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spk01: Good day and welcome to Pegasystem's fourth quarter and four-year 2020 earnings results conference call. Today's conference has been recorded. And now at this time, I'd like to turn the conference over to Mr. Ken Stilwell, Chief Financial Officer. Please go ahead, sir.
spk03: Thank you. Good evening, ladies and gentlemen, and welcome to Pegasystem's fourth quarter 2020 earnings call. Before we begin, I'd like to read our safe harbor statement. Certain statements contained in this presentation may be construed as forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. The words expects, anticipates, intends, plans, believes, will, could, should, estimates, may, targets, strategies, projects, forecasts, guidance, likely, and usually are or variations of such words or other similar expressions identify forward-looking statements, which speak only as of the date the statement was made and are based on current expectations and assumptions. Because such statements deal with future events, they are subject to various risks and uncertainties. Actual results for fiscal year 2021 and beyond could differ materially from the company's current expectations. Factors that could cause the company's results to differ materially from those expressed in the forward-looking statements are contained in the company's press release announcing its two-fourth and full-year 2020 earnings and in the company's filings with the Securities and Exchange Commission, including its annual report on Form 10-K for the year ended 12-31-2020 and other recent filings with the SEC. Investors are cautioned not to place undue reliance on such forward-looking statements, and there are no assurances that the matters contained in such statements will be achieved. Although subsequent events may cause our view to change, except as required by applicable law, we do not undertake and specifically disclaim any obligation to publicly update or revise these forward-looking statements, whether as the result of new information, future events, or otherwise. And with this, I will turn the call over to Alan Treffler, founder and CEO of Pegasystems.
spk02: Thank you, Ken. You know, the highlights are that we feel good about what we accomplished and where we landed in 2020. We adapted well to an extraordinarily difficult situation, bringing on new ways of working with each other, our clients, and our partners. We introduced new solutions and enhanced our industry-leading low-code software to help our clients manage their short-term challenges while building for long-term success. And we made substantial progress in our transition to a recurring revenue model. You can see clear signs of this progress in our full-year results. we completed the move of our Pegacloud clients onto our next-generation cloud platform, setting us up for long-term margin improvements. The accelerated Pegacloud growth is demonstrated by Pegacloud annual contract value of 57% year-over-year and Pegacloud backlog of 40% year-over-year. Since we really began emphasizing Pegacloud three years ago, we've seen an explosion of Pegacloud low-code apps, with a compound annual growth rate over those three years of 85%. And we also grew total annual contract value by 21%. We delivered record revenue that crossed the $1 billion milestone and grew backlog to more than $1 billion for the first time. We also invested in key sales and marketing initiatives to start to improve our brand awareness. and attracted new talent from leading tech companies, including our pre-assist rivals. We made significant enhancements to our partner ecosystem strategy, an important long-term accelerator of revenue and margin growth. And we continue to enhance our solutions in one-to-one customer engagement, customer service, and intelligent automation with innovative capabilities, improving functionality, productivity, and speed to value. We drove deeper into long-term clients and added exciting logos to our growing list. We maintained technology leadership in key areas that our clients care about and continue to get recognition by influential industry analysts in more than a dozen reports covering CRM, robotic process automation, low code, customer engagement, digital process automation, decisioning, and real-time interaction management. We stayed true to our values, culture, and commitment to keeping the well-being of our staff, our clients, and the extended public community in our hearts and minds through expanded philanthropy efforts and increased focus on inclusion and diversity. And we did all of this while improving markets. Finally, just a couple of fun notes. We'll be ringing the NASDAQ opening bell on Monday the 22nd to celebrate our 1 billion revenue milestone. And the Layer Kicks, a band made up of Kega staff, recently won the top award in a battle of the bands sponsored by one of our key CRM influencers. It's nice to know we can win in the boardroom against the likes of Salesforce, Oracle, SAP, and Zoho. and winning the bandwagon against them, too. Now, in terms of the market dynamics, digital transformation has never been more central to the way our clients are thinking. Fundamentally, their continued prosperity, and in some cases, their continued existence. The last year has made it abundantly clear that organizations need to accelerate their digital transformation initiatives, not just to survive, but to really compete and thrive in this wildly changing world. And we feel we've never been better positioned to support this need. Our solutions help clients crush business complexity, enabling better decision-making, saving time, and helping them get work done. Our software is exceptionally powerful and adaptable, with a scalable and unique center-out business architecture that puts outcomes and customers at the core. And our prescriptive approach to design thinking brings staff across the organization together to together design and deploy innovative solutions in weeks or days, leveraging our low-cost platform. And our recently launched trademark PEGA process fabric leaves together business processes, case management, and workflows to streamline the customer experience, and improve employee productivity across the enterprise. As I mentioned, we continue to enhance our solutions to meet our clients' long and short-term needs. In the beginning of the pandemic, we quickly rolled out a set of industry-focused solutions, specifically built to help manage some of our customers' most pressing needs, like managing surges in unemployment claims or our free COVID-19 tracking app. In one-to-one customer engagement, we introduced the ethical bias check to help eliminate biases in AI so we can drive customer engagement knowing it's going to be shared. And launching the value finder to help customers deal with and serve underserved segments with meaningful and empathetic offers. In customer service, we launched the SAS Unified Messaging Edition to help agents better handle increasing volumes of service inquiries. And just a few weeks ago, we announced the acquisition of Curious, a developer of powerful AI speech analytics that will help customer service agents in real time by analyzing service calls and recommending next best actions and the right proactive and preemptive customer service. In intelligent automation, we launched X-Ray Vision, the industry's first self-healing robotic process automation. And we introduced the industry's first RPA auto-balancing feature, which uses AI to help clients reduce robotic process automation costs. We made it easier for clients to make progress on high-impact digital transformation initiatives. by bringing a new low-code Pega Express methodology and built it directly into the platform with a new set of ways for customers to get started fast and prove outcomes. And to help clients and partners gain an advanced Pega software skill faster, we introduced our new Pega Academy with mission-based learning and enhancing the Pega community to make it easier for clients, partners, and Pega to share best practices. We continue to work on these enhancements and look forward to sharing some important capabilities with you at PegaWorld Inspire in May. Now, in terms of client and business highlights, our new business continues to be strongest in our traditional areas such as financial services, government, telecoms, healthcare, insurance, industries, less hard hit by the pandemic, where thankfully we have had strong critical mass. In 2020, we had a good mix of new business extensions in existing clients like Anthem, British Telecom, CIBC, Citigroup, National Australia Bank, and at government agencies around the world. We also brought in some exciting new logos like Emirates National Bank, Partners Health, and Cicada Pharmaceuticals. and continue to see more partner-sourced deals, an opportunity we were focused on in 2021 and beyond. Our clients continue to leverage Pega to cut through the complexity of their business systems so they can actually make better decisions and get work done. And, you know, what's interesting in the government space is on the heels of our successful census project, we are quickly becoming a preferred low-code solution for government, as demonstrated by our recent Internal Revenue Service win and continued success in this market. We've been able to stand up new systems quickly to meet immediate needs and help organizations think deeply about their future. And there's nothing more rewarding for us than clients who are willing to tell their stories publicly. Pegaworld Inspire. will again this year be held as a two-and-a-half-hour interactive virtual event. And it's just around the corner on May 4th. We already have an impressive list of clients lined up to tell their stories. For example, five years and 70-plus applications into their regular journey Scotiabank has built a large catalog of reusable tech capabilities. They're going to talk about how they're gaining leverage from these assets to accelerate the global rollout and the formation of an enterprise business center of excellence to maximize value through standardization and reuse. Vodafone UK will talk about driving transformation by automating business processes, delivering powerful intelligent automation at scale across its businesses. Leveraging Pegas, Agile, low-code delivery capabilities, they are building and updating applications with unprecedented speed and have a new automation platform that enables multiple use cases, radically simplifies operations, and reduces costs. And as an example of work so incredibly needed this past year is in the program we supported for StepChange debt charity in the UK, where more than 5.6 million people who've been negatively impacted by the pandemic with an accumulated 10.3 billion in debt have been helped by being able to apply the Pega technology. StepChange will announce how they use Pega who launched their COVID payment plan, a new online service built in a matter of weeks to provide short-term assistance for up to a year for those who qualify. We're really proud that our technology is being used to help transform and improve the lives of millions of people who've been hurt by the pandemic, and especially proud that these organizations and others are willing to step forward and speak publicly. So in summary, We know the challenges of the pandemic will be with us for some time, and it's going to take a while for the world to sort to its impact. But we've adjusted well over the last year to new ways of working and client requirements and feel that we delivered strong performances nonetheless and feel we are well positioned to continue to adapt as required. I will tell you that the need for digital transformation has never been greater than And we're in a better position than ever to respond to that need in ways that are truly future-looking. And I think we're in a terrific position to help our clients respond to both the short-term and the long-term problems that they face in ways that we believe that you do. We remain inspired and are just amazed at the continued support and commitment of our staff, our clients, and our partners, and are optimistic about this year in our long-term growth agenda. To provide some more color, let me turn this over to Appendix Chief Financial Officer, Ken Stillow. Ken?
spk03: Thanks, Alan. I'm going to start by recognizing a milestone, but also one that I'm not going to dwell on too much either. By our count, there are more than 1,600 publicly traded software companies worldwide, and less than 4% of those firms exceed $1 billion in revenue. With our 2020 four-year results, Pega joins this group with total revenue of a little more than $1 billion. We view this milestone as interesting, but more of a mile marker. We hope to far surpass in some type of endpoint. However, there are some inherent benefits of scale on our journey to be a Rule of 40 firm. First, this is operating leverage. You can see Pega realizing the benefits of scale in our expanding Pega Cloud gross margin, increasing from 51% in 2019, 63% in 2020. As we grow in scale, we can clearly perform activities more efficiently, which we expect to positively contribute to our goal of achieving the Rule 40 as we exit our cloud transition. Things like virtualization and automation can be leveraged more effectively at our increased size. Another inherent benefit of scale is increased brand awareness. We anticipate investing in some incremental initiatives to ensure the market is aware of how Peta helps our clients advance their digital transformation initiatives. This increased brand awareness will help us reduce sales cycles, decrease our customer acquisition costs, and improve sales efficiency, all big potential value levers for Pega. Third, our increased scale strengthens our ability to attract world-class talent. A great example is the addition of Hayden Stafford to our team in June of 2020 as president of Global Client Engagement. We expect that increasing sales productivity will be one of our most critical value drivers. Our ongoing journey to increase the scale of our business is not the only multi-year transformation underway at Pega. We're also more than midway through the multi-year cloud transition. I believe it's important to share both what we've accomplished and where we have more work to do. A transition to recurring revenue for a software company normally takes about five years, as I've mentioned previously, and follows three major phases. First, the company moves from selling perpetual licenses to selling subscription licenses. When we started the cloud transition in late 2017, for example, over 60% of our new client commitments were subscription. We changed our sales compensation plan to focus on annual contract value instead of total contract value in 2018, and our clients, prospects, and sales teams jumped on board. By the end of 2018, about 85% of our new client commitments were recurring contracts. That increased significantly. 95% in 2020. So we've done a solid job of completing the first phase. The revenue growth transition is next. During the second phase, revenue growth rates decline, especially in the first few years. This is because the business is moving away from selling perpetual licenses where the revenue is recognized up front to selling cloud arrangements where much of the revenue is recognized over time. For example, our revenue growth rate dropped from the mid teens before we started the cloud transition to the low single digits for a few years. Once the midpoint of the transition is passed, the revenue growth rate starts to improve. For example, our total revenue growth rate grew to 12% in 2020. And that growth was even in the face of significant reduction in perpetual license revenue from 2019 compared to 2020. In the final two years, of the revenue growth transition, growth accelerates, approaching the growth rate in annual contract value at the end of the transition. That's why we expect revenue growth and ACV growth will both exceed 20% in the final years of the cloud transition. A very important point to highlight is that our subscription revenue grew by 26% in 2020. When I say subscription revenue, I mean the total of all client and PegaCloud revenues. The cash flow transition comes last. During this final phase, billings and cash collections improve. In other words, a company has completed the transition of moving from a company that collected most of its cash billings from new client commitments up front to a business that builds and collects its cash billings from clients consistently over time. We expect our free cash flow to accelerate as we finish the call transition in late 2022 to early 2023. Given that we are still in the middle innings of this cloud transition, growth in annual contract value remains the most important operational metric that reflects the underlying growth of our business. Many of our other operational metrics don't properly reflect the underlying strength of the business when you are partway through a transition like we have embarked on. In 2020, total ACV grew by 21% year-over-year, reaching $835 million. Currency was about a 1% to 2% tailwind to this growth in 2020. Total ACV is the sum of recurring PegaCloud and client cloud commitments, representing the annualized recurring spend from our clients for cloud term license and maintenance arrangements. It's notable that perpetual license decreased from about 10% of new client commitments in 2019 to about 5% of new client commitments in 2020. While this dynamic has a dampening impact on near-term revenue results in 2020, it sets us up for even greater recurring revenue in the future. It's remarkable to see that Pega Cloud ACD growth accelerated in 2020, increasing 57% from $169 million in 2019 to $267 million in 2020. as cloud demand from our customers continue to grow. The second most important operational metric during the cloud transition is remaining performance obligation, or backlog. Backlog represents the total client commitments Pegas booked that the company has not taken into revenue yet. In 2020, total RPO grew by 28%, or an impressive $236 million year-over-year, growing from $836 million to 1.07 billion. This is the first time in our company history that backlog has exceeded $1 billion. It's also great to see PegaCloud backlog increase by over 40% in the same period. Total current backlog, which is the backlog to be recognized within 12 months, increased by 24% from 493 million at December 31, 2019, to 613 million as of December 31 of 2020. This is the short-term backlog, as I mentioned, that will come into revenue in the next fiscal year, which supports our expectations for total revenue growth of over 20% in 2021. Turning to revenue, Pega Cloud revenue grew by 56%, increasing from $134 million in 2019 to $208 million in 2020. And as I mentioned earlier, subscription revenue, which includes paying a cloud, maintenance, and term license revenue, jumped an impressive 26% in the same period. Total annual revenue increased by 12%, going from $911 million in 2019 to $1.02 billion in 2020. To really understand the financials of the business during the cloud transition, it's important to not just look at any one measure. Instead, you need to look at ACV, revenue, and backlog. For example, if ACV goes up, the backlog goes down. Well, we haven't done as good a job as feeding ourselves for the future. And this is further compounded by the cloud transition, which has a deferral effect on reported revenue, which is why we're looking so much to ACV growth to measure our business momentum. Taken together, our financial results in 2020 put us on the right track to meet or exceed our long-term targets that were set in 2017, $1.3 billion in total ACV and $1.6 billion in total revenue by the end of 2022. Even though we're on target with our plan, we aspire to grow faster. That's why we've made major investments in selling capacity, partner support, and customer success. Turning to our fiscal year 2021 guidance, Assuming that PegaCloud continues to be a little bit more than half of all new client commitments in 2021, we expect total revenue of $1.25 billion, an increase of 23% year over year. As typical, we expect our bookings to be skewed towards the back end of 2021, which means that our revenue will be skewed more towards the back end of 2021 than as usually is the case in enterprise software. Moving to non-GAAP EPS, we project 2021 four-year non-GAAP EPS of 25 cents. We expect non-GAAP EPS to improve from 2020 because we anticipate that our revenue will grow faster than our expenses. We also anticipate non-GAAP EPS will improve due to increases in PegaCloud gross margin, which is becoming a bigger impact on the business. In conclusion, like many companies, We are happy to welcome it in 2021. Our full year results are very impressive given all the market disruption from COVID-19. This is the first year in our history that revenue, backlog, and cash collections each exceeded $1 billion. And we're optimistic that 2021 will show continued growth in our key metrics. Before opening the call for questions, I'd like to invite each of you to our annual customer conference, Pega World Inspire, on Tuesday, May 4th. The event will be virtual again this year, and you can register at www.pega.com slash pegaworld. We plan to hold our annual investor session shortly after on Thursday, June 3rd. We will release additional information about the investor session during our Q1 2021 earnings call in the spring. And with that, operator, please open the call to questions.
spk01: Thank you. If you'd like to ask a question, please signal by pressing star 1 on your telephone keypad. And if you're using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. We do ask that you please limit yourself to one question and one follow-up before re-entering the queue. Once again, that is star 1 if you'd like to ask a question. We'll take our first question from Steve Koenig with SMBC and EcoSecurities. Please go ahead.
spk06: Hey, great. Thanks, guys, for taking my question. The first question is going to be for Ken here. Ken, can you give us some color on cloud mix in Q4 and conversion to cloud? And then maybe just for our benefit, tie back the Q4 top line results to your bridging, to your prior commentary about what happens as your cloud mix changes. So I'd like to tie it back to kind of your initial guidance for the year and then how your view of the year evolved as it went on. And then lastly on that, maybe you help us with what are some of the variables that could impact fiscal 21. I'm maybe a little surprised that you didn't as a baseline, you know, assume your cloud mix would be, you know, more significantly higher than 50%. So thanks for that. And then I've got one quick follow-up.
spk03: Sure, Steve. So I'll hit on your questions, and hopefully I catch them all. So the first point that I think is important is to think about the mix for the year, which the mix for the last three years, take a cloud, has been about 50% of our new client commitments. In Q4s of the year, that number tends to skew a little bit lower than 50% in Q4s, And the reason for that, and this is speculation on my part, but the reason for that is that clients tend to use year-end budget money, which may have a slight skew to more client cloud arrangements versus SaaS arrangements. That has been the trend. It hasn't been a significant skew, but it's typically a little bit less than PegaCloud and Q4, and the other three quarters typically end up being a little bit more than PegaCloud. Okay, percentage of bookings. Now, in terms of 2021, We believe there is an opportunity for PegaCloud to be a much bigger part of our business, but we also feel that because we've had such a pattern of so many clients really enjoying the PegaCloud choice messaging and their flexibility in how they deploy, that we really don't have a crystal ball to suggest that that number would be noticeably higher than what we've seen for the last few years. So that's kind of on the PegaCloud percentage. I want to talk about Q4 and 2020. The biggest gap that we saw in 2020 was the movement away from perpetual licenses into either PegaCloud or client cloud recurring arrangements. You may think, well, if it's term or if it's perpetual, wouldn't it be the same amount of revenue? It's not. The same amount of revenue does not come in the current period when you book an equivalent term or perpetual deal. Perpetual does have more revenue, and you can see the big drop in perpetual revenue in 2020. So that was our biggest factor of when we originally modeled, we thought that pickup, excuse me, perpetual would still stay kind of something just south of 10%, but not go as low as it actually did in 2020. So that's probably the biggest lever point in terms of what changed in 2020 and in Q4. So that's kind of the biggest factor that I would say is important. you know, positive. I mean, we're super happy that that happened. Don't get me wrong. But that was a variant from the original model that we had built up for 2020.
spk06: Got it. Okay. Thanks for that, Ken. And this one is probably for Alan here. Project Phoenix. Maybe a quick update there and kind of remind us what functionalities or use cases do you think are going to benefit most immediately from as you innovate, you know, around your platform and adopt microservices, et cetera? Where are you taking that in the short term, Alan?
spk02: Well, you know, we have a really interesting agenda in that front. You know, you see some of it pretty directly in the improvements in cloud margin. And obviously the client cloud and, you know, we love Pega Cloud. I'd rather do a Pega Cloud than a client cloud, but we're in the client cloud business too. We believe in cloud choice. I think this helps all of our customers in terms of their ability to save money, our ability to save money, and our ability to innovate faster. We've also been able to improve our own cycle of time and development for the things that have been broken out as microservices. And I would tell you it's working beautifully in that front. And a lot of what we're doing that we've talked about that you'll see in Phoenix, you know, based on the release, late last year and where we're going here, is being able to allow our clients many new options and ability to, in effect, inject Pega into their existing front ends because of our ability to incorporate, you know, React-based technology as part of our digital experience API, which is a big part of moving to this API-centric model. So we're seeing internal advances We're seeing customers who years ago used to think that architecture was big and, you know, perhaps heavy, saying that we really like what we're doing architecturally, whereas architects sometimes would be pretty critical. Anybody who looks at this architecture is responding positively to both what we've accomplished and where we're going to, you know, continue to go over the next 48 months, 24 months, I mean. So I think it's gotten us a lot of positive play with our customers.
spk01: Great.
spk06: Thanks a lot, Alan. Thanks, Ken.
spk01: Thank you. And then we'll move on to our next question from Jack Andrews with Needham.
spk03: Well, good afternoon. Thanks for taking my question. I want to see if you could provide some more commentary in terms of just how your partner practices are progressing in terms of just any commentary you can provide in terms of just new logo wins that are being generated from partners or how should we expect that to ramp over time?
spk02: So in the second half of the year, we, under the auspices of Hayden Stafford, and you may remember Hayden built a business at Microsoft in the CRM space to $3.5 billion quite rapidly, starting well under a billion dollars, and also has the, I think, strong partner experience from Salesforce in his background. He really has embraced a major push. towards partners and getting significant mutual commitments with partners that we're going to really go to market together. So as Ken talked about, we're investing in sales and marketing, and a big part of it is making sure that the partner ecosystem is front and center in how we go to market. I can tell you that the number of partner involved and partner-sourced deals is materially up in the pipeline. And it's pretty exciting to see, really, that big acceleration only happened or only started in the second half of last year.
spk04: That's great. Thanks for the call, Rhonda.
spk03: And just as a follow-up, I want to ask you about if you could flesh out some of your comments on the government opportunity in particular. You mentioned becoming potentially a standard for certain use cases. Any thoughts in terms of how under a new administration that might provide opportunities for you more broadly?
spk02: Well, I think there are opportunities under the previous administration, and we don't see them abating under the current one. And, you know, the reality is that there's a tremendous amount in government that needs to be made more efficient, that needs to be made more easy to change, and need to get rid of a lot of the paper and the waste. Now, the IRS has been public about how they have over 60 base management systems. And we won head-to-head competition against numerous, numerous other providers to, you know, be selected and publicly available by the IRS. And, you know, that's work that's going to go on over years and has already led to its initial production years. So I think we've got a terrific government story. And I'll tell you that Hayden has, in effect, said we should double down on our government business. And that, by the way, is another place where partners obviously are key. I'll also tell you it's exciting that our government business, not just in the U.S., is going so well. But if I take a look at Australia, at the U.K., at the German government, we're really seeing a nice push there and a nice community of government users building up.
spk03: I'll make one additional comment on partners. We did our first ever partner sales kickoff this year where we actually engaged in a working kind of session with our partners, and we've had numerous partners of size – I won't mention the exact names – that are really committing to sign up for very large commitments to drive mutual business between Pega and their practices. That didn't happen prior to 2021, just in the last month or so. So that's an example of another big change in our engagement with partners.
spk04: That's really helpful. Thanks a lot for taking the questions.
spk01: Thank you. And I'll take our next question from Mark Murphy with J.P. Morgan.
spk04: Oh, hey, thank you. This is Bing Jalim sitting in for Mark. Thanks for taking our questions. Alan, quick question on the process fabric product that you were talking about in the conference last year. Any updates on that, how that has been doing, or what is the initial feedback from customers? And then I'm curious to hear how are you thinking about this hot space that's emerging around process mining and what is BEGA doing around that?
spk02: Sure, I'll touch on both of those. So when we talked about process fabric middle of last year, it was very much to make people understand that when we talk about a center-out architecture, where you really want to think about the work across what might be a very large organization, the thing you want to do is not have some big, massive system hunkering in the middle there, you want to have the illusion of a virtual integrated system where the work can actually live in multiple systems and be processed in multiple systems, including, in some cases, non-Pega systems, which need to be able to be part of that fabric. We've now had our first couple of customers using it quite successfully, and we're continuing to enhance it and grow it under the auspices of And it's enormously exciting. I mean, imagine an organization, just to draw an analogy, think of, you know, in effect having Google tied into all of the work in your company, but done in a way that's safe and secure and managed, and being able to provide access and deliver that work. in a distributed world as if it was all small and intimate. I think it's extremely exciting to build on the Phoenix work that we've been doing, and it's getting a lot of positive reception. And it drives not just the positive fabric system, but it drives the further use of paddock, particularly in – in large and material customers. You know, you asked about process mining. Process mining is one of those things that comes, you know, it's very popular, and sometimes it's not so popular, very popular. It's back to popularity again, and we've been doing some really interesting work as part of our workforce intelligence and robotics initiative that allow us to watch and mine the processes of what people are really doing as opposed to what they tell you that they're doing. And, you know, I think that that's one of those examples of a complementary technology to our core automation. Because what you really want to do is understand what people are doing, but then very possibly not do it in the exact same way. That's the mistake of robotic process automation. done incorrectly, people are kind of screen scraping and emulating keystrokes. We take that, and with the mining work and some of the other work we're doing with workforce intelligence, we're able to pull that in and then really figure out how to drive end-to-end outcomes without having fake people in there. And I will tell you that's a much more sustainable, a much stronger, and a much more resilient way to handle these sorts of things. So we feel good about what we're doing there as well.
spk04: Understood. Thank you for the details. And Ken, one quickly for you. On the ACV growth rate, when I'm looking at 20, 21% around, I think you said one to two points of currency headwinds. If I adjust to that, it seems like it might have dipped below 19. I mean, don't get me wrong, it's still good at that scale. But if I compare it to a year ago, maybe it was 22% and now maybe sub 20. Is there a Can you leave out what is causing that? Have you seen actually more impact from COVID in Q4 or anything to call out?
spk03: Yeah, good question. So, no, there's no impact that we've seen from COVID. I would say positive, quite frankly, positive or negative. It certainly hasn't been a tailwind. I don't believe it's been a headwind either. And I think where the year landed is directionally in line from an ACV growth standpoint to where we thought the year would land. The question really is I think the more important question is when do we expect to see the acceleration in ACV growth beyond kind of the 20-ish percent growth that we've seen now for the last number of years. because we're certainly investing in a market opportunity that, you know, should yield better growth than that. So I think that's kind of more the angle that we're looking at, which is, you know, why and when do we expect the acceleration in our ACV growth? A percentage movement in ACV growth one way or the other is, to be honest with you, not a noticeable change in the longer term. you know, strategy. We also have situations where, and I've mentioned this a little bit before over the years, we also have situations where, you know, ACV moves in and out of a quarter depending on effective dates, and that can easily be a percentage skew one way or the other as well. So I don't focus too much on that number being any real 20, no, 20, 21, 22, you know, even 19, kind of in that range is, to me, kind of our historical number. it's really the focus for us is how do we get that number up, you know, to 25, to 30, something that is beyond where we've seen the growth rate.
spk04: Understood. Thank you.
spk01: Thank you. We'll move on to our next question from Mohit Gogia from Barclays.
spk00: Hey, guys. Thanks for taking my questions as well. So, I don't know, I was just wondering if you can give us sort of like the lay of the land in terms of your automation portfolio, right? So you You acquired an RPA vendor a few years back. Obviously, you have been a pioneer. Your flagship product is low-code, right? So just give us a layoff land as to what competitive landscape have you seen and what do you expect to see in the next few years? I mean, there has been sort of like some vendors talking about this end-to-end automation offering across RPA, process mining, low-code, and I think you briefly touched on that, but those vendors are maybe in the IPO pipeline, so there's going to be more investment noise on that. So just help us understand how you fit into that space and how you fit into the narrative. And then I have a follow-up question for Ken.
spk02: Sure. So, you know, when we think about there's a lot of noise in the market and a bunch of experimentation, and I think there's a tremendous amount of BS in my view here. You know, the whole robotic process automation, somebody does a little math and takes the number of customers that are claimed by some of these vendors and, you know, divides that into the revenue. You see that a lot of what's going on here is a little experimentation and is not game-changing for the customers. But, frankly, there would be a lot more revenue and a lot more consistent growth. So, you know, we think the approach we have, which is to really think about process automation as the core, and then be able to have robotics as a really powerful way to deal with systems that do not yet have APIs is the right way to do it. And we're getting a lot of reinforcement from customers and prospects that our way of thinking, the center-out way of thinking, as opposed to kind of like face-to-the-desktop way of thinking, is the right way to do it. So I think we will be vindicated in that view. And I'm seeing work that makes me more confident, though, You know, it's a competitive landscape and the competitors everywhere. You said you had another question for Ken?
spk00: Yes. Yes, Ken, a really helpful color on that ACV growth adjusted for FX tailwinds. But, I mean, your guidance obviously is strong, right? I mean, you're guiding for 23% revenue growth, which falls in line somewhat with your CRP growth this quarter. But At the same time, I'm assuming that if we also look to your fiscal 22 targets that you reiterated at your analyst day, that there will be an implied acceleration in your CV for fiscal 21, if I look at all those variables, right? And you have discussed drivers for that previously along sales capacity, investments, and productivity. But help us understand, like, which of those drivers do you think will have more of a near-term impact early in fiscal 21 versus maybe, for example, maybe higher penetration in your customer base, maybe more of a long-term thesis, right? So give us an overview of those drivers and which of those you think will already start to show up in fiscal 21.
spk03: Yeah, so the obvious, so the way to think about the investments that we're making, so I'll give you kind of the ones that I think have, you know, I'm going to say more near-term, meaning 2021, and more mid-term. Let's just call that 22 into 23. 21 is going to be driven by the ramping of the sales capacity and those individuals becoming more seasoned on average in 2021 than in 2020 or 2019. You think about something that might be more of an 18-month to 24-month, it's probably some of the investments that we're making in partners, right? Because those things tend to mature, you know, over, you know, they don't typically, you know, they're kind of not a one-quarter kind of turn on those investments. And I think there's another aspect of, that we're thinking about as well. You know, we haven't noticeably – and Steve mentioned it early on, and we actually – I kind of didn't intentionally skirt this part of his question, but I will highlight it now. We are not – we have not to date, nor is it part of our core strategy, to just move all of our client cloud people on to PegaCloud. It happens from time to time as clients want to move, but I do think as – as we get out into 2022 and 23 with Process Fabric, with the evolution of the product, with TegaCloud being our primary go-to-market, with everybody really looking to move to the cloud, there is the potential that TegaCloud will accelerate as a percentage of our business. So those are kind of some things that I don't think, you know, I don't think it's going to happen in Q1 or Q2 of 21, but there certainly is that potential for it to happen in you know, out into the end of 21, end of 22. So that kind of gives you almost like, you know, productivity, you know, more people buying PegaCloud, partners playing a bigger role. Those are kind of the 24-month levers.
spk00: Perfect. Thanks, Chris.
spk01: Thank you. We'll hear next from Chris Berman with Goldman Sachs.
spk03: Okay, thanks very much for taking my question. I think, first off, I just wanted to ask you about the CRM business. You know, looking at us, the broader category that CRM has done very well since the pandemic started.
spk01: I'm just curious how that piece of your business has trended over the last 12 months, in particular the last quarter. I'm going to add a follow-up.
spk02: Yeah, so we're seeing a lot of interest in CRM, particularly in the sort of omni-channel approach to CRM. And as part of some of the investments that we've done, what we've done is we've actually brought some very strong leadership into each of the sort of three sort of general areas of CLM, intelligent automation, and one-to-one engagement. And so we're really doubling down on all of those. Remember, for us, CLM can be everything from the full contact center desktop all the way to the omni-channel approach of having common process flows and common decisioning across mobile, web, service desktop, et cetera. And I think that's actually a much better story than people who are coming in and just trying to sell best. You know, it's easier for customers to get started and, frankly, for them to get benefit faster with the style and the price that we've got. So I think that all falls into CRM and is, you know, important to our business and will be going forward as well.
spk04: Okay, great. Thank you. And then one just modeling question. If I look at the ACV growth exiting the year, I think it's 21%, right?
spk03: And then the revenue guide is 23%. I know that as you get through the transition, I think those growth rates are going to converge more over time, but you're outpacing the ACV growth exiting the year with revenue growth in 2021. So I just wanted to tie that together, if I could. Thanks. Sure. So the revenue growth, so the way this typically works, and we're a little bit skewed by the percentage of business professional services, but I know that kind of does screw with the numbers a little bit. But if you think about ACV growth, I'll just use a number, use 20 to make it round. ACV growth of 20%. When you get to the back end of the cloud transition, you should expect, that your subscription revenue lines that connect to ACV will start to actually outpace your ACV growth because you're catching up. You have almost an easier compare in some cases, which is why you kind of – I don't want to say a hockey stick, but the slope kind of slopes upward in the back end of the cloud transition. So the revenue growth does actually grow a little faster than your ACV growth. That's what you're seeing happening in 21 and what happened in 22. So there isn't a – a direct connection between ACV growth and revenue until really you get to the end of the transition. So it grows slower in the beginning, then it accelerates and kind of catches up to them being more closely aligned when you exit the transition. That's what you see happening in 21. Got it.
spk01: Thank you. Thank you. We'll hear next from Risa Jalura with P&A.
spk05: Hey, guys. It's Richard Deloria. Hey, Alan, Ken. Good quarter. Nice to see you continue strong results. I wanted to start by looking at the cloud gross margins. You know, it's been really strong this year and improving as it's gone on. How should we be thinking about, you know, the opportunities for future cloud gross margin expansion from here? You know, I know, Ken, you have said in the past there's, you know, over time it might be able to get above 70%. Maybe speak to how we should expect that and any areas where you think there's more opportunity for better infrastructure efficiency or to just get better margins out there, and then I've got to follow up.
spk03: Sure, Rishi. So one thing that probably most of you know is that I kind of, you know, took – took responsibility for our PegaCloud business in December of 2019. So it's been about a year. And one of the reasons why, you know, Alan and I decided that that was a sensible move was because of the importance of really running this as a P&L and driving the margin expansion. And the team has done an amazing job you know, in terms of driving that over the last year. So really good progress. You might say, okay, well, so you're mid-60s now or approaching mid-60s. How do you get to 70, 75, and what are the levers? First off, scale is the big lever. Scale not only in the number of clients, but size of the client spend in PegaCloud. Because as that goes up, there's some variable and some fixed cost, and you're able to leverage people over a larger pool of clients and a larger pool of ACVs. So some of it is just typical operating leverage which even happens in, honestly, any business model. But technically speaking, when we start leveraging at scale things like Kubernetes, to create virtualization in the cloud environments, which all of our clients are deploying on some version of Kubernetes in terms of driving efficiency. It's really virtualization in the cloud, as I'm sure you know. That is a big lever for us. In addition, clients that are adopting Pega Cloud on Pega Infinity is actually another lever point because the expansion that they have on the applications really becomes kind of a larger spend pattern and really creates us, ability for us to make certain investments in those step or break points so that we can actually create, you know, essentially more efficient cloud environment for our clients. So it's really about scale. It's about the new product, PEG is a new product, which is kind of infinity, right, the product that is a new generation, and about leveraging some very, common tools like Kubernetes that lots of, you know, all of our clients, quite frankly, and our competitors and other companies are leveraging to build that level of efficiency. So those are kind of some of the key tenets of getting there. But to be honest with you, it's really driven by a business P&L mindset of running our business like a SaaS business, like an as-a-service business for our clients, and we're starting to really see some great pickup in our results. you know, from that focus.
spk05: Got it. That's really helpful. And then, Paul, I wanted to maybe get your sense on the sustainability of some of the trends that you've seen out of COVID going forward and, you know, let's say optimistically back half of this year starts to look a little bit more normal. And so from that, I'm talking, A, the kind of acceleration of digital transformation projects and efforts from customers, even if that hasn't been a driver on the revenue side just yet, but sustainability of those tailwinds. And then on the cost-saving side as well, because, you know, not having travel clearly helping on the margin side. I mean, if you look at the growth rate of just your sales and marketing, it's dramatically lower this year than it has been historically, I think even half of 2019's growth rate. So how should we be thinking about the sustainability end of those cost savings, you know, going forward post-pandemic? Thanks.
spk02: Well, I'll tell you, you know, it's obviously hard to predict, but I think there will be sustainable cost savings because I think behavior has changed. You know, it's easy to do a video meeting where otherwise you would have had to arrange a trip to show people that you respected them and, you know, try to make sure you're in the right place at the right time. I think a lot of that is going to persist. I think a lot of implementations where we've learned to do things remote will not be entirely remote. People are still going to want to get in and do a physical walkthrough and get together around the conference table. And I'm optimistic that that will again be possible in the second half of the year or by the end of the year. But I think there will be some sustainable cost savings there. Certainly the improvements You know, this whole project Phoenix, which has been part of our move to Kubernetes, part of a lot of the other changes that we've been doing, is a lot of runway as we think of what we can do to create sustainable cost savings and sustainable technical scalability in coming years. So I also feel really good about that.
spk05: All right, wonderful. Thanks, guys.
spk01: Thank you. We'll take our next question from Mark Schapel with Pitchmark.
spk07: Hi, good evening. Thank you for taking my question. I was wondering if you could just provide some additional commentary on what you're seeing in Europe, and particularly your business in the UK.
spk02: So it's interesting. Obviously, the UK has undergone some confusion. The whole Brexit thing happened on top of the whole COVID thing. I would tell you that as I think about it, the the UK and particularly areas like some of the big UK financial institutions with, in some cases, very, very big interest in moving things to the cloud, which historically they have been more conservative on. But also some of the large governmental entities has been, I would describe, has been powerful and encouraging. So I'm feeling pretty good about The UK at a time where it's really hard to appreciate it, given what was going to happen as a result of some of the Brexit stuff on top of the COVID. So there's a tremendous amount of activity there. I just wish I could go back to the visit sometime. Yeah.
spk07: And then, Ken, a question for you. The December quarters are typically big renewal quarters for the company and also big revenue quarters. Seasonally, how should we be thinking about your Q4s with respect to ADCV growth and RPO growth seasonally?
spk03: So let me clarify one thing. So Q4s do have more renewals on average than other quarters. However, as we've gotten bigger, the renewals do start to spread across quarters in the year and across years such that it isn't, as big of an impact as more of its PegaCloud and as the company grows. The reason why Q4s are typically bigger is because there's more new business activity in a Q4, more selling activity. That's actually a bigger factor for a Q4, and that's really the only factor for ECV growth. Because our renewals, unless there's an upsell, there isn't really any change to the ACV. Now, in terms of RPO, the backlog, that is a tough one because, Mark, there's definitely lumpiness around RPO in terms of the total amounts. Where it's not as lumpy is in the next 12 months number, right? In that number, that's why I focus on that number because that really is a validation of how much of the next year's revenue is already kind of baked and, you know, kind of in the backlog to be able to come into revenue. So if you're comparing a Q4 over Q4, ACV is a very valid measure. and the next one year is a very valid measure. When you look at the gross amount of RPO, then you get into differences where a renewal hit that was four years versus three years, and the cycle of the renewals is not linear in terms of that. So that's kind of where it kind of screws with you a little bit. Not so much on revenue, not on ACV at all, and really not much on that next 12 months number. So if that helps, that's kind of the way to think about a Q4.
spk02: I think that... The other thing that's happened, and we've talked about this a little, is when we did the flip to recurring, we massively reduced the incentive for long deals. The incentive used to be, frankly, a little out of whack around total contract value, and that has massively reduced. So I think you're going to continue to see less lumpiness in RPL. And the real measure, I would say, is, you know, ACV coupled with RPM. You know, that's always what I look at. Thank you. I think we're getting to the top of the hour. So, operator, if it's okay with everyone, I'm going to just say to folks that, you know, it was obviously a tough and raucous year. We need really to thank the whole team for just buckling down and doing tremendous work. Thank our customers for standing by us. And I want to thank our investors. You should know we're working hard for you. And I wish all of you stay safe. And let's work through this. We're actually feeling like we're moving into the light this year. Thank you very much, everyone. Take care.
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