Commvault Systems, Inc.

Good day and thank you for standing by. Welcome to the Commvault Q1 fiscal year 2023 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 1 on your telephone. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Mr. Mike Melnick. Please begin.

Good morning, and welcome to our earnings conference call. I'm Mike Melnick, head of investor relations, and I'm joined by Sanjay Merchandani, Commvault's CEO, and Gary Merrill, Commvault's CFO. An infographic with key financial and operating metrics is posted on the investor relations website for reference. Statements made on today's call will include forward-looking statements about Commvault, future expectations, plans, and prospects. All such forward-looking statements are subject to risks, uncertainties, and assumptions, Please refer to the cautionary language in today's earnings release and Commvault's most recent periodic reports filed with the SEC for discussion of the risks and uncertainties that could cause the company's actual results to be different from those contemplated in these forward-looking statements. Commvault does not assume any obligation to update these statements. During the call, Commvault's financial results are presented at a non-GAAP basis. A reconciliation between the non-GAAP and GAAP measures can be found on our website. Thanks again for joining. Now I'll turn the call over to Sanjay for his remarks. Sanjay.

Good morning. I'm pleased to share Commvault's record Q1 results. Our subscription software and SaaS strategy is working as customers continue to prioritize data management and protection solutions as they embrace the cloud and hybrid IT. This is reflected in our results, which I'll be discussing in constant currency. Total revenue was up 13% year over year. Software and products revenue increased an impressive 17%. Metallic is starting to contribute meaningfully to revenue, and we once again delivered profitable growth. Total ARR, a key indicator of our future, continues to be strong, growing 16% year over year. Combined, subscription and SaaS ARR grew approximately 50% year over year, and now represents 64% of our total ARR. And we have two and a half times more subscription and SaaS customers than we had two years ago. These are proof points that our strategy is working and that we are the trusted partner for our customers' large multi-cloud environments. I'd like to share a little bit, a little about why I think we are poised to capitalize on the massive opportunity ahead of us. The past few years have been hard on IT professionals and will continue to be challenging with rampant data proliferation, a rise in security threats, increasing costs, and resource limitations. As executives prioritize IT projects in this environment, data protection will remain top of mind, especially as mission-critical hybrid solutions continue to grow in the enterprise. This proliferation of data across multiple environments and vendors is what causes data to be more vulnerable. Organizations are looking to consolidate their data management solutions and reduce complexity and costs while protecting their most precious assets. Nobody has the workload breadth and depth to manage this across the entire data estate like Commvault. We enable this today. Through the power of AND, which offers the best software and SaaS, we provide elegant, industry-leading cloud data management capabilities So customers have the ease and flexibility to use one or both offerings to meet their unique and ever-changing needs. From a single pane of glass, customers can manage their on-prem workloads like virtual machines, containers, mission-critical legacy workloads, and SaaS applications like Office 365 and Salesforce. In fact, approximately 50% of our SaaS customers also use a Commvault software product. Faced with the relentless threat of ransomware attacks, more and more customers are mitigating risk by replacing their multiple point products with Commvault's integrated software and fast solution for air-gapped ransomware protection. Within months of acquiring Trapex, a solution for advanced threat deception, we reimagined the product and introduced it as ThreatWise with end-to-end proactive and responsive capabilities to further strengthen our customers' ransomware protection. The product is currently available in early access via Metallic. Our software and SaaS offerings continue to garner industry accolades and strong ratings for cyber resiliency, governance, and Kubernetes support. In fact, GigaOM recently named us as a frontrunner for Kubernetes and an outperformer for hybrid cloud in its latest radar reports. It is our continuous innovation that solidifies our position as an industry leader, and it is our robust partner ecosystem that enables us to reach more customers globally. In late June, we jointly announced a strategic partnership with Oracle to offer Metallic globally on Oracle Cloud Infrastructure, OCI. With this partnership, Commvault became the first enterprise backup and recovery SaaS provider in the Oracle ISP accelerator program. This will give Oracle customers the performance, security, and trust they need to accelerate their data journey to OCI while leveraging Metallic to protect their most mission-critical workloads on-premises and in the cloud. We expect this partnership to open the door to Oracle's 400,000-plus global customers. By adding native OCI integration and support, we now have industry-leading capability across all hyperscalers. With these partners, we're meeting customers where they are with our portfolio of cloud data management solutions. And we are confident this will enable us to further accelerate our growth. I will turn the call over to Gary.

Thanks, Sanjay, and good morning, everyone. In my first earnings call as CFO, I'm happy to share that we are off to a solid start to the year after delivering record fiscal 22 performance. I will start with a quick recap of the quarter with growth rates on a year-over-year basis, unless otherwise stated. We beat all of our guided metrics for Q1, led by total revenue, which grew 8% to approximately $198 million. On a constant currency basis, total revenue increased 13%. Software and products revenue was $92 million, increasing 13% as reported and growth accelerating to 17% on a constant currency basis. From a geographic perspective, both our Americas and international regions delivered strong Q1 software and products revenue growth. Our Americas region increased 15% driven by large deals as customers spent on IT transformation projects with data management as a critical element. Our international region, which includes both EMEA and APJ, increased 8%, also driven by strength in larger enterprise transactions. On a constant currency basis, international software and products revenue hit 20% growth. On a consolidated view, the revenue from software transactions over 100,000 increased 24% and represented 75% of software revenue. Average deal size also increased 24% to approximately 379,000. We closed multiple seven-figure deals in the quarter across a variety of industry verticals. Subscription software revenue increased 51% to approximately $75 million. Subscription license sales represented 81% of total software revenue, which is an all-time high and compares to just 60% of total software revenue a year ago. Our progress toward a subscription-led software business has given us more predictability and resilience to our business model. Now moving to ARR. Our total ARR increased 12%. to $595 million, or 16% growth in constant currency. ARR growth continues to be driven by Metallic and new software subscription business. The combination of subscription and Metallic ARR grew 46% to $378 million and now represents 64% of total ARR, which compares to 59% of total ARR last quarter and only 49% in Q1 of the prior year. Through Q1 fiscal 23, we are exceeding our January 2021 investor day targets for 10% compounded ARR growth, which is a meaningful indicator of our future growth potential. Total recurring revenue, which includes subscription software, maintenance support services, and SaaS, grew 20% to $171 million, or 25% growth on a constant currency basis. Recurring revenue represented 86% of total revenue for the quarter, up from 78% a year ago. Now I'll discuss expenses and profitability. We reported first quarter gross margins of 83.6%, which compares to 85% in the prior quarter, and reflects the modest shift in our gross margin profile with the success of our accelerating SaaS business. Total operating expenses were $123 million, an increase of 6% versus Q1 of the prior year, and a decrease of 3% sequentially. During the first quarter, we prudently managed our expenses and increased our productivity with our total company headcount roughly flat quarter over quarter. We are proud of our track record of responsible growth, which is core to our management philosophy. Non-GAAP EBIT was $41 million, an EBIT margin of 20.5%. In Q1, we repurchased approximately 310,000 shares of our common stock for $19 million. We ended the quarter with no debt and approximately $259 million in cash on the balance sheet. of which approximately two-thirds sits overseas. Now, I'll discuss our financial outlook for Q2 fiscal 23. We expect Q2 software revenue to be in the range of 80 to 84 million, and total revenue to be in the range of 184 to 188 million. As a reminder, in recent fiscal years, Q2 is our low point for software revenue. On a constant currency basis, the midpoint of our software revenue guidance would be up 12%, and total revenue would be up 8%. On the expense side, we expect Q2 consolidated gross margins to be flat sequentially at approximately 83%, which includes the impact from our rapidly growing SaaS business. We believe that at current revenue levels, we are nearing the low point for consolidated gross margins, and we expect ongoing improvement as our SaaS business scales. We are closely managing expenses, balancing profitability while investing in Metallics growth initiatives. We expect Q2 operating expenses to be roughly flat sequentially. At the midpoint of our revenue guidance, EBIT margins will approach 17%. Our projected share count for Q2 is approximately 46 million shares. Our transition to a sustainable and profitable recurring revenue model is well underway. Our team is focused on execution and we're committed to driving responsible growth in the years ahead. I will now turn the call back to Sanjay for his closing remarks. Sanjay.

Thank you, Gary. Economic uncertainty is top of mind for you as investors. as well as for our customers, partners, and us as a management team. There are two important reasons that I'm confident we have a solid foundation and precedent to manage through this. First, we've been through this before. Commvault has been in business for 26 years, and we have survived and thrived throughout many different economic cycles. We're in a great position as a company. We're profitable, generate significant free cash flow, and have no debt on our balance sheet. Protecting data is not a luxury, especially in these times. Customers and prospects need to continue focusing on best-in-class data management solutions. Just like the early days of the pandemic, protecting data and reducing costs of inefficient legacy endpoint solutions are top of mind for decision makers. Against that backdrop, our team is focused on what we can control, our innovation and execution, to seize the opportunity ahead and drive responsible growth as the world's leading cloud data management company. but that will open up the questions.

Certainly. As a reminder, to ask a question, you will need to press star 11 on your telephone. Please stand by while we compile the Q&A roster. And our first question comes from Aaron Rakers of Wells Fargo. Your line is open.

Yeah, thanks for taking the questions. I guess I'll just start on you know, just the macro concerns, you know, it looks like your guidance is a little bit below the street expectations. So I'm curious of what you've seen from a demand shaping perspective through the course of this last quarter and how much conservatism are you kind of, you know, any way to think about how much you're baking into that current quarter guide given, you know, given the macro. Have you seen any deal slippage, any kind of change in the deal pipeline, you know, et cetera?

Yeah, and it's Sanjay. How are you? Great. Cool. So I'd like to start by saying that, you know, right now we think data protection continues to be mission critical and we're in a healthy industry. What we control is the execution and we're doing well. We just came off a record Q1. Our guidance reflects what we're seeing, you know, what we're seeing in the current macroeconomic environment. And if you add to that that Q2 is seasonally a low point for the year, You know, you're sort of seeing that in the range we gave you. Little more color. America is strong, but we're closely monitoring Europe. Okay, and FX continues to be a headwind for us, just like any company with a large international presence. And, you know, we can't control that. So on a constant currency basis, we're guiding Q2 to about 12% software growth and 8% total revenue growth. And we think that's pretty good. Gary, anything you want to add? No, thanks, Anjane.

Aaron, good to hear from you. A couple quick things is in Q1, we executed very strongly in enterprise. If you look at the enterprise transactions, it was 75% of our revenue and up 24%. Pipelines going into Q2 are once again at those levels. So we're going to work on controlling the execution. We've adjusted a little bit for FX in the current FX with the euro and the pound now year over year down almost 15%. So we know we have in front of us with the pipeline and we're going to control the execution against that.

Yep. Yep. Great, great points. Um, can you talk a little bit about metallic? I mean, when, when I look at your other services growth, I think it was up 97% year over year in total. Uh, I think you saw north of a hundred percent growth in, in the Americas, uh, in this last quarter. Is that to be taken as largely or entirely, you know, growth being driven by Metallic? Just any kind of incremental color you can add on that.

Aaron, I'll start a little bit on the financial piece, and then Sanjay can maybe give you some business perspective on Metallic. The growth in the other services is absolutely driven by Metallic. And as you know, last quarter, we disclosed that milestone of $50 million of ARR, and we continue to build off of that. In Q1 and even as we look into Q2 and the rest of the fiscal year, our growth in the network services will reflect that acceleration of Metallic for sure.

And I'll just add a little color on picking up where we left off last quarter on Metallic in general. So our strategy is about the power band, giving customers the best software combined with the best SaaS. And really, this is something that we keep an eye on. Over 50, roughly 50% of our customers that are Metallic customers also have another Commvault software product. Okay, and about 30% of Metallic customers also have another Metallic service, so they're more than one Metallic service. And as we designed it, Metallic continues to be a customer acquisition engine for us. You know, so we think it's, it continues to, it had a great quarter in Q1, and it continues to, contribute meaningfully, if you would, to both customer growth, revenue, and ARR.

Great, guys. Thank you.

One moment. Our next question.

And our next question comes from Eric Martinuzzi of Lake Street Capital Markets. Your line's open.

Yeah, I wanted to dive into the services line a little bit. I guess the implied guide there at $104 million, given the growth of Metallic, I was expecting that to be kind of up sequentially. What's behind that guide there on the services?

Hey, Eric, this is Gary. I'll jump in. Metallic deceleration we talked about. There's a couple more things in play in that other services revenue. First is current FX rates. So also reflecting what we see from the current FX rates. As about 40% to 50% of our business is denominated in both euros and pounds. Outside of FX, there's a few more things. One is, if you think about our professional services business, we've brought pretty massive automation to that business. and scale, especially with some of our cloud-enabled services, as well as investing in our channel ecosystem. So that business is somewhat right-sized for all the automation initiatives we've driven. And then the third piece is with sitting in the maintenance support perspective piece of the business. And that's roughly flat. That's our historical perpetual maintenance base. And that business, which is a great cash cow for us, is roughly flat to down. as we also look to transition our install base programmatically to our new subscription offerings to make it even a more stickier and repeatable business model. And we had a great quarter with that, too. Absolutely.

Okay. So did you – I mean, you gave three explanations there. Should I assume they're kind of stack-ranked on the impact of the FX?

Absolutely. FX is actually the biggest driver, and then the other two are about equal.

Gotcha. And then as far as the outlook, are you seeing anything as part of the outlook anticipating any change in your kind of dependency on your hardware partners and their supply chain issues?

Eric, this is Gary again. From supply chain and hardware, for us, it's pretty much behind us. We manage our business and make sure that our pipeline coverage ratios can contemplate it, including how we run the business and how we inspect the business. And even as we think about Metallic, it's actually an acceleration for us, as when customers have concerns over supply chain, the offerings we can do with hybrid cloud becomes a great momentum for our Metallic business.

Got you. Thanks for taking my questions.

And our next question will come from Jason Ader of William Blair. Your line is open.

Yeah, thank you. Hi, guys. I wanted to ask about the competitive landscape sort of across, let's call it the three major market segments, the high end where, you know, I know you run up against a lot of incumbents, the mid-range where I know there's a bunch of new players, and then at the low end seems to be kind of defaulting to managed service providers. So maybe just talk about each of those three segments, and maybe you segment the market differently than I did, but I would love to kind of just get a general update on competitive landscape.

Sure, sure. It's Sanjay. So, Jason, the high-end, the enterprise, as Gary shared, we had a record number of deals last quarter. We see continued traction in the enterprise. That's why we've always been strong. Our products are very, you know, seen as extremely valuable and fit the purpose for that market segment. And we're seeing a lot of, you know, we're seeing a lot more power of AMP solutions going and customers sort of, you know, touching SAS alongside more mainstream data center on-premise solutions. So that market continues to be strong. We're taking share from incumbents every day. So that continues to be, you know, to be strong for us. The mid-market is something that, you know, we've done well in different parts of the world. You know, like Europe, we do very well with the mid-market. Parts of the U.S., we do great with the mid-market, depending on the vertical. And our solutions, the Power of Ant solution is really working well there. There, it's almost built for that marketplace in the sense that customers start with a workload or two on-premise, ease their way into Office 365 or VMs in the cloud, and then suddenly they're using both. So we're seeing a lot of that. now in the mid-market. That's really beginning to get traction in the mid-market. And in the low end, where we weren't historically strong, we're seeing a lot of customer acquisitions through Metallic. Metallic is how we're really winning in that space. MSPs are like the relationship that MSPs, the partnerships that we've announced, are all causing us to get a lot of good traction in a market where we were not historically strong. So that's actually one where we're doing very well. So across the board, we're seeing good traction. The strategy is working. It's different in different segments as to how they absorb the solution. And overall, our market share is up. So we think we're doing great.

Excellent. And then just a quick follow-up on the macro commentary. When you talk about watching Europe, it sounds like North America hasn't changed much, but are you getting a sense from customers in Europe that they might potentially hit the pause button on certain things? Or what specifically are you hearing from customers in your conversations that maybe is giving you a little bit more caution there? Or is it just kind of generic, let's be more prudent because of you know, all of the headlines that we see in Europe?

I think what we, you know, again, what we saw were changes in buying behavior towards the latter part of last quarter. So we're taking a conservative viewpoint going into this quarter. We saw more scrutiny around budgets, for sure, slower purchasing decisions, which led to, you know, in some cases, longer purchase cycles, sales cycles, time to close. So The guidance we've given incorporates that because we're seeing that the U.S. continues to be, you know, continues to be strong. And we have, you know, outside of what I just said, you know, Europe continues to be a strong market for us. Just we're keeping an eye on it.

And one thing I'll add, too, is what we're seeing, though, is Sanjay mentioned some of that scrutiny. We're not seeing pipelines go up. Actually, pipelines continue to be very strong. For us, it's just making sure that we're being prudent around close rates.

Gotcha. And the European customers, are you feeling like they need a little bit of time here? Or what is your sense on the shape of close rates for this coming quarter?

So just to give you – we're not breaking out Europe. We're saying international, which includes Asia. Software revenue last quarter was up 15% and in constant currency up 20%, right? And total revenue roughly 16% up in constant currency. So Europe had a good quarter. We're just saying towards the end of last quarter, we saw a little bit of a slowdown in decision-making, not the pipeline as Gary indicated. So we're – You know, we're just taking a more conservative approach on how we're thinking through the numbers. But, you know, the business is strong. Data protection is top of mind. We're part of a lot of high-end POCs. So you're landing new customers. So, you know, we're saying that we're just taking a conservative viewpoint on what we don't control.

But it sounds like you didn't miss your expectations in Europe in Q1, though.

No, they were very strong. We hit 20% software growth year over year on a constant currency basis in Q1 internationally.

Okay, great. Thank you.

Thank you. And I am showing no further questions. This concludes today's call. Thank you for your participation. You may now disconnect.

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