Aspen Technology, Inc.

Good day and thank you for standing by. Welcome to the Q3 2021 Aspen Technology earnings conference call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 1 on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star 0. I would now like to hand the conference over to Chantal Brightup, CFO. Please go ahead.

Thank you. Good afternoon, everyone, and thank you for joining us to discuss our financial results for the third quarter of fiscal 2021, ending March 31, 2021. I'm Chantal Brightup, CFO of Aspen Tech, and with me on the call is Antonio Pietri, President and CEO. Before we begin, I will make the safe harbor statement that during the course of this call, we may make projections or other forward-looking statements about the financial performance of the company that involve risks and uncertainties. The company's actual results may differ materially from such projections or statements. Factors that might cause such differences include, but are not limited to, those discussed in today's call and contained in our most recently filed Form 10-Q. Also, please note that the following information relates to our current business conditions and our outlook as of today, April 28, 2021. Consistent with prior practice, we expressly disclaim any obligation to update this information. The structure of today's call will be as follows. Antonio will discuss business highlights from the third quarter, and then I will review our financial results and discuss our updated guidance for fiscal year 2021. With that, let me turn the call over to Antonio. Antonio?

Thanks, Chantel, and thanks to all of you for joining us today. I want to start by welcoming Chantelle to Aspen Tech. Chantelle adds significant experience to the senior management team, and I've been impressed by her financial and operational acumen and energy she's brought to the company in the weeks since she joined us. Let's start by looking quickly at our financial results for the quarter. Revenue was $162.7 million. GAAP EPS was $0.91, and non-GAAP EPS was $1.05. Annual spend was $609.9 million, up 1% in the quarter and 6% year over year. And free cash flow was $100 million. Overall, our third quarter performance was below our expectations. While we continue to have a meaningful pipeline of business, it remains a challenging environment to complete transactions. We had expected purchasing dynamics with customers to improve modestly in the third quarter. However, it was broadly consistent with what we experienced in the second quarter. Our assessment of growth in Q3 was predicated on the quality of conversations with customers and their commitment to a sequence of events that have historically indicated a high likelihood of closing these transactions. As the quarter closed, many of these transactions did not receive final approval at the highest level of our customers' organizations, an approval step that is new or has been historically a predictable final step. We believe there were several factors that played a role in the quarter. The unexpected polar vortex weather event in February in the United States, and specifically in Texas and many of the key energy-producing states, forced the shutdown of approximately one-third of U.S. refining capacity, as well as approximately 75 percent of ethylene capacity and 80 to 85 percent of polypropylene capacity, equally impacting other chemicals' production capacity. This emergency shifted customer attention towards shutdowns, repairs, and restarts of these assets, with the last few plants finally returning to operations only in the past few weeks. This weather event cost the refining and chemicals industry billions of dollars in revenue and incremental expenses, as being reported by these companies. One refining company reported taking an accounting charge in the quarter of between $520 and $535 million due to higher electricity and natural gas costs alone. We believe the economic impact from these storms placed additional pressure on budget and made it very difficult for customers to commit to new spending at this time. Continued COVID-related lockdowns around the world, particularly in Europe and India, are delaying the economic recovery in these regions and creating a significant stress for the local refining industry as higher oil prices and tepid fuel demand have depressed refining margins. This was also the case until recently in the United States, but as economic activity has accelerated here, margins have improved in the last few weeks. And third, These dynamics, combined with calendar 2021 budgets that are reflective of the uncertain macro environment and mid $40 oil price at the time, when they were set late in calendar 2020, created a difficult spending environment. In light of our recent performance and the current market outlook, we're now taking a more cautious outlook on growth in fiscal 2021. It is important to know that Although we did not experience any significant losses in the third quarter, our updated outlook is based mostly in the decision-making pattern by some customers. Although we continue to have significant customer engagements and demand generation activity at the top of our sales funnel that support a pipeline of business that is broadly consistent with pre-pandemic levels, we believe it is prudent to assume that the elevated level of late no decisions by customers in recent quarters could persist until at least the end of this fiscal year. As a result, we're adjusting the range for annual spend growth to 4 to 5.5 percent. Our initial guidance for the year laid out a wider than normal range of potential outcomes, and our updated outlook reflects, first, lower gross growth driven by curtailed spending in refining and chemicals, which has impacted our MSC business, and lower growth contribution from APM consistent with the pattern experienced in the fiscal year, and second, attrition that will come in at approximately 6%. I would like to spend a few minutes providing more color on what we're seeing in the market. As we discussed in depth at our investor day earlier this year, Digitalization and sustainability are two of the most important investment priorities in the process and capital intensive industries. Customers recognize that Aspen Tech solutions are critically important to successfully executing in these areas and meeting their goal of running assets safer, greener, longer, faster, and more profitably. Our overall pipeline of opportunities has continued to grow each quarter since the pandemic began. And in particular, we're seeing growing engagement with customers for sustainability-related activities. We're excited by the conversations we're having with customers, and they give us confidence in our long-term, double-digit annual spend growth prospects, despite the short-term challenge we're facing. The macro environment has remained less predictable than originally anticipated, proving difficult for customers to commit to new spending in the near term. We believe there are ways for our sales organization to adapt to this new environment, but this will likely only have a modest impact until macro conditions improve and normalize. The end market most impacted by macro conditions relative to our expectations is refining. Although customer engagement remains high, refining utilization rates and margins remain below historical trends, even as they have shown improvement from last year's lows in the United States. Fuel demand continues to be well below pre-pandemic levels, and during the quarter, lockdowns persisted in certain key regions, most notably Europe and India. The cumulative impact of the past year has weighed on operating budgets and refiners' ability to make incremental investments in their operations. We believe this is a temporary dynamic that will reverse itself as macro conditions improve across the world, However, in the near term, we would characterize business conditions with refiners as amongst the most challenging in the last 10 to 15 years and a notable difference from the last market cycle five years ago. Conversely, as we've discussed on recent calls, chemical customers have shown good resiliency, but spending softened in the quarter, which could be a transitory issue reflecting the factors mentioned earlier in my remarks. These customers are focused on the longer-term needs of their businesses and recognize the critical value AspenTech provides by enabling assets to operate in a more efficient and environmentally sustainable manner. Turning to the ENC market, our performance was largely as expected. The ENC industry continues to adjust to current capex spending, which is leading to higher attrition levels and lower new spend activities. As a reminder, these customers continue to use and deploy Aspen Tech solutions extensively across their operations and changes in their spending levels are a result of having fewer projects in backlog. We continue to have very close and active engagements with our ENC customers and understand the near-term challenges as well as the exciting long-term opportunities in this market. In APM, We continue to see significant interest from customers as pilot activity remains at record levels. The combination of reduced operating rates in these assets and lower spending on maintenance has had a pronounced impact on close rates in APM, and we saw a continuation of the trend towards no decisions in many of our sales cycles. The increase in customer interest and successful pilot deployments have created a significant pipeline of vetted transactions that are available to be signed once market conditions improve. We have made important progress in improving out the value proposition for APM for many customers in our core industries and GEIs, which gives us confidence that APM can grow significantly faster over the long term. We did close a number of transactions for APM in the mining and pulp and paper industries, including some minor transactions in our core industries and most notably expanded the use of Aspen Entel for an integrated oil company in Europe to one of their biofuel refineries. Finally, we have made good progress in building out our dedicated pharma unit, including the go-to-market teams. We believe the pharma market represents a significant growth opportunity for Aspen Tech, and it's an area in which we plan to continue to invest. following our highlights of a couple of transactions we closed in the quarter. First, a global chemical company headquartered in Europe and long-term user of our engineering and MSC suites was offered by an Aspen Tech competitor the opportunity to replace our engineering suite by granting a free, no-cost license to their technology for three years. After a careful evaluation by the customer of the capabilities of both solutions, The customer proceeded to renew the agreement for our engineering suite as well as gross spend by expanding use to sites in Asia and other recently acquired locations. Second, a longer-term European customer of Aspen Tech selected Aspen GDOT to expand use of the multi-unit optimization technology to a second refinery. Aspen GDOT was selected after the customer concluded a competitive tender process originally kicked off in April 2020 and postponed multiple times due to the pandemic. The customer is looking to increase profitability at this second refinery by improving operational performance. Third and final, a new customer to Aspen Tech and mid-tier mining company in Australia signed a transaction to deploy Aspen Emtel at two mining sites in Australia after conducting a pilot for the technology. The pilot was kicked off during the first quarter of our fiscal year 21. The value of Aspen Emtel's predictive capability was proven during the second quarter, and the transaction was signed this past quarter. Aspen Emtel was selected for being a commercially available software application, industrial equipment agnostic, fast to deploy, and for providing a clear value proposition to reduce operational downtime. This success will lead to further rollout of Aspen Emtel to other mining sites in the future and create opportunity for other Aspen Tech products with this company. As we look forward, we're focused on managing and executing against the things that are in our control to ensure we're best positioned to benefit from an improved macro environment as quickly as possible. In particular, we continue to make excellent progress in building out and expanding our market-leading product portfolio. The market is responding to our vision of the self-optimizing plant and how we can leverage artificial intelligence across our solutions. Feedback on both Aspen 1v12 and the AIoT Hub has been very positive. For example, a U.S. chemical manufacturer has been drawn to our V12 offering as a way to democratize AI access and utilization in their business. They have noted that our AI power model building workflow is a very user-friendly way to build artificial intelligence models without having existing resources trained in advanced computer science. For them, it would put AI functionality directly into the hands of the manufacturing technical personnel where it is needed most. We believe our recently introduced innovations combined with our existing technology and 40 years of domain expertise reflect a compelling product market fit that meets our customers' strategic priorities of improved efficiency and reduced environmental impact. We have introduced a tremendous amount of innovation over the past year, which provides for a number of different opportunities for faster growth over time. Whether it is hybrid engineering models, Aspen GDOT, the AIoT Hub, Aspen Enterprise Insights, or any of our other recent innovations, we have more ways to deliver value for customers than at any point in our history. We will continue to make significant investments in our product portfolio and go-to-market efforts to best position the company for the long term. We have great confidence in our business and believe our ability to invest through all the stages of the economic cycle strengthens our market position and ability to deliver on our long-term objectives. We're also hosting our biannual Optimize Conference on May 18th through the 21st, where we will continue to engage customers across all the innovation we have released and our long-term historical products. This will be our first virtual conference virtual customer conference, and it is generating significant interest with thousands of customers now registered. We have a strong lineup of sessions and speakers, with the technical sessions being oversubscribed from customers' interest to present how our solutions are being leveraged to create value and improve sustainability in their operations. We look forward to your participation as well. From a capital allocation perspective, we did not repurchase any shares in the first three quarters of fiscal year 2021. And we anticipate that it is unlikely that we will meet our previous stated intent of repurchasing $200 million of stock in fiscal year 2021. The lack of share repurchase activity in recent quarters was driven in large part by practical limitations, namely a lack of available open windows to reinstitute our buyback. We have a demonstrated track record of deploying capital to drive shareholder value throughout prior business cycles. Our capital allocation framework and philosophy remain the same. Invest organically in our business, inorganically with acquisitions, and where business and market conditions allow us, return excess cash to shareholders via share repurchases. Finally, I would like to welcome the two newest members of Aspen Tech's Board of Directors. Karen Goltz, and Jill Smith. Karen is a retired Ernst & Young partner who held a number of senior positions in her 40-year career with the company, including as Global Vice Chair of E&Y Japan and its professional practice and professional ethics and independence. We're excited to add Karen's expertise and experience to Aspen Tech's board. Jill has more than 20 years of international business leadership in diverse industries, most recently serving as president and COO of Alight Minds, an IP commercialization company for technology and life sciences, and earlier in her career as CEO and president of Digital Globe, and a partner at Bain and Company. We're excited to add the diverse expertise and experience of Karen and Jill to Aspen Tech's board. Before I turn the call over to Chantel, I want to reiterate the inherent strength of our business and our continued confidence in its long-term growth opportunities. Even as many of our customers face a challenging environment, we believe we will grow our business 4% to 5.5% in fiscal 2021 and generate industry-leading margins. As the impact of the pandemic fades and economic conditions improve, we expect our business will begin to realize the customer demand that has built up over the past year, who are well-positioned to benefit from our investment priorities that we believe will sustain double-digit annual spend growth for years to come. Now, let me turn the call over to Chantel. Chantel?

Thank you, Antonio. I appreciate those kind words. I am thrilled to be here at Aspen Tech to help lead the company through its next stage of growth. I am impressed by what I have seen in my few weeks with the company and the incredible passion that we have to deliver value for customers. I look forward to getting to know many of you in the weeks and months ahead. I'll start today with a review of our financial results for the third quarter fiscal 2021. As a reminder, these results are being reported under Topic 606, which has a material impact on both the timing and method of our revenue recognition for our term license contracts. Our license revenue is heavily impacted by the timing of bookings, and more specifically, renewal bookings. A decrease or increase in bookings between fiscal periods resulting from a change in the amount of term license contracts up for renewal is not an indicator of the health or growth of our business. The timing of renewals is not linear between quarters or fiscal years, and this non-linearity will have a significant impact on the timing of our revenue. As a result, we believe our income statement will provide an inconsistent view into our financial performance, especially when comparing between fiscal periods. In our view, annual spend will continue to be the most important metric in assessing the growth of our business, and annual free cash flow the most important metric for assessing the overall value our business generates. Annual spend, which represents the accumulated value of all the current invoices for our term license agreements at the end of each period, was $609.9 million at the end of the third quarter. This represented an increase of approximately 6% on a year-over-year basis and 1% sequentially. Total bookings, which we define as the total value of customer term license contracts signed in the current period, less the value of term license contracts signed in the current period but where the initial licenses were not yet deemed delivered under Topic 606, plus term license contracts signed in a previous period for which the initial licenses are deemed delivered in the current period was $175.6 million, a 39% increase year-over-year. The growth in bookings was heavily influenced by the timing of renewals, which represent the majority of our bookings in a given period. Total revenue was $162.7 million for the third quarter, a 25% increase from the prior year period. The year-over-year increase in revenue was the result of the increase in total bookings discussed above. Turning to profitability, beginning on a GAAP basis. Operating expenses for the quarter were $77.8 million, compared to $70.1 million in the year-ago period. Total expenses, including cost of revenue, were $93.8 million, which was up from $85.9 million in the year-ago period. Operating income was $68.9 million, and net income for the quarter was $62.5 million, or 91 cents per share. Turning to non-GAAP results, Excluding the impact of stock-based compensation expense, amortization of intangibles associated with acquisitions and acquisition-related fees, we reported non-GAAP operating income for the third quarter of $80.9 million, representing a 49.7% non-GAAP operating margin, compared to non-GAAP operating income and margin of $53.9 million and 41.3%, respectively, in the year-ago period. As a reminder, margins will fluctuate period to period, due to the timing of customer renewals and therefore license revenue recognized during the quarter. Non-GAAP net income was $72 million, or $1.05 per share based on 68.6 million shares outstanding. Turning to the balance sheet and cash flow, we ended the quarter with approximately $317 million of cash and cash equivalents and $300 million outstanding under our credit facility. In the third quarter, we generated $98.7 million of cash from operations, and $100 million of free cash flow after taking into consideration the net impact of capital expenditures, capitalized software, and acquisition-related payments. We are pleased with our cash flow performance so far in fiscal 2021, which demonstrates the consistent profitability of our business and good performance by our collections team. A reconciliation of GAAP to non-GAAP results is provided in the tables within our press release, which is also available on our website. I would now like to close with guidance. With respect to annual spend growth, as Antonio mentioned, we are now forecasting 4 to 5.5% annual spend growth. We now expect bookings in the range of $771 million to $809 million, which includes $519 million of contracts that are up for renewal in fiscal 2021. This includes approximately $146 million of contracts up for renewal in the fourth quarter. We now expect revenue in the range of $705 to $729 million, We expect license revenue in the range of $492 to $516 million, and maintenance revenue and service and other revenue of approximately $187 and $26 million, respectively. The change in our bookings and revenue outlook reflect the impact of our more muted annual spend growth outlook. From an expense perspective, we expect total gap expenses of $355 to $360 million, Taken together, we expect GAAP operating income at a range of $350 to $369 million for fiscal 2021, with GAAP net income of approximately $306 to $321 million. We expect GAAP net income per share to be in the range of $4.46 to $4.70. From a non-GAAP perspective, we expect non-GAAP operating income of $395 to $415 million, and non-GAAP income per share in the range of $4.98 to $5.22. From a free cash flow perspective, we continue to target free cash flow of $265 to $275 million. Our fiscal 2021 free cash flow guidance assumes cash tax payments in the range of $60 to $70 million. As a reminder, the fourth quarter is typically our largest invoicing quarter, with a significant number of our quarterly invoices due on June 30th. To summarize, we are managing through some extraordinary dynamics in our core markets. The fact that we continue to grow and generate substantial free cash flow is a reflection of the value we deliver to customers and demonstrates the strength of our business model. We are confident that we will begin to see a meaningful improvement in growth rates as the market conditions normalize. With that, operator, let's begin the Q&A, please.

Thank you. At this time, if you would like to ask a question... Simply press star 1 on your telephone keypad. Again, to ask a question, please press star 1 on your telephone keypad. Your first question comes from the line of Matt Val from William Blair. Your line is now open.

Hey, Matt. Hey, Gary. Hey, guys. Thanks for taking my questions. Just to start off, Antonio, just sort of want to understand the change in tone and guidance a bit better. You listed several reasons there. But it would seem that really the new dynamic that was probably unanticipated when you guided last time would be the cold weather events in Texas and in the South, with COVID probably being somewhat similar in terms of an impact from the second quarter. But how do we sort of think about what's the sort of bigger dynamic there that has shifted some of the close rates and customer sentiment?

I'd say that perhaps a dynamic that is new in this cycle that we certainly didn't see and did not have in the last cycle in 2016-2017 is with our refining customers. Clearly, since last April, the significant drop in fuel demand has had an impact on their business. But I think more importantly, or equally important, as oil prices have increased later in the year, in 2020 and into 21, their margins have really compressed, in some cases experiencing negative margins. And I think that's led to a pullback in spending by these customers. Now in the United States, refining margins have actually improved quite a bit in the last few weeks as the economy has opened up and traveling has picked up. So we see that, but they remain depressed in Europe, in parts of Asia, and they'll probably continue until economic activity recovers. So that's primarily the new dynamic and that's impacting the MSC business in particular, and also the engineering business out of those customers. We believe that the softening of demand from our chemicals customer in Q3 had more to do in the U.S. with the weather event that they experienced over Texas and other states, but I think it's a refining business, the new dynamic that we're seeing.

Got it. And so, I mean, is this sort of a situation with the refiners specifically where we're just waiting for their businesses to improve before demand returns more robustly and close rates improved? Or do we sort of need to wait until the calendar year flips over and budgets reset? How should we think about the drivers to get back to better close rates there?

Yeah, look, certainly we do think that budgets that were set late last year were sort of disciplined budgets, if you will. At the same time, I do think the dynamics in Europe with continuation of lockdowns and in India, for example, going on right now, and then the weather event, as those disappear, certainly the weather event only lasts The duration of it was very short-term, but the impact was longer-term. Only in the last few weeks, some of those assets have returned to operation. I think in the second half of the year, these customers, on a global basis, will probably have a better financial performance. How does that translate into spending in the second half of the year? Look, time will tell, and we'll, of course, be engaged with those customers. But then, again, later in the year, they'll be looking at new budgets with a completely different macro environment. So we'll see what happens at that point.

Great, guys. Thanks for taking my questions. I'll pass it on. Thank you.

Thank you. Your next question comes from the line of Jackson Ader from J.P. Morgan. You're now live.

Hi, Jackson. Thanks for taking my questions. Hey, Antonio. First one on, you know, between no decisions from some customers and I think you mentioned a competitor, you know, giving their software away for three years, you know, and competing hard on price. How are you guarding against the pressure that salespeople will ultimately feel to maybe discount or take down the contract values here at the end of the fiscal year just to try and get something across the finish line?

Well, look, first of all, we have pretty rigorous approval processes for deals, and I can tell you, You know, one of the largest deals that we had in our Q2 quarter, we did not give the sales team the approval they were looking for to close that deal in Q2. That deal came over to Q3 and we finally managed to get to an agreement with the customer. It turned out that normally it's a customer that is very reliable. Once we have an agreement with procurement to sign the deal, But the deal was sent to the CEO, which is never the case, but this time around was sent to the CEO for final approval, and the CEO held it along with other agreements that they were negotiating with other providers. So, look, we monitor the health of our business, and, of course, we have escalation levels for approvals internally. We will walk away from deals if we don't think it's the right deal to be had with a customer. We're also not conducting a far sale of our products here. But we do find, look, you have a smaller pie of opportunities at the moment in the market. The weaker competitors are being very aggressive, just like they were in 16 and 17, absolutely the same behavior. And look, if anything, it strengthens our commitment to the value proposition from our products. When you have a customer that has an offer on the table to use the software of a competitor for three years at no charge, and they still decide to go with AspenTech and expand spend. So I understand your point, but at the same time, you know, we do see the pressure on pricing. But I like to think that we run a business where we understand the value from our solutions. We will make accommodations if we believe it makes sense in the context of the macro. But in general, our customers have pre-negotiated future token prices in their agreements that have been negotiated over the last five years. And that is what's used for their purchases if they want to expand entitlement during this downturn.

Okay. Great. That's helpful. And then, Chantal, maybe a clarifying question for you on the APM suite. How much has the APM contributed to annual customer spend growth so far in fiscal 21? And then what are we expecting the APM contribution for the full year on customer spend? Thank you.

Yeah, I think, Jackson, great to get to know you. I will defer to Antonio for that specific question, if that's okay, regarding suites.

Yeah, look, thank you, Chantal. And look, Jackson, the APM suite, you know, we continue to be very excited about it. The fact is that the use cases continue to expand. into other industries. Now it's being deployed at a biofuels refinery as well. But the contribution was not what we expected in the quarter again. The lower guidance also means lower contribution from APM. And we believe that now APM will probably come below the one point of contribution. Now we have a a wide range of outcomes for APM in Q4. If we get a surprise on the upside, there could be a lot of strength in APM, but we're not going to rely on that. The overall guidance we've given for the business also reflects a lowering of our guidance for APM or expectations around APM. Okay. All right. Thanks for the clarification. Yeah, no problem. Thank you.

Your next question comes from Rob Oliver from Baird. Your line is now open.

Hi, Rob. Great. Good evening. Hi, Antonio. Hi, Chantal. Welcome to you as well. I have two questions, one for you, Antonio, to start. Just, you know, I appreciate some of the color at the margin, sort of what changed relative to your forecast. And I know you talked a little bit about end markets and just, you know, obviously touched on APM there in response to Jackson's question, which I think is on everyone's mind. I wanted to ask about other particular products. You know, are you seeing particular products or product suites changing where you're seeing the most pushback, and does that concern you in any particular renewals, and how does that sort of match up with what you've seen in previous down cycles? Is this unique or does it look different? Just curious for any product-related color, and then I had that quick follow-up.

Yeah, no, look, I mean, actually a lot of the dynamics that we're seeing in this cycle we saw five years ago. If anything, you know, our footprint in the market has strengthened across the board. You know, our engineering suite, you know, at the moment we believe will actually probably be a little bit ahead of our growth projections for the year. We do expect our MSC suite now not to be a double-digit grower this year. The impact from refining is much more pronounced on the MSC suite. Then our APM suite, we've communicated what we're seeing with that suite. It's not as if we're losing on APM. It's no decisions. MSC is just a temporary lull in spending on refining and also a softening in chemicals, which to me it says that we had some dynamics in Q3 that perhaps were very specific to chemicals, to the macro environment for chemicals. And then the engineering suite is ahead of our expectations a little bit. But no, look, we're doing well from a competitive standpoint.

Good. Okay. Thanks, Antonio. I appreciate that. And then, Chantal, one for you. Just on attrition, and I know this was before you had joined, but last quarter the thought was that attrition would be lower in the back half of the year. You know, now you guys, I think, are talking about 6%. So I just wanted to kind of focus on that a little bit and get your sense for what that is reflective of around particular renewals and how you guys feel. Is that a range or is that six just for the final quarter here for you guys for the year? Thank you.

Yeah, no, hi, nice to meet you, Rob. Thank you. I think that, you know, we are still within the range that we have been guiding. What I would say, to be fair, is what we see is bumping up the higher point of that range as we get into Q4. Rob, to your question, so still the range, but probably more towards the higher part of that range as we get the pressures Antonio mentioned during Q4. So hopefully that answers your question in regard to the range is maintaining and we see pressure to get to the higher point of that range, but not moving above that range at this time.

Rob, what I would add to Chantel's answer, for the first time, we did see a couple of important customers on the engineering side and owner-operators let their renewals expire and then renew them into this quarter. To us, that was a sign of a little bit of disorganization in their own organizations. They've renewed, but the way we count for attrition is attrition if it doesn't get renewed, and if it comes back, it's growth. We expect those ills to renew or to get signed as new business. Look, there's a lot of dynamics in the marketplace at the moment around the world, and in some cases we've seen a little bit of disorganization in our customers' businesses as well.

Okay, thank you guys very much.

Yeah, no problem.

Very welcome. Thank you. Moving on, your next question comes from Gal Munda from Beringberg. Your line is now open.

Hi, Gal. Hi, everyone. Hey, thanks for taking my questions. I'll be quick. I appreciate the time. The first one is just, Antonio, if I'm thinking, just expanding a little bit on the last thing you said, when you think about the slip deals effectively that, you know, were in there, didn't get signed, how much of that related to just the pure cadence of renewals bookings that you had in the quarters? And what proportion of them were kind of new activity, expansions potentially, stuff that you thought might add to the current bookings that you had up on top of renewals?

Yeah. So, Gal, I guess just to clarify, I don't know if your question is specific to maybe an overperformance on the booking side versus expectations. But look, yeah. So, no, we renew in the quarter what's available to us. The fact is that I'm not aware necessarily of any material renewal that we accelerated into the quarter. I think that overperformance that you're seeing has to do with the way we account for bookings, supersedes, and other stuff that Were there some parts of bookings that get recognized in the quarter from past quarters? So, I mean, maybe Chantelle can add more color to that.

Yeah, I think that, and nice to meet you, Gal. I think that if I understand your question correctly, your question was if we are seeing more slips through the quarter during this environment, if I understand your question correctly.

Yeah, you're basically on a, you know, let's say you're on a five-year deal, your deal's up for renewal. Did you have instances where just the normal renewal cadence of the deal would have kind of been disrupted and slipped into the quarter? Were those all kind of new deals that didn't get closed because they didn't get approved? Were there any issues with the renewal deals that were supposed to be just automatically or programmatically kind of renewed but those got pushed out so those probably carry lower risk in the subsequent quarters?

Yeah, I don't think that, you know, I think Antonio said there could be one or two during this time period that slipped and became a new deal because of the timing on their side. You know, if you think about what some of our customers are going through right now, just the organization and the capabilities to pull that all together on time for the renewal. I wouldn't say that there's anything indicating there's a trend for that to happen, and therefore, you know, the new deals were likely more the new deals and not slipped renewal deals for the majority. I don't see an increased trend in that, if that's the question.

That makes sense. Awesome. And then my second question is when we kind of look at a, you know, maybe Antonio for you, when you kind of look at the target that you've talked about back in the middle of February and, you know, you were in a good kind of trajectory to get closer to it, how far away you think you are today to be able to deliver on that kind of low team's growth on the annual spend? Is it kind of a 20 without guiding, but is it like an event that you see the environment improving kind of in the near term, or do you believe that the end market has to improve a little bit better as well to help you get there?

Well, look, Gal, like I said in my prepared remarks, we still have a lot of conviction about the ability to – to deliver double-digit growth in the longer term. The trajectory to get there, you know, we'll give you an update on what we think we're going to be able to do in fiscal 22 later in the year when we do our earnings call for fiscal 21. But, look, in general, The engagement with our customers only continues to strengthen. The conversations around sustainability are becoming more and more frequent. How our customers are viewing us as a strategic supplier of capabilities to help them navigate this environment and their businesses and transform their businesses for the future continues to strengthen. I think overall, and I've said it before, I've never been as excited about the future of this company as I am today. In a way, we misread the environment that our customers were facing, especially refiners. I do think that in Q3, there were very specific events that played a role in our performance, but that doesn't change our conviction about our ability to drive double-digit growth in the future. And that's what we're working here to do, including putting to work the investments that we put to work this fiscal year and reaping the benefits of those investments over the next two to three years, three to five years. That's what we're here playing for.

Right. That's exactly what I was thinking in terms of, you know, all the reasons for Q3 kind of underperformance seems to have been one of impact. So if you look kind of outside, of that, I didn't see any lasting changes that would make that trajectory over the mid-term any different. So I just wanted to confirm that. I guess that's very helpful. Thank you.

Not at all. Not at all. And I would just add that we continue to see even greater interest from third parties, potential partners, to work with us in going to market to these customers because they understand the role that we play in this marketplace in our core industries. And that's also to us an indication of how we're being perceived in the market by customers and third parties. So I think you're taking the right takeaway from this.

Thank you, Antonio. Thank you, Shintaro. Speak soon.

Thank you.

Again, if you have any questions, simply press star 1 on your telephone keypad. To ask a question, please press star 1 on your telephone keypad. And your next question comes from the line of Blake Jandron from Wolf Research. Your line is now open.

Yeah, thanks for the time, this evening, guys. So I understand, you know, the one-off impacts in the quarter, and really there's nothing you can do about competition outside of just bolstering the value proposition. And I definitely subscribe, obviously, to the MSC tailwinds and digital transformation over time. But if we were to, you know, maybe frame the conversation more so for engineering, you know, oil and gas prices are up, but there is a notion that, The entire value chain is just going to be more disciplined from a CapEx perspective moving forward. This would be somewhat of a big structural change versus what we've seen in past cycles. You know, has this factored into your outlook for engineering suite growth moving forward? And, you know, have you seen any impact to the EPC customer base in terms of E&C companies maybe even going away or cutting customers? engineering heads, you know, things that are a little bit more drastic to deal with the structurally lower outlook for specifically CapEx in oil and gas?

Yeah, so let me say the following. Certainly there's a few engineering companies that have reduced headcount, but nothing at all like what we saw five years ago. I think engineering companies have been very disciplined about hiring. and they've been managing their backlogs in a way that allows them to sustain their businesses even through this downturn. So I'll say that. The other point at the beginning of your question around, you know, sort of a reduced CAPEX environment, Look, actually, I think in a way that provides a counter driver for more focused in technology. When you engage on our operators in refining and chemicals, they all recognize that they are in a lower capex environment for a number of years here. And as such, they need to focus on their existing assets and improve their performance, improve on the reliability of these assets. In general, continue to drive greater operational excellence. And every customer that I meet with at the executive level, the first thing they show us is their list of 40 or 50 or 60 initiatives as part of an operational excellence program that they are focusing on. to drive more value out of their existing assets. And those range from certainly digital capabilities in their offices and personnel to reliability, asset predictive maintenance. Of those, there's probably a list of 10 or 15 that in a way belong to us, Pentec. And there's a lot of actually excitement and our customer base about the next two to three, three to five years. What I find, and actually I told my board this last week, there's a tremendous dichotomy between what you hear in the news in general about what's going to happen to these industries and then what you hear from customers about what they view as their outlook for their businesses in chemicals and refining over the next two to three years. Certainly there's parts of the world where, you know, there's going to be some challenges, especially in refining. But look, I think greater economic activity coming out of the pandemic will rise all boats. And these companies provide the energy, the chemicals, the plastics that improve standards of living and drive economic activity. So, you know, time will tell what happens here, but, you know, we're also very excited about the future.

That's helpful insight. So it sounds like, you know, any incremental frictions is a real opportunity for both MSC and obviously APM in that regard. I wanted to switch focus to M&A. I guess just more comments on the fact that you didn't follow through with the buyback, so you're building cash here a little bit. Diversification is very important, and pharma is one area of focus for you, as is metals and mining. Is it possible that you're maybe gearing up for more than just tuck in M&A to make a more concerted shift into either one of those verticals?

Well, we'll never discuss potential M&A, but what I'll tell you is we've certainly put our foot to the pedal on organic investments in fiscal 21. You'll see some of that coming out of our Q4 quarter into fiscal 22 because we believe that accelerating investments over the last six to nine months will allow us to increase our lead on the competition as we come out of all this. So we've been making investments as we've been communicating to all of you over the last 12 months in the different areas that we've talked about. Certainly, inorganic M&A is always part of our picture. We've always said that were interested in doing bigger acquisitions, especially into these new industries that we talk about, but they would have to sort of fit within that filter that we put on them so that they're supported. Any M&A we do, even if it's bigger, has to be supportive or accredit to our profitability and double digit growth ambition. So look, we're constantly looking at things, but I won't make any specific comments. But just know that part of our thesis is that investing during downturns provides a significant return down the road. And that's what we're doing and will be doing.

Yeah, that's totally fair. The framework is very helpful. Thanks a lot for the time.

Yeah, no, thank you.

Your next question comes from the line of Jason Salino from KeyBank Capital Markets. Your line is still open.

Hi, Jason. Hello. Hi. Thanks for fitting me in. Maybe just two quick ones. When I look at the Q4 annual spend guidance or the implied Q4 annual spend guidance, it seems very weak. sequential increase, much more subdued than a typical Q4. Is this more of a reflection of the added dynamic around the uncertainty on customer purchasing decisions?

Yeah, look, we're being very careful about Q4. We've had two quarters where we came into the very end of the quarter thinking that We're going to deliver good, solid quarters, and it did not materialize, so you would expect us to be more cautious about the Q4 performance. What I tell you is we came into the quarter with a very sizable pipeline of business, but at the same time, We've been beaten twice by expectations, so we're being more cautious.

Okay. And then before, you know, we were thinking that annual spend growth could possibly trough over the next couple quarters. You know, does this framework still apply, but maybe a deeper trough than what we expected?

I mean, we'll talk about FY22, but, you know, I think in a way we've sort of been established a pattern of growth in three quarters in a row. We'll see what Q4 does. Our Q4 last year was a very strong quarter, but I don't necessarily think that customers understood what was ahead of all of us with the pandemic. But we'll see. You know, the Q1 and Q2 quarters this year, I think, are representative of the full impact of the pandemic and everything that was going on and certainly so. I think, you know, if there's a continuation of some of the issues around the world with the pandemic, you could be seeing similar quarters in Q1 and Q2. We'll talk about more specifically F-1-2 later in the year.

Okay. Excellent. Well, I appreciate the time. Thank you.

Thank you, Jason.

Thank you. There are no further questions at this time. I'll now hand it back to our CEO, Antonio Petri, for any closing remarks.

All right. Thank you, Pareto. I want to thank everyone for joining the call today. I know it's busy times during earnings season. and look forward to doing callbacks with all of you. And I'm fully vaccinated, so hopefully meeting in person at some point here in the future. Thank you, everyone.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.