding. Asia Pacific entered the COVID-19 crisis a few weeks before the rest of the world. We did see an initial reduction in demand activity there, but we're now seeing a return of demand. For example, we saw China end Q1 stronger than we had expected, and it continues to have momentum in Q2. The high-tech and semiconductor industry remains strong throughout the region. However, we do see some headwinds in the more traditional automotive investments and the heavy industrials. We're expecting some disruptions in business in EMEA, in part because of headwinds related to industrial and traditional automotive activities, and in part because we saw some customers struggle with the transition to a work-from-home model. Still, we see relief coming in the form of government programs designed to help companies, especially smaller ones, deal with the near-term financial stress. With all these uncertainties, we are reducing our full-year revenue and ACV guidance by mid-single digits, with the greatest impact coming in Q2. Maria will go through guidance in more detail. Before I finish, I would like to mention that we are preparing for simulation world, our exciting new online conference that brings together simulation thought leaders and users from around the world. Simulation World will feature a who's who of ANSYS customers, including Volkswagen Motorsports, Baker Hughes, Ericsson, and Porsche Motorsports. Simulation World already has more than 10,000 registrants demonstrating the value of simulation in the marketplace. I'm very excited that this forum gives us a new and unique opportunity to generate demand for our multi-physics portfolio. Despite the uncertainties in the market, we believe that our strategy of pervasive simulation and the value that we deliver to our customers is more important than ever. Our strategy accelerates customers' key research and development initiatives, which are not typically impacted by economic slowdowns. And we support critical emerging areas like electrification, autonomy, 5G, and the industrial Internet of Things. And our value proposition is compelling to customers, both in good times and in tough economic times, because we can help our customers drive both top-line revenue growth and achieve significant cost savings. I am confident in our ability to continue to drive long-term growth. And with our continued investment in the business, I believe we are well positioned to emerge from this crisis stronger than ever. And with that, I'd like to turn the call over to Maria to discuss our financials for Q1 and provide more detail around our outlook and assumptions for the remainder of 2020. Maria? Thank you, Ajay.

Good morning, everyone. I'll begin with a perspective on our first quarter financial performance. Then I'll also provide qualitative and quantitative color and context around our outlook assumptions for Q2 and the remainder of 2020. In connection with our updated outlook, I will encourage you to please review all of the earnings documents that we have posted to our investor relations website. Before I get started, I wanted to take a moment to say thank you to my ANSYS colleagues who have all successfully navigated the work from home transition to enable us to continue to operate our business, support our customers, and to be able to meet all of our financial reporting deadlines, including all of the efforts that have gone into supporting today's earnings call. Your teamwork, flexibility, dedication, and innovation have been personally inspiring. And for that, I just want to say thank you. Although we faced a more challenging customer demand environment in the latter part of March, as compared to our expectations at the time that we provided our February guidance, our financial results reflect solid execution, which yielded revenue, operating margin, and EPS, all towards the midpoint of the guidance ranges that we previously provided for the quarter. Our start to the year is very encouraging when considering the tough Q1 2019 comparable in which we reported double-digit revenue growth and the negative impact that COVID-19 inflicted on global economies in the first quarter. Our key financial metrics begin with Q1 ACB of 301 million, with 82% coming from recurring sources. and total revenue of $309 million. I will add that the key currency exchange rates were within the ranges that we provided with our first quarter guidance. We closed the quarter with a total balance of deferred revenue and backlog of $835 million, representing a 24 percent increase over last year's first quarter balance. During the quarter, we continued to manage our business with fiscal discipline, which yielded a solid first quarter gross margin of 88% and an operating margin of 29%, in line with our Q1 guidance. Margins were positively impacted by a slower pace of hiring than we had planned, as well as reduced travel and corporate event spending. These positive variances were partially offset by higher bad debt expense. The net result was first quarter EPS of 83 cents, which was slightly above the midpoint of our guidance range. With respect to taxes, our effective tax rate in Q1 was 19.5%. And going forward, we have adopted a normalized effective tax rate approach for non-GAAP reporting and expect our effective tax rate to remain at 19.5% for the full year. Our cash flow from operations totaled $147 million, and we ended the quarter with a total of $718 million in cash and short-term investments. In line with our capital allocation priorities, we repurchased 690,000 shares during the quarter at an average price of $233.48. We have 2.8 million shares available for repurchase under the current authorized program. Against the backdrop of ongoing volatility and uncertainty in the global markets, we will continue to assess both our own financial performance as well as market conditions as they continue to evolve in determining when might be the most opportune time to reinstate any future share repurchases. Through the combination of our current cash position, the additional $500 million that we have available under our undrawn revolver, and our projections for 2020 operating cash flow, we believe that we have ample liquidity to continue to progress against our long-term strategy while at the same time remaining cognizant of the current environment. Now, let me turn to the topic of guidance. As this crisis has evolved, our team has created multiple scenarios to build out what we believe is the most appropriate framework for giving investors a forward-looking view of the business based upon everything that we currently know. That being said, because of the very significant market and economic uncertainty associated with the COVID-19 outbreak, our ranges for outlook are wider than those that we have historically provided. Let me also add that the entirety of our guidance reduction relates to the expected effects of the global pandemic. Factoring in our Q1 results, we are initiating guidance for Q2 and updating our revenue, EPS, ACV, and operating cash flow outlook for the full year. This update reflects our current views for the remainder of the year, as well as the minor contribution from the numerical acquisition that we closed on April 1st. For the second quarter, we expect non-GAAP revenue in the range of 335 to 375 million and non-GAAP EPS in the range of $1.01 to $1.33. This outlook assumes that we will experience the most significant business disruption in the second quarter. Based upon discussions with our customers and channel partners, we anticipate delays in the timing of closing certain transactions, and in particular, larger enterprise deals may be especially challenging. We have also assumed that some customers will delay certain purchases until later in the year. For the full year, we are updating both the revenue and EPS outlook to non-GAAP revenue in the range of $1,555,000,000 to $1,630,000,000 or constant currency growth of 2% to 7% and EPS in the range of $5.61 to $6.23. We are also updating our full-year ACB outlook to a range of $1,500,000,000 to $1,575,000,000. This represents constant currency ACB growth in the range of 3% to 9%. With respect to the remainder of the year, we expect a modest recovery in the business environment in Q3 as employees return to work and businesses begin to resume operations. Our current assumptions anticipate a stronger recovery in the fourth quarter, buoyed by a combination of sales transactions that may have been deferred from earlier quarters and the sales outlook for multi-year leases that are currently forecasted to close in Q4. With respect to annual operating cash flows, we are updating our outlook for 2020 to a range of $425 to $470 million. This is reflective of our updated full-year ACV revenue and profitability estimates. We have also factored into our outlook an incremental 10 to 20 million of customer payments that would have otherwise been made in 2020 that may be delayed into 2021 as a result of extended payment term requests on new contracts and delayed payments on existing contracts. For modeling purposes, we're expecting second quarter operating margins of 33.5% to 39%. And for the full year, we expect operating margins in the range of 40% to 42%. These targets are reflective of our adjusted spending plans for Q2 and the remainder of the year. They include a slower pace of hiring, and reduce discretionary spending, as well as decrease spending on certain non-critical facilities and infrastructure projects. On the other hand, we will continue to invest in certain digital transformation projects, such as our global CRM and HRIS initiatives, as these projects are critical elements in building the foundation to efficiently operate and scale our business over the long term. Further details around specific currency rates and other quantitative and qualitative assumptions that have been factored into our outlook for Q2 and 2020 are contained in the prepared remarks document. In our effort to provide greater insight and transparency to investors, we've added additional commentary to our prepared remarks and form 10Q, specifically related to the impact of COVID-19. As a caveat, I will remind everyone that this information is based upon everything that we know as of today. And given the uncertain and unprecedented environment that we are operating under, our assumptions are subject to change. Our current expectations, as reflected in our updated financial outlook, is that there will be a delay in business with an adverse impact on our Q2 and full year results. Beyond the points that Ange mentioned earlier regarding the various elements that have contributed to the resiliency of our business model over the long term, from a financial perspective, I'd also like to highlight our high level of recurring ACV, historically stable renewal rates for both leases and maintenance, and the strength of our balance sheet and operating cash flow. We are trying to be as transparent as we can and appreciate that you are all seeking information, details, and perspectives on our future outlook. We have tried to take into account the uncertainty, particularly around the timing of larger enterprise deals. We also trust that you will appreciate that there is no certainty in our assumptions and that things will continue to evolve and change in either direction. depending on how long this situation continues to negatively impact global economies, customer sentiment, and purchasing decisions, as it has since this global pandemic first began in Q1. We will continue to remain focused on the things that we can control, trying to strike a balance between short and long-term strategic initiatives that we believe are critical to our long-term success. In closing, we are very fortunate to start the year with solid first quarter financial and operational results. Being able to deliver on our Q1 financial commitments despite the extreme volatility is a testament to both the resiliency of the ANSYS business model and to the collective efforts and dedication of the broader ANSYS ecosystem that includes our employees, customers, and partners. As we look ahead, we remain committed to invest in our business and to continue to execute against our long-term strategic priorities. Our focus and commitment to the long-term, combined with our best-in-class product portfolio, long-standing customer relationships, and resilient business model Give us confidence that we will emerge from this crisis better positioned to capitalize on our long-term growth aspirations. Operator, we will now open the phone lines to take questions.

We will now begin the question and answer session. To ask a question, you may press star then 1 on your touchtone phone. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star, then two. We kindly ask that you please limit yourself to one question. At this time, we'll pause momentarily to assemble the roster. And our first question today comes from J.V. Schlauer with Griffin Securities. Please go ahead.

Thank you. Good morning, everyone. Ajay, for you, let me ask a longer-term question about where you and the engineering software industry are going as though COVID did not exist, meaning where you and your peers seem to be going or ought to go over the next half decade or more. So the question is, there seems to be an incipient arms race going on among engineering software companies in terms of their underlying architectures and data platforms as their future architectures. You have Minerva. PTC recently alluded to Atlas, Autodesk's Forge, and so, of course, there's 3DX. So the question is, how are you thinking about the long-term impact or importance to you in terms of maintaining or gaining share from this new architecture that you have And are there any implications in terms of your moving from a highly discreet deliverable schedule, as you just alluded to in your remarks, to more of a continuous flow of deliverables over time? And then secondly, the question has to do with COVID and at the risk of extrapolation, are there any attributes of the business that you think might go on indefinitely or that you would have to think about doing more on an ongoing basis, for example, investing more in inside sales, potentially even an e-store of some kind, or in some way altering or doing things differently with your many partners like Microsoft, Rockwell, et cetera?

So, Jay, that's a long question. Let me try to address that quickly. address the second part first, and then I'll get to the first part. With respect to what you do in a COVID world, as I mentioned in my comments, we have a very large event simulation world that we're running online. And that is, I think, one of the largest, if not the largest, simulation event online. And we have a number of speakers signed up for that. We have, I think, over 10,000 people who have registered, and the event is about a month away. So there's a lot of interest in the technology and the capabilities, and obviously we're driving demand from in-person events to online events. With respect to our partnership relationships, we continue to drive our relationships with our partners and with our customers, and the importance of what we do together remains unchanged. With respect to the first part of your question, the long-term view of our industry, I think it's important to note that the part of the industry where Ansys lives, which is simulation, we believe is the most important aspect that customers are dealing with. They need simulation in order to be able to validate the design of the products, to be able to design the products. Some of the other companies that you mentioned are in other parts of the end-to-end ecosystem. We're in the simulation space, and we believe that this is an extremely valuable part of the end-to-end ecosystem. It's something that customers do need. Now, to your point about platforms, look, I think that there is some in the industry who believe that you need to have a single monolithic platform, which is a single source of truth, an ideal single vendor monolithic environment. We don't believe that's the case. Our strategy is completely open. We believe instead in an authoritative source of truth, which is an ecosystem of open, federated, and purpose-built domain-specific solutions And we participate in that, and I think that's a much more realistic way of addressing the digital transformation needs at scale. It's not about picking one platform and locking a customer into a particular platform. It's vendors like ourselves playing in an open environment, recognizing that we need to be in a position to support our customers as they understand how to create these complex products of the future.

And Jim, just one thing that I'll add to that is as you spoke about, as we think about our own business and how our models will transition or our ways of interacting with customers, that is the primary reason that for the past several years, we have been aggressively investing in our own digital transformation so that we can enable automation and build a platform that will allow us to efficiently scale our business from $2 billion to $5 billion and beyond. So that is the primary driver of why we've been pushing so much of our own digital transformation.

Thank you.

And our next question comes from Ken Wong with Guggenheim. Please go ahead.

Great. Thanks for taking my question, guys. So I just wanted to, I guess, touch on a couple of comments you guys made. So in the prepared remarks, you guys highlighted not seeing any material impact on your business from COVID-19. And then also, Maria, when you talked about guidance, that it was based entirely on just how it relates to expected effects of the pandemic. So it seems to suggest that you guys currently aren't exactly seeing any erosion to your business. I guess I want to Maybe dig into that a little bit, make sure I'm understanding that correctly in terms of how you're forecasting. And then to the extent that there is any concern, well, in terms of the lowered guidance, just wanted to understand kind of what's coming from maybe just pushouts of deals and maybe what is coming from contraction of potential contracts that you guys are looking to renew or sign. Thank you.

So Ken, just to clarify, I think you need to take a look at prepared remarks again. What we said is we didn't see a material impact only in Q1. So if you look at our Q1 results, they came, all of the key metrics came in at basically the midpoint or a little bit better than what we had forecasted when we gave guidance at the end of February. Now, that being said, when we gave that guidance, we were basically assuming that COVID-19 was somewhat limited to China and perhaps South Korea. But just like everyone in the world, as March progressed, things got progressively worse as this really became a global pandemic. So as a result of that, you know, a lot of stuff has changed in the past six weeks. And so that is why we've modified our full year outlook, which now does factor in what we believe is an elongated impact from COVID-19, the most dramatic being Q2.

Got it. And then in terms of... kind of where that impact is coming from, any sense of if that, again, is this more of a customer pushing out stuff, or is the reduction in ACV more due to customers, I guess, kind of bringing in deal sizes, not attaching as many new products, just trying to understand kind of where the softness is coming from in terms of the outlook.

So I'd say it's a combination of yes, deals being pushed out as our customers are dealing with their own responses. But I'd say probably the majority of where we're seeing it, particularly in Q2, is at the SMB level. And so in two aspects... Small and medium business. Oh, small and medium business. Two aspects. One, some of those customers that traditionally were paid-up customers are shifting towards taking a look at annual leases just because their access to capital is a little bit more constrained in this environment. And then just in certain cases, they're just delaying. So as we've modeled, as we've worked with our field teams, we believe the largest impact we're going to feel across the business is Q2. And if you recall, when we built our outlook for 2020, even before COVID, we were assuming a very back-end loaded year just because the timing of when those multi-year leases were scheduled to renew, largely in Q4, around customers' year-end purchasing cycles.

Great. Thank you for the clarity.

And our next question comes from Jason Salina with KeyBank Capital Markets. Please go ahead. Hi.

Thanks for taking my question. It's good to hear from everyone. You know, Maria, can you maybe go into more details about, you know, because you mentioned multiple scenarios in your guidance. Can you just frame the low end and the high end?

So, yeah, if you look at for the full year, basically we've reduced to revenue. Now we're at the low end, 2%, and at the high end, 7% in constant currency. We ran a variety of scenarios, and we also used what happened to our business in 2009 as another illustration of a global economic shock. And based on everything, all the scenarios that we came to, we believe that the current guidance that we provided is a good proxy for where we will end the year. And I will caveat that by saying that's based on everything that we know today. Should things transition either way, improve, quicker than we've estimated or unfortunately detract. We will continue to, as the rest of our software peers, assess our business every single day and every single week, work our way through it, and then as we execute to, we will give you a fresh update on all of the data that we've collected during the second quarter.

Okay, and if you could ask one quick follow-up. The perpetual license decline of 20% in the quarter, maybe can you talk about linearity of that? Maybe how January and February were compared to the latter end of the quarter?

So what I'd say is if you look at the linearity of any quarter, the third month is always the largest volume. for leases and paid up. So relative to the decline in paid up, it shouldn't come as any surprise because if you think about a large impact on the business in Q1 was the COVID situation in China. And China today still is largely a paid-up market. So when we see pressure on the business in China, you'll also see it reflected in the results in the paid-up line.

Great. I appreciate the color. Thank you.

And our next question comes from Saket Kalia with Barclays. Please go ahead.

Okay, great. Hey, thanks for taking my questions here, guys. And also, thanks, by the way, for the detailed guidance during this uncertain time. Certainly not everybody's doing that, so I wanted to acknowledge. Maybe first for you, Maria, you know, and I think you touched on this in a prior question, but just to ask it expressly, clearly we've seen more of a shift to lease contracts in this environment versus perpetual for a range of reasons. but I'm wondering what you've seen on contract terms and how are you thinking about that in the guide this year? So specifically, are your lease customers still largely opting for multi-year contracts or have some maybe opted to shorten that given the current environment?

So, Zach, what I'd say is if you think about our customer base, you should really kind of bifurcate it. At the enterprise level, we are still seeing our large customers thinking long-term because R&D is really a long-term investment. And so an example that Ajay spoke to in his remarks is Genso, a very long-standing customer that just entered into a three-year multi-year lease. Where we're really seeing the biggest dynamic right now and what we've built into our outlook for 2020 is that at the small, medium, business level, that those customers are probably, and we're seeing some of this, going to choose an annual lease versus a paid-up, just given the current economic environment and their access to capital. But I will also just comment that today, the majority of our leases are still annual leases. that transition to multi-year leases has really been the journey at the enterprise and strategic level because that customer tends to think longer term than perhaps smaller businesses do.

Got it. That's very helpful. Ajay, maybe a quick follow-up for you. Understand that you've already given the guide for Q2 in the full year, but You know, a question that's being asked of a lot of companies here is just obviously the end of March was a very dramatic time, let's say. Some companies have seen a little bit of a bounce back in the month of April. Can you talk qualitatively, of course, to sort of how activity levels have been here in the month of April at all?

I think it's important to recognize that when you think about the actual growth linearity within the quarter of our business. Most of it is back-end loaded. So the earlier part of the quarter, there's a lot of customer activity in terms of meetings and things of that nature. But in terms of actual closed contracts, that starts to come in towards the third month of the quarter. And what we're seeing in April, of course, is as customers are transitioning to a work-from-home model, there was obviously some disruption, I would say, in March. People were thinking through the transition process and trying to make sure that they could get there. But today, we are seeing a number of our customers working from home. Our teams are effectively working from home. We can engage. A lot of the challenges are around being able to do things like demos and so on. And our ACE organization, which is our technical customer-facing organization, is able to deliver those demos and those capabilities. We feel very confident in our ability to continue to support our customers as they work from home, and the activity levels that we're seeing are consistent with that.

Very helpful. Thanks, guys.

And our next question comes from Andrew Degas-Berry from Barenburg. Please go ahead.

Hi. Thanks for taking my question. I guess first I want to look at a long-term picture of with potentially transitioning under their current conditions, have you already seen engagement from some of these customers or any type of discussions with them that might indicate to you that this sort of transition might accelerate?

Well, I think there are two – there are a couple of things that I think are worth sharing. Number one is that some customers are not able to access physical labs. or we're not able to access physical labs. And as a result of that, physical experimentation is suffering. And obviously, simulation does not require you to access a physical lab. You can do all your work on the computer and in a work-from-home scenario. So that clearly swings away from physical testing towards more simulation activity, and that's obviously a tailwind for us, and that's helpful. The other thing is, and I think this has been very well-positioned Part of the value proposition of simulation is really being able to address cost. And in particular, you can reduce the number of physical prototypes, and you can test a number of things in parallel on the computer. And the fact that you can reduce cost is an important driver. And again, in these tough economic times, people are looking to reduce cost. And that, again, is a good guide to tailwind for simulation. So I'm pretty excited about those dynamics. Another point I'd actually like to make, which is kind of interesting, is we've been able to deliver that unique past situation of this pandemic, is we've been able to deliver a number of simulation-based insights out there. People have been using our technology to come up with ideas or assessments of things like social distancing, the creation of PPE, the rapid creation of medical devices. And a lot of that is being done because of the speed and the rate and pace at which this work is being done. A lot of that work is being done through simulation as well. And that also demonstrates the effectiveness of simulation as you start to think about the agility that we can bring to bear.

Thanks for that. If I may, on a follow-up, I mean, can you maybe help us think through your M&A strategy at this stage? I mean, I know you're not changing your long-term plan at all, but has the current crisis sort of changed your thinking around that in terms of deal-making?

Well, I think it's really very premature to talk about, you know, M&A, exactly what the long-term implications of M&A is going to be. Obviously, we continue to have a pipeline of customers and we're evaluating those customers. I mean, those companies, if you look at what we did with the acquisition of Lumerical, we just closed Lumerical a couple of, you know, a few weeks ago. We were able to onboard all the employees remotely. But we continue to engage with potential acquisition targets. We'll see what happens as the situation.

Very helpful. Thank you.

We'll conclude our question and answer session. Thank you, Ajay Gopal, for any closing remarks.

Thank you very much. uncertainty in the market, I know that Ansys has the right team, the best products in the market, and strong customer commitments. With our investments in infrastructure and collaboration technologies, the special accommodations for our customers, and we believe that Ansys is well-positioned to help our customers during this critical time, when this crisis is abated, I believe that we will emerge in an even pervasive across the product lifecycle. I'd like to again acknowledge our more than 4,000 employees around the world base and support our existing customers during these challenging times. Thank you all. And finally, I'd like to encourage all of you to join us online at 11. You can find more information and register on the ANSYS website or by going to simulationworld.com. And thank you for joining the call. Be safe and enjoy the rest of your day.

The conference is now concluded. Thank you for attending. And have a great day.