PTC Inc.

Good afternoon, ladies and gentlemen. Thank you for standing by and welcome to the PTC 2023 First Quarter Conference Call. During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. I would now like to turn the call over to Matt Schimau, PTC's Head of Investor Relations. Please go ahead.

Good afternoon. Thank you, Rob, and welcome to PTC's First Quarter 2023 Conference Call. On the call today are Jim Heppelman, Chief Executive Officer, Christian Talvatia, Chief Financial Officer, and Mike DiTullio, President of our Digital Thread Group. Today's conference call is being broadcast live through an audio webcast, and a replay of the call will be available later today at www.ptc.com. During this call, PTC will be making forward-looking statements, including guidance as to future operating results. Because such statements deal with future events, actual results may differ materially from those projected in the forward-looking statements. Actual information concerning factors that could cause actual results to differ materially from those in the forward-looking statements can be found in PTC's annual report on Form 10-K, Form 10-Q, and other filings with the U.S. Securities and Exchange Commission, as well as in today's press release. The forward-looking statements, including guidance provided during this call, are valid only as of today's date, February 1st, 2023, and PTC assumes no obligation to update these forward-looking statements. During the call, PTC will discuss non-GAAP financial measures. These non-GAAP measures are not prepared in accordance with generally accepted accounting principles. A reconciliation of the non-GAAP financial measures to the most directly comparable GAAP measures can be found in today's press release made available on our website. With that, I'd like to turn the call over to PTC's Chief Executive Officer, Jim Heppelman.

Thanks, Matt. Good afternoon, everyone, and thank you for joining us. Turning to slide four, I'm pleased to report that despite seeing some incremental macro softness, PTC delivered a solid first quarter to kick off fiscal 23. On the top line metric of ARR, we came in at $1.603 billion. which was above the high end of our range and up more than 15% year over year. The strength was broad-based across all product groups and geographies.

Sorry about that, a little interference.

Strength was broad-based across all product groups and geographies. Organic ARR growth was 14%, with CodeBeamer then contributing that extra point of inorganic growth. The strong Q1 ARR results put the company in a position to narrow our original 10 to 14% full year ARR guidance to 11 to 14% as we feel that the 10% outcome has become increasingly implausible with a solid Q1 behind us. Switching to our bottom line metric of free cash flow, we delivered 172 million ahead of our guidance and up 28% year over year. We raised our free cash flow guidance for the full year by $15 million. Currency had little impact to free cash flow in Q1, but it is expected to be incrementally helpful as the year progresses. On the subject of currency, I'll remind you that Christian will cover the ongoing effects of foreign exchange fluctuations later in the call. So to simplify things, I'll focus my discussion on constant currency results when discussing top line metrics. Turning to slide five, Shortly after our first quarter closed, we completed the acquisition of ServiceMax. ServiceMax is not included in the Q1 results we reported, though we did incur some acquisition-related costs that were a headwind to our nevertheless strong free cash flow results in Q1. With the deal now closed, ServiceMax will be included in our guidance going forward. To recap the highlights of this business that's now part of PTC, ServiceMax is used to manage the service processes for high value, long life cycle products. Think of products like an MRI machine in a hospital, a machine tool in a factory, or pumping equipment at a refinery. This has always been a sweet spot for PTC, and we have many customers matching this profile. Referring to the infinity diagram on slide five, many of you know that PTC's logo represents the interplay of physical and digital, and that logo provides a good way to explain the fit with ServiceMax. The digital part of our logo refers to when products are under development. At this point, they exist in a purely digital form, which is authored in Creo and managed in Wincho. Being purely digital at this stage, products are easy to change and highly configurable. Each time our customers get an order, their factories take a configuration of the digital product data that matches the order and use it as the recipe to produce the physical product, which is then delivered to the end customer. That's where the physical part of our logo fits in. Physical products are very different. If you want to change them, for example, you need to dispatch a truck to the customer site carrying a technician and spare parts. Spare parts are managed in our server logistics software. The technician will need access to similar types of digital product information as what the factory used when creating the product. This service information is created using Arbortext and Vuforia. High-value products are operated by the customer for years or even decades. These products require regular service to keep them up and running, and this service is typically provided by the manufacturer who views the recurring service contracts and spare parts sales as a highly desirable source of revenue and profit. ServiceMax helps the manufacturer manage their entire install base of physical product instances and orchestrates all the necessary service activities. By monitoring the install base of products, ThingWorx adds a lot of value to ServiceMax because it allows service to be more proactive and preventative in nature. And sometimes the service can even be done remotely, thereby canceling the need for a truck roll. As you can see, ServiceMax has great synergy with Creo and Windchill because on one hand, the service process consumes the digital product data created in engineering in the form of parts catalogs and service instructions. And on the other hand, the service process is the primary source of feedback that drives ongoing product improvements through engineering change orders, or ECOs. Winchell serves as the system of record for the digital definition of all possible product configurations, and ServiceMax serves as the system of record for the actual physical instances of products that exist, each of which may have a slightly different configuration. As the infinity diagram implies, there is a digital thread of product information flowing between these key systems in both directions throughout the product lifecycle. Aligning ServiceMax with PTC's various offerings will lubricate this flow of data, creating tremendous business value. No competitor has a solution comparable to this. Equally important, as the service system of record, ServiceMax knits together our existing SLM products. allowing PTC to now offer the industry's first truly comprehensive offering for service management and optimization. You can think of our new SLM offering as a hub-and-spoke model, with ServiceMax as the hub and PTC's various other service solutions as spokes. For example, ThingWorx IoT connects to and monitors the vital signs of installed products to enable preventative remote service. Arbitex dynamically publishes technical service information to match each product configuration in the install base. Vuforia AR enables this technical service information to be augmented onto each installed product to make service technicians more productive. And Servagistics allows customer service level agreements to be met while carrying the smallest possible inventory of spare parts. With the acquisition now closed, work is underway to enable deeper integration between ServiceMax and these various PTC offerings. I'm pleased to announce that Neil Barua, the CEO of ServiceMax, is joining PTC and will preside over this expanded SLM business that now exceeds $300 million of combined ARR. Neil and team will unveil a broad new SLM vision at our LiveWorks conference in May, and based on the number of inquiries we're getting, I expect it to be one of the highlights of the conference. The strategic fit with ServiceMax is excellent. and we're excited about the synergies we can generate by cross-selling from engineering to service and vice versa, and also cross-selling between our various SLM offerings within the service domain. The financial fit is excellent, too, as the transaction is expected to be accretive to PTC's growth rate as well as to PTC's cash flow, and this drove part of today's guidance raises. ServiceMax also increases PTC's total addressable market. The ServiceMax business has been growing in the mid-teens, which is a few points faster than their market, but we see potential for the business to accelerate to high-teens growth over time as synergistic cross-sell opportunities are realized. Turning to slide six, given the elevated focus on profitability that investors all share in today's market, I want to reiterate the margin expansion program that PTC management has been driving. The organizational realignment we did at the end of fiscal 21 and the resource rebalancing work we did during fiscal 22 have created an organizational model for PTC that's both highly efficient and fully sustainable. When we made these changes, we were not addressing a problem per se, but simply pursuing margin expansion opportunities that we had identified. The actions we took proved prescient as we're now well positioned for a macro downturn. While many notable tech companies are announcing layoffs to come to terms with bloated cost structures, thanks to our proactive actions, we're entering this period of uncertainty with a very lean cost structure, and we do not anticipate any need for layoffs or restructuring. In Q1, non-GAAP operating margin expanded to 36% compared to 35% a year ago. That sounds like progress, but due to ASC 606 noise, it doesn't fully capture the full magnitude of improvements we've made. We prefer to assess our margin progress by focusing on a more meaningful metric we now call operating efficiency. Operating efficiency is the same metric that we previously called cash contribution margin, but we're changing the name of the metric to be more precise that it is an operating metric, not a non-GAAP financial measure. This is a change in name only. The metric is still calculated the same way and still measures how much of our billings we're able to convert to cash flow each year. At the midpoint of our ARR guidance range, based on actions already taken, we continue to expect this operating efficiency to expand by another approximately 450 basis points in fiscal 23, following the 300 basis point improvement we delivered last year. The significant operating efficiency improvement when layered on top of double-digit ARR growth is what drove the strong Q1 free cash flow result and is what will drive the 38% free cash flow growth we're guiding to for fiscal 23. Kristen will elaborate further. Turning to slide seven, as you're aware, our FY23 ARR guidance range has, from the start, contemplated the possibility of a potential macro downturn. In Q1, we saw further signs of a downturn in the form of incrementally softer bookings. At the same time, we were comforted by strong renewals, which actually improved slightly year over year, reinforcing just how sticky our software is. The net impact of these softer bookings and stronger renewals was a slowdown of about half a percentage point from last quarter's 16% ARR growth rate. taking the Q1 ARR growth rate down to about 15.5%. This was obviously less than we had allowed at the high end of our Q1 ARR guidance range, so ARR results landed 3 million above the range. The softness was relatively consistent across various dimensions of the business, suggesting it was macro-related rather than any type of competitive issue. The summary is that after posting 15.5% growth in Q1, we remain well positioned to perform against our financial targets and indeed have raised our guidance accordingly. Turning to slide eight with Q1 behind us, as compared to our original guidance, we're now on track to deliver ARR growth results within a narrower 11% to 14% range in fiscal 23, with the low end having been raised because the 10% outcome is less plausible now given that solid Q1. Keep in mind the addition of ServiceMax to our portfolio happens here in Q2, and the inclusion of ServiceMax will recalibrate the ARR growth range upward. In a few minutes, Christian will outline a new guidance range that's essentially 11% to 14% plus 1,100 basis points more from ServiceMax added on top. Across this range of ARR outcomes, we've also raised the original cash flow guidance we provided a quarter ago by $15 million. to $575 million, which now represents 38% growth for the full year. The raise is powered in roughly equal parts by a strong free cash flow result in Q1, the expected $5 million benefit from the service max acquisition, and improving foreign exchange rates. Should exchange rates hold or further improve, FX could prove incrementally helpful as the year progresses. Christian will elaborate on the various factors involved here, too. Turning to slide nine, let's look at ARR growth across all geographies. ARR growth in the Americas was 16%. In Europe, ARR growth was 15% despite the Russia exit in Q2 of last year, which still affects the growth rate given the trailing nature of our ARR metric. ARR growth in APAC was 12%. Across all geographies, the largest ARR growth in terms of magnitude was driven by continued strong demand for Creo CAD and Windchill PLM products. In the Americas, we saw the strongest ARR percentage growth in IoT, ARENA, Windchill, and Onshape. In Europe and APAC, the growth rate was highest for ARENA, which has been expanding outside the US. Arbitex and Servagistics both delivered strong growth rates in Europe and APAC. And finally, in Europe, Onshape and Augmented Reality also delivered strong percentage growth. Next, let's look at the ARR performance of our product groups on slide 10. In CAD, which is those products that enable authoring of product data, we delivered 10% ARR growth in Q1 in a market that has been growing approximately 8%. Within this, the growth was primarily driven by Creo, supplemented by strong percentage growth in Onshape and Arbitext. In PLM, which includes those products that enable data management and process orchestration for product development, our ARR growth rate in Q1 was 20%, or 18% organic, with strong growth across all geographic regions. In PLM, we continue to significantly outperform the market, which has been growing approximately 12%. Half of our Q1 growth was driven by Windchill, but ALM, including CodeBeamer, and arena, IoT, and retail PLM also contributed to great Q1 PLM results by delivering strong percentage growth. I'd like to discuss Windchill Plus in the context of a new logo customer on slide 11. Given the importance of our SaaS transformation program as a growth driver, I'm pleased to see good progress ramping up the new multi-tenant Windchill Plus solution. While it's still early, across a combination of new logo deals, as well as lift and shift SaaS conversions. We now have about a dozen Windchill Plus customers in production, they're headed there shortly, with dozens more opportunities in the pipeline. As we said at our investor day, we expect an S-curve type of ramp over multiple years for our Plus offerings, and thus far we're tracking well to that expectation. To share a customer story, we landed a new logo deal with a well-known motorsports company, That's a great example of an organization that's reaping the benefits of the streamlined PLM implementation experience that Windchill Plus offers. This customer has committed to enter a new racing circuit, but faces a tight timeline to get prepared. Their team needed a PLM system to be in place quickly because they're designing a more efficient power unit that needs to be completed and tested in short order. And then as usual, there'll be a steady diet of changes and improvements thereafter. With their Windchill Plus implementation, the motorsports company achieved a production ramp-up time of several months, including integration with their hybrid SAS ERP system. They got there so quickly by leveraging the out-of-the-box capability of Windchill Plus delivered by PTC to the customer as a secure pre-configured service. This customer has no dedicated IT team, so leveraging SAS applications is important to enable them to keep their internal efforts focused on racing while improving collaboration across team members in the field and around the globe. As a reminder, Windchill Plus is the tip of the iceberg of a bigger plus strategy, and you'll see us follow with Creo Plus and similar premium SaaS offerings in FY23 and beyond. We are aiming to launch Creo Plus and the bigger plus strategy at LiveWorks in May. I'd like to share another customer anecdote to help you better understand the immense power of our technology. Turning to slide 12, I want to tell you about an important project from our customers at the US Department of Energy. I trust you saw the mid-December news that for the first time, scientists at Lawrence Livermore National Laboratory have produced a nuclear fusion reaction that generated more energy than it consumed. This major scientific breakthrough happened at Lawrence Livermore's National Ignition Facility and may pave the way to a future filled with clean energy. The National Ignition Facility, or NIF, is essentially a massive machine of enormous size and complexity. The NIF is a precision engineered system of systems that generates and then directs 192 powerful laser beams onto a pencil eraser sized area that heats to millions of degrees to ignite the nuclear fusion reaction. the sports stadium-sized NIF machine is all modeled in Creole and Winchell. Everything they say except the walls and the bathrooms. With three and a half million components, we believe the NIF is the largest Creole and Winchell assembly ever made and very likely the largest assembly ever modeled in 3D CAD, which is a real testament to the power of our technology. During our regular collaborations with DOE teams over many years now, PTC product teams have been challenged to further develop our products to enable such highly advanced projects in what has proven to be a mutually beneficial relationship. While substantially more work lies ahead in the effort to harness the potential of fusion energy as demonstrated by the NEF, we're very proud of the role that our technology has played in enabling this early breakthrough. And the announcement was exciting for many PTC employees who have been involved, including me. PTC may very well prove to play a key enabling role in the ultimate ESG breakthrough. Summarizing then on slide 13, while in Q1 we saw incremental signs of a macro slowdown, there's a lot going our way right now. First, PTC has established itself as the clear category leader in PLM, which has become a must-have technology backbone for digital transformation at industrial companies. We just posted another quarter of 18% organic PLM growth, well ahead of market peers. We are conquering the PLM market. The addition of ServiceMax further extends what was already a unique portfolio of interconnected digital thread capabilities across the full product lifecycle. And ServiceMax is expected to be a tailwind to ARR and free cash flow right from the start. Both CodeBeamer and ServiceMax will provide a big boost to our PLM conquest efforts. Second, while the company growth is at a double-digit level already, we're in the early days but executing well against a major on-premise to SaaS transformation that should provide a multi-year growth tailwind. Third, we have a reputation for driving margin expansion that goes back more than a decade, and the proactive changes we've already made are driving high levels of free cash flow growth again this year. Fourth, we're demonstrating that our business model is very resilient. Top line growth and bottom line profitability are at levels that are amongst the best in our industry peer group. Not many peer companies are projecting the double digit organic top line and 38% bottom line growth that PTC is guiding to this year. And finally, we're led by a team that has deep expertise and proven ability to drive growth and margin expansion. We're happy to welcome Neil Barua to the PTC executive ranks because Neil and the entire ServiceMax team share the same depth and passion for the business that's so important here in the PTC culture. With so many positive trends going our way, I continue to believe PTC has a tremendous opportunity to create shareholder value, even in the face of a macro downturn we've all been expecting. With that, I'll turn it over to Christian for his more detailed commentary on financial results and guidance. Thanks, Jim, and good afternoon, everyone.

Before I review our results, I'd like to note that I'll be discussing non-GAAP results and guidance, and ARR references will be in both constant currency and as reported. Turning to slide 15, in Q1-23, our constant currency ARR was $1.6 billion, up 15% year over year, and exceeded guidance. On an organic constant currency basis, excluding CodeBeamer, our ARR was 1.59 billion, up 14% year over year. As Jim explained, our top line strength in Q1 was broad-based. We're executing well against our strategy, and we're continuing to improve upon the strong market position that we have. Our SaaS businesses saw continued solid ARR growth in Q1 as well. On an as-reported basis, we delivered 11% ARR growth, 10% organic, due to the impact of FX headwinds. Currency fluctuations were positive in Q1 of 23, and our as-reported ARR was 60 million higher than our constant currency ARR. However, on a year-over-year basis, currency fluctuations were still a meaningful headwind. Moving on to cash flow, Our results were strong, with Q1 coming in ahead of our guidance across all metrics. While it was great to see favorable FX movements during Q1, there was no impact to free cash flow from FX. Our free cash flow performance in Q1 was driven by strong execution based on a foundation of solid collections and cost discipline. free cash flow outperformance, and the timing of capital expenditures, which were $9 million in Q1 compared to our guidance of $5 million. When assessing and forecasting our cash flow, it's important to remember a few things. The majority of our collections occur in the first half of our fiscal year. Q4 is our lowest cash flow generation quarter, and on an annual basis, Free cash flow is primarily a function of ARR rather than revenue. Q1 revenue of $466 million increased 2% year-over-year and was up 9% year-over-year on a constant currency basis. In Q1, recurring revenue grew by $12 million, perpetual license revenue grew by $5 million, and professional services revenue declined by $9 million year over year. The decline in professional services revenue is consistent with our strategy to transition some of our professional services talent and revenue to DXP, our partner for Windchill Plus lift and shift projects. As we've discussed previously, revenue is impacted by ASC 606, so we do not believe that revenue is the best indicator of our underlying business performance but would rather guide you to arr as the best metric to understand our top line performance and cash generation before i move on to the balance sheet i'd like to provide some color on our non-gap operating margin as i did last quarter compared to q122 our non-gap operating margin expanded by approximately 100 basis points to 36 percent in Q1 of 23. We continue to caution that because revenue is impacted by ASC 606, other derivative metrics such as gross margin, operating margin, operating profit, and EPS are all impacted as well. Still, it's worth mentioning that we're benefiting from the work that we've done to optimize our cost structure in fiscal 22. On a year-over-year basis in Q1, we continue to grow our top line at a faster rate than our spending and delivered significantly higher ARR and free cash flow. Moving to slide 16, we ended the first quarter with cash and cash equivalents of $388 million. Our gross debt was $1.36 billion with an aggregate interest rate of 4.3%. Looking forward, in Q2, in conjunction with the ServiceMax acquisition, We took out a $500 million term loan and increased the size of our revolving credit facility from $1 billion to $1.25 billion. The net of new borrowings and debt pay down in Q2 should leave us with $1 billion in high yield notes, the $500 million term loan, and approximately $450 million drawn on the revolver at the end of the quarter. As a reminder, we also have a second payment for the ServiceMax transaction due in October 2023 of $650 million. We intend to fund this with cash on hand and our revolving credit facility. This deferred payment is included in debt on our balance sheet and is factored into our debt to EBITDA ratio. We expect our debt to EBITDA ratio to be approximately 3.4 times at the end of Q2. We should be around three times levered by Q4 and below three times throughout fiscal 24 and into fiscal 25 as we continue to pay down debt. To help you with your models, in fiscal 23, as it relates to cash flow, we expect total cash interest payments of approximately $85 million. And as it relates to the P&L, we expect interest expense of approximately $125 million. Given the interest rate environment, we expect to prioritize paying down our debt in fiscal 23 and 24. We'll pause our share repurchase program, and in fiscal 23, we expect our diluted share count to increase by a little under a million shares. We expect to have substantially reduced our debt by the end of fiscal 24 and will then revisit the prioritization of debt pay down and share repurchases. Despite this interruption, our long-term goal, assuming our debt to EBITDA ratio is below three times, remains to return approximately 50% of our free cash flow to shareholders via share repurchases, while also taking into consideration the interest rate environment and strategic opportunities. Next, slide 17 shows our ARR by product group. In the constant currency section on the top half of the slide, we use FX rates as of September 30, 2022 to calculate ARR for all periods. You can see on the slide how currency dynamics have resulted in differences between our constant currency ARR and as reported ARR over the past five quarters. Exchange rates continued to move materially in Q1-23, causing a difference between constant currency ARR results and our as-reported ARR results. Based on the exchange rates at the end of Q1-23, our as-reported ARR in Q2 of 23 would be higher by approximately $62 million compared to the midpoint of our constant currency guidance And fiscal 23, as reported, ARR would be higher by approximately $67 million compared to our constant currency guidance mid-poll. We report both actual and constant currency results, and FX fluctuations can obviously have a material impact on actuals. But remember that we provide ARR guidance on a constant currency basis. If exchange rates fluctuate significantly between the end of Q1 and the end of Q2 23, the impact to our as reported ARR would also change. We believe constant currency is the best way to evaluate the top line performance of our business because it removes currency fluctuations from the analysis, positive or negative. Given the sharp moves that we've seen recently, I thought it would be useful to provide an updated ARR sensitivity rule of thumb on slide 18. In addition to the US dollar, we transact in euro, yen, and more than 10 other additional currencies. Using currency rates at the end of Q1, the impact of a 10 cent change in the euro to USD rate would be $39 million, positive or negative. and the impact of a 10 yen change in the USD to yen rate would be 9 million. Again, positive or negative. And of course, the estimated dollar impact to ARR is dependent on the size of the ARR base. With that, I'll take you through our guidance on slide 19. For our ARR guidance amounts, we're using FX rates as of September 30, 2022. The previous guidance shown on this slide is from our November 2022 Investor Day presentation and includes Service Max. For fiscal 23, we expect constant currency ARR growth of 22 to 25 percent, which corresponds to a fiscal 23 constant currency ARR guidance range of 1.91 to $1.96 billion. This narrowed range is based on two primary factors. First, we took up the bottom end of the 10% to 14% guidance range we provided on our Q4 earnings call, which excluded service max. Well, we saw some incremental macro-driven booking softness in our first quarter. This was partially offset by better than planned churn. And our guidance contemplated the potential for a much bigger impact than what we saw. And we actually finished $3 million above the high end of our Q1-23 ARR guidance range. So based on our strong Q1 results and forecast for the year, while still being mindful of the macro environment, we feel comfortable taking up the lower end of the range, which still allows for continued softening due to the macro environment. Secondly, the other update to guidance is adding approximately 170 million for ServiceMax compared to our investor day assumption, which was for approximately 175 million. There's a few reasons we're doing this, which include first, ServiceMax's fiscal quarters ended one month later than ours. As we all know, the final month of a quarter in a software company is really when the magic happens. So while I think that ultimately their results will align with PTC's quarter-end hockey stick, I also think it's prudent to assume it may take a few quarters to align selling and customer buying behavior. As you know, Salesforce.com is a go-to-market partner with ServiceMax for its Asset360 product. Salesforce just announced a fairly sizable reduction in force, and while we do not know if or how this may impact ServiceMax business in the coming months, we feel it's a valid concern which we want to account for in our guidance. And third, frankly, the uncertainty of the macro environment applies to ServiceMax as well. So it's primarily for these three reasons that we're de-risking the service max guidance for fiscal 23 and adding $170 million to our now updated 11% to 14% guidance range. With a strong Q1 behind us and given our pipeline and forecast and how we've set our guidance ranges, we believe we're well positioned to achieve our fiscal 23 ARR guidance. Note that we expect modestly more deferred ARR to become ARR in fiscal 23 than in fiscal 22, and our churn in Q1 was lower than planned. In dollar terms, churn was actually lower in Q1 23 than it was in Q1 22, and that's against a bigger base of ARR. For Q2, we're guiding constant currency ARR to be in the range of 1.79 to 1.81 billion. At the midpoint, this equates to 25% constant currency growth. I'll discuss our Q2 guidance in more detail on the next slide. On cash flows for fiscal 23, we raised our guidance. We now expect cash from operations of approximately 595 million, up 37%. and free cash flow of approximately $575 million, up approximately 38%. Compared to the guidance we provided a quarter ago, our updated $575 million target for free cash flow factors in our strong execution and results in Q1, $5 million from the service max acquisition, which we already communicated at our investor day, as well as an increase from FX tailwinds for the remainder of the year. Assuming we hit our Q2 free cash flow target, we'll be at approximately 65% of our full-year target, similar to in the past two years. Our CapEx assumption for fiscal 23 is $20 million. Therefore, relative to our free cash flow guidance of $575 million, we're guiding to cash from operations of $595 million. For Q2, we're guiding to free cash flow of approximately $200 million. We expect approximately $5 million of CapEx in Q2, and therefore, our cash from operations guidance is approximately $205 million. As you model the quarters of fiscal 23, keep in mind we expect the quarterly distribution of full-year cash flow results to follow a similar pattern as in fiscal 22 and fiscal 21, with over 60% of cash flow in the first half of the year and Q4 being our lowest cash flow generation quarter. Moving on to revenue guidance, which we raised from our November 2nd guidance, primarily because of service max and currency. For fiscal 23, we expect revenue of $2.07 to $2.15 billion, which corresponds to a growth rate of 7% to 11%. ASC 606 makes revenue fairly difficult to predict in the short term for on-premise subscription companies, hence the wide range. More importantly, revenue does not influence ARR or cash generation as we typically bill customers annually upfront regardless of term length. Turning to slide 20, here's an illustrative constant currency ARR model for Q2 23. You can see our results over the past nine quarters, and in the far right column, we've modeled the midpoint of our Q2 constant currency ARR guidance range. Because our ARR tends to see some seasonality, the most relevant compare is Q2 of 22. The illustrative model indicates that to hit the midpoint of our Q2 23 guidance range, of $1.8 billion. We need service max ARR of approximately $160 million, which is what we said at Investor Day and believe is a reasonable target. On top of the service max contribution, we need to add $37 million of organic ARR on a sequential basis. This is $19 million less than the $56 million we added in Q2 of fiscal 22. In percentage terms, we need to we need 2% organic sequential ARR growth to hit our guidance midpoint for Q2, which is at the lower end of what we've delivered over the past nine quarters. All things considered, we believe we've set our Q2 23 constant currency ARR guidance range prudently. Turning to slide 22, I'll conclude my prepared remarks today by highlighting that we're prepared for a storm and expect to be resilient in the face of one. From a top line perspective, we serve industrial product companies and R&D at those companies tends to be quite resilient. So we have a supportive top line backdrop. We also have a subscription business model and our products are very sticky with our customers. Just as importantly, from a cost perspective, we've already battened down the hatches. In addition to the cost optimization work we did last year, We've already slowed planned hires and backfills as we head into Q2. Nevertheless, as we've said in the past, we don't have a Pollyanna-type view when it comes to the macro situation. We have a strong track record of disciplined operational management, and if the macro situation gets meaningfully worse, you can expect us to moderate our spending further to better align spending with market realities and mitigate the impact on our fiscal 23 cash flow results. For example, variable compensation would automatically adjust, and depending on the magnitude of the downturn, we would also be incrementally more cautious on hiring, on marketing spend, travel, et cetera. On the other hand, if the macro situation improves and or if the dollar weakness continues, this would be favorable for our cash generation, and in that scenario, we would have the optionality to invest more aggressively in our business. There's no question that the macro environment is hard to predict. Nevertheless, we've contemplated one strong quarter of fiscal 23, completed one strong quarter of fiscal 23, and are positioned to continue producing attractive financial results based on our strong product and market position, coupled with solid execution and prudent financial management. With that, I'll turn the call over to the operator to begin Q&A.

At this time, in order to ask a question, press star, then the number one on your telephone keypad. We ask that you please limit yourself to one question. If you have additional questions, please press star one again to re-enter the queue. And your first question comes from a line of Matt Hedberg from RBC Capital Markets. Your line is open.

Great, guys. Thanks for taking my question. Congrats on... Yeah, congrats on the strong results, guys. Jim, you guys are pushing the envelope for SaaS beyond many peers that we talked to, which is obviously great. I guess a two-point question. Do you think that's resulted in sort of a larger pipeline coverage ratio than maybe a year ago? And with your plus strategy, do you think the opportunity for PLM and CAD replacements could accelerate as well?

Yeah. Well, let's say... Certainly the plus strategy and SAS here at PDC is helpful to the pipeline because, first of all, when deals come in as SAS, they come in twice the size as they would have been had they been on premise. So right away you have a factor there. But I'd also say the interest level is quite high. I mean, I think if you come to LiveWorks, you're going to see lots of customers are going to come just to learn about SAS because they're interested. We're at that phase where everybody's interested. Some people will bite sooner than others, but everybody wants to hear about it, start thinking about it, and understand how it plays into their future. Then on the competitive replacement opportunity, I do think that some of our competitors are laggards with SaaS, or they're doing SaaS in a pretty hokey way. For example, we have a French competitor who is trying to become a hyperscaler. and uh when you when you place an order with them they turn around buy hardware to host it on and you know between you and me i don't really think that's the right strategy and i think a lot of companies are going to say i don't actually want to buy into a strategy like that because the day it all collapses i'm a little bit out in the cold so um i i do think that people are going to say we need to go to sas if my vendor doesn't have a good story i should shop around and uh you know at ptc we have uh mature proven products like Creole and Winchell that'll be available in an honest to God, true SaaS form, you know, not unlike, for example, Microsoft Office 365. And then on the other hand, if you want to go full bore, clean slate, right from the start, pure SaaS, well, we have Onshape and Arena, which are the sassiest products in our entire industry. So I do think we're going to get some amount of people moving to SaaS and switching vendors at the same time. And as you said, we're way out there ahead of people with a, you know, a pretty serious, well-thought-out strategy.

Thanks, Jim. Congrats.

Your next question comes from a line of Matt Broom from Mizuho Securities. Your line is open.

Thanks very much. Hi, Jim and Christian. Hello. Hi. How has ThingWire's growth during the quarter, you know, has it been impacted at all by the reallocation of resources there?

ThingWorx growth was pretty steady. No doubt that reallocation of resources isn't actually helpful to just standalone ThingWorx growth, but I think it's actually been quite helpful to PTC growth and very, very helpful to PTC cash flow. Because instead of hiring new resources that would consume cash flow, we moved resources around and let that fall to the bottom line. So I think probably not helpful to ThingWorx, although ThingWorx is clipping along at a decent growth rate, but very helpful to PTC altogether, kind of neutral to growth altogether, very helpful to cashflow.

Okay, great. And if I could just also ask, channel continues to lag direct AR growth on a constant currency basis. Can you talk about why growth is a little

bit slower in the channel um uh i guess with your partners and what what might be done to sort of bring that more into line with uh your direct business well i i think they simply are more impacted by the macro situation you know when the economy was strong our channel was growing faster than direct and i think uh small companies have less uh you know room if you will to uh less capacity to weather a downturn so they're more conservative So I think in a downturn situation, small and medium businesses, which is what our channel covered, they're the first ones to start getting conservative on spending. And I mean, we've seen that. I think, for example, a lot of the startup companies aren't hiring. And if they're not hiring, they don't need expansions and so forth. So I would attribute that the channel is relatively more macro sensitive than the direct sales force. No, and the rebound goes the other way, of course.

Right, makes sense. Okay, thanks again, and congrats on the results.

Thank you. Your next question comes from a line of Tyler Radke from Citi. Your line is open.

Hey, Tyler. Hey, good evening, Jim. Good evening, Christian. So a question just on the bookings commentary. So I think last quarter your base case was for Flattish year-over-year bookings. for the full year to kind of get to that 12% ARR growth, obviously pre-service max. When you say you saw bookings weakened, did bookings go negative during the quarter? And where's kind of your underlying assumption for the full year on bookings?

Yeah, Tyler, I mean, so we thought a lot about how to describe this. And, you know, what we really owe you is transparency to how bookings and macro affect ARR, because ARR is the key metric. And we're in this funny situation where, you know, what happened in the quarter didn't align to any of our scenarios because bookings was a little softer. And churn, frankly, was shockingly good. So what we decided is if we really want to tell you what exactly happened to bookings, we're going to have to tell you exactly what happened to churn. And we probably ought to tell you what happened to deferred. And then maybe we ought to get into year-over-year comps because, as you know, bookings is where the volatility is. So we decided we'll disclose it. we'll quantify it as half a percentage point of slowdown. So half a percentage point is, you can do the math, it's about $8 million on a billion 603. So we had $8 million less in bookings than what it took to maintain a 16% growth rate, but 3 million more in bookings than what it took to hit the high end of the guidance range we gave you. So I think if you look at it that way, In the year now, we've lost $8 million, and that'll show up four quarters. It won't compound, but the $8 million will show up in the next four quarters. I think as we look forward, the pipeline looks pretty decent. The forecast looks good. The real question will be close rates. Does the business come in or not? And that's sort of an unknown. But to us, Q1, while it was a little bit softer than the previous two quarters, actually was not a bad quarter.

That's super clear. Thank you.

Just a follow-up. Going back to one of the questions on the competition, maybe broader than just what you're seeing that relates to SaaS, if you just talk about maybe the strength you're seeing in PLM more broadly and obviously the growth rates you're posting on an organic basis are kind of above market. Who do you see you're taking share from and You know, anything from a product perspective you'd highlight?

Yeah, I mean, nothing changed materially in the quarter, but to kind of remind you just in general what's happening, you know, SAP has given up share. Oracle has given up share. In our view, Dassault has given up quite a bit of share because, you know, we passed them in the last year and we're opening up quite a gap now. And we think Siemens has given up some share. Siemens, you know, has been posting actually negative numbers. in terms of PLM growth of late, and it'll be interesting to see at the next earnings report. I encourage you to all dig in and try to parse it apart because I think Siemens is losing a lot of momentum. They have some structural changes happening, so it's a little hard to kind of tease it all out, and they don't provide much disclosure. But, you know, I think you're going to see Siemens would be our toughest competitor, and you're going to see us post, you know, growth rates approaching 20%, and it wouldn't surprise me if theirs has a negative number on the front of it when they report this quarter.

Thank you.

And your next question comes from a line of Steve Tusa from JP Morgan. Your line is open.

Hey, guys. Thanks for taking my question. I'm sorry. I'm kind of new to covering you guys, and so the math maybe is a little bit tricky. But like you said last quarter that I think it was a low single-digit content currency bookings growth year over year. I'm kind of having trouble putting what you just said kind of all together. What does that actually mean on a year-over-year constant currency bookings growth rate for this quarter?

Yeah, Steve, I mean, we don't disclose. We don't report bookings. We don't guide bookings. We provide color. And because, again, the scenario was a little strange compared to the guidance scenarios, softer on bookings, stronger on free cash flow, to avoid having to disclose a lot more detail, we netted it out. Um, and, and netted it out as, uh, you know, better than guidance, uh, but a slowdown of about $8 million for the year, you know, half a percentage point.

Yeah. Okay. Got it. That's helpful. And then just lastly on, uh, on free cashflow, um, pretty strong, uh, even seasonally, even, even how you talk about it with a, you know, a decent amount coming here in the, in the first half of the year, assuming you hit the 200 million, um, receivables were, you know, a big positive, at least on a gap basis. And anything else moving around in working capital that, you know, kind of overdrove at all? Or is this, you know, kind of bang in line with what you guys were expecting?

In general, I think it was largely in line with what we were expecting, Steve. Okay. You know, I mean, again, solid collections, performance, you know,

I think it's a little bit, Steve, like with the ARR situation where, you know, our guidance contains a little bit of a buffer and we didn't need it.

Yep, yep.

Congrats on the good result. Thanks. Great. Thank you.

Your next question comes from a line of Saket Kalia from Barclays. Your line is open.

Oh, a second. Oh, hey, Jim. Hey, Christian. Thanks for taking my question here. Jim, maybe we could just – I'd love to dig one level deeper just into – sort of that dichotomy, right? The softer bookings, but then also the lower churn. Maybe just on the softer bookings piece, are those deals that are pushing, you know, are those deals that are still in the pipeline, you know, or are they ones that you think just get pushed indefinitely? And then on the lower churn piece, you know, that is great to hear, particularly with the hiring environment. How much is maybe some of the price adjustments that we did last year maybe factoring into that as well?

Yeah. Well, let me address the churn piece first, and I'll circle back to the push or cancellation on bookings. On churn, you remember that we gave you scenarios that had churn getting worse. When we were clear, we have no evidence that that is happening or will happen, just seems prudent to allow for the possibility. So we're allowing for a possibility that would require a reversal in trend. but we did not get the reversal in trend. We got actually more of the same improving trend. And I think we were clear that certainly pricing helps, but it doesn't really account for the strength we're seeing. I mean, the strength we're seeing is fundamentally just good renewals. And to put in perspective, you know, Creo and Winchell represent roughly 70% of our ARR, just those two products. And if you took the churn rate for Creo and Windchill in the quarter and you annualized it for the entire year, it would be less than 3% churned on those two massive product bases. So, I mean, we're talking about fundamentally strong adoption of our technology, mission critical technology. You can't switch from it. You can't stop using it. You can't stop paying for it. You know, I mean, unless you're winding your business down. So, um, I think it's just good, fundamental, sticky software. that people are continuing to use. And I think there's not really a lot of layoffs happening in our marketplace right now, our customers. A lot of layoffs happening in tech, but I don't think so many engineers in the world of product development for physical products getting laid off. And then coming back to the push and cancel, I mean, I think it's mostly push. What happens is typically you've got a purchase order and it needs some level of approval. Maybe last quarter it needed a higher level of approval, another signature. Maybe somebody sat on that signature because they're saying, couldn't we do this next quarter? Couldn't we start this project a little later? So I think it's pushing. There's no competitive dynamics, and generally it's not being canceled because companies do need this technology. They're just delaying a little bit. The second factor would be expansions sometimes are driven by hiring. If a company is hiring a lot of engineers, well, now they need to go back and buy more CAD and PLM seats for those engineers. There probably is a slowdown in hiring. which, you know, is slowing down expansions. But nothing structural happening. It's just sort of the natural delays, the cholesterol, if you will, that gets in the way of doing deals when people are getting nervous about the economy.

Makes a lot of sense. Thanks, Jim.

Your next question comes from the line of Jay Vlieschauer from Griffin Securities. Your line is open.

Thank you. Good evening, Jim and Christian. Jim, for you first, over the last couple of years at least, the active bases for both Creo and Windchill had seemingly grown at at least a mid-single-digit rate, at least by our calculation, which corresponds to the share gain for each we've been able to document. How are you thinking about the active base growth from here for both those products, and perhaps more broadly, since we've gone through so many evolutions of both those markets over the last many years, what from here do you think are the critical functionalities within CAD and PLM to continue or sustain the growth in those businesses? Maybe GD or something else that you care to mention. And then secondly, maybe for Christian, you've done well in terms of product releases, adhering to the roadmap, but you do have the smallest R&D budget in your peer group. So how are you thinking about orchestrating or managing R&D productivity from here to keep executing on that roadmap in the context of containing your expenses?

Yeah. Okay, you got a couple of different questions for me there. Let me say... You know, the wild card, Jay, is what happens with the economy. There's nothing, again, structurally happening that would cause our share gain or our seed growth, you know, to differ from the trend as it has been other than just, you know, a macro slowdown. And in the past, like in 2020, when there was a macro slowdown, then we had an acceleration on the back end of it. You know, we had a tough quarter in, I think it was Q3, right, Christian? Or was it, yeah, Q3 2020. of 2020 and a monster quarter in Q4. And it was like a snap back to where we were. So even if there's a slowdown, we might get that effect, but that's the wild card. Otherwise nothing in the industry is happening that would, uh, that would, in my view, change the trend. Um, in terms of, uh, in terms of some of the critical functionality, yeah, generative design is important. Uh, the answer simulation is important, but the thing I think is really carrying the day. is this concept that our guys call model-based enterprise. And what that really means is companies are trying to make 2D drawings go away. In the world of engineering, there has been forever a really messed up process where engineers create 3D models to really conceptualize the parts and how they fit together and to simulate them with technologies like ANSYS and everything's done in 3D. And then the very last step is, they convert that all to 2D drawings. They dumb it down and leave a lot of information behind. And the drawings get sent out to the supply chain and to the factory and everything else. And then, for example, at suppliers, they get these drawings and they turn around and remodel them in 3D. And the factory gets the data and they might have to remodel so they can generate tool paths off it and whatnot. So the industry has said for a long time, we shouldn't need drawings, but we need to figure out how to get different processes that aren't so dependent on them because all the procurement processes, the supplier collaboration processes are based on drawings and red lines and so forth. So what's happening now is many, many companies are saying, okay, this is it. That drawing process has to go now. What we have to do is model it in 3D. It has to be 3D, you know, annotated 3D models go out to suppliers, annotated 3D models go down in the manufacturing process. annotated 3D models end up in the service process, there's not going to be any more drawings. Now, that requires a lot more adoption of CAD because suddenly now a lot more people need a CAD seat rather than an Acrobat viewer PDF seat, if you will. We're not just talking about viewing a PDF file. We're now talking about interacting directly with the 3D data. So I think that's a driver for the whole industry, but I certainly can tell you here at PTC, it's a driver. Many more seats. of CAD software are sold when a company decides to move away from drawings. And on their side, they can shut a whole department down. And it's a department that not only leaks value, it actually actively destroys it by dumbing data down that then has to be smartened back up by somebody else downstream. So I think that's a big factor, this model-based enterprise stuff. That's the whole capability around annotated 3D models and whatnot and viewing technologies and markup and collaboration. But certainly, generative design and simulation, 3D printing, additive manufacturing, those are all quite interesting as well. Now, finally, on your last question about the smallest R&D budget, I'm an R&D guy. So I'm not going to lose, and we have not been losing the product battle. We've actually been winning the product battle. And I think what it is is just R&D is not about body count. It's about strategy. It's about project selection. It's about execution. Some of our larger competitors spend a lot of time and energy developing nonsensical products, products that don't work, don't make any sense. Autodesk was famous for that for many years. But some of our French and German competitors, French in particular, they develop a lot of 3D experience, blah, blah, blah. These aren't products that actually mean anything to anybody, but there's engineers working on them. So I think at PTC... We're just much more serious, much more focused. We prioritize what we do. We execute it well. We don't get in too many rework loops. We're just very efficient, and I think that's the winning recipe. Throwing bodies at R&D is not a winning strategy. Executing a good strategy efficiently is what it takes to win, and we're doing fine in the product front. You know this. Our products are very strong, and if anything, getting stronger despite the fact that we spend less on R&D. And then finally, one last comment. It's not like we don't spend much on R&D. You know, Creo has 500 engineers working on it. Windchill has 500 engineers working on it. You know, if you have 1,000 engineers on it, you just have more people tripping all over each other. So, you know, I think also I don't want you to think we don't spend much. We're not quite as extravagant as other people, but we're executing very, very well within what is a substantial spend envelope.

Thank you very much, Jim. Thanks.

Your next question comes from the lineup, Adam Borg from Stiefel. Your line is open.

Awesome. Thanks so much for taking the question. Maybe just two quick ones. First, Jim, just on the incremental softness you noted on the macro, it doesn't sound like things got any softer in the month of January, and of course January is a smaller month to begin with, but just any commentary there on how demand trends have started so far in the month of January, and maybe just as a follow-up on ServiceMax, obviously it seems really compelling. Just curious, now the acquisition closed, how early customer feedback is for both customers and prospects? Thanks so much.

Yeah, so on the first question, how's Q2 looking? At the start of the quarter here, we're more or less still at the start of the quarter because if you look at our quarter, a majority of our business has done the third month of the quarter. So it's very difficult in the first month to really understand how things are trending i mean we're starting the quarter with a decent pipeline we're starting the quarter with a decent forecast the real question will be in the last week or two of the quarter are we able to close these deals or do they slide um if they slide bookings will be soft again if they close actually we'll have a pretty stellar bookings quarter you know based on uh based on how things are forecasted at the moment or maybe we'll end up uh somewhere in between um what was the second question sorry i didn't write it down

No worries.

ServiceMax, yeah. So ServiceMax, I mean, you see I'm very excited about it. You can probably sense that through the call here. That's because customers are very excited about it. You know, I mean, we had a thesis of what this was going to mean. We've gotten into it. We've found how many customers had independently purchased software from both of us, but also how many customers, you know, ServiceMax has that look like PTC customers and how many customers PTC have that look like they should be ServiceMax customers. And a lot of common customers immediately contacted me, immediately contacted Neil and said, hey, can we get together? Can you fly out and see us? Can we come visit you? We want to hear this story. To be honest, we're pushing back a little bit on them saying, could you just give us a little bit of time to figure out the details? So we're really targeting that for LiveWorks. I mean, obviously, we'll talk to a lot of customers before LiveWorks, but that'll be kind of the grand unveiling of that sort of infinity concept that I had in that slide. And I think it'll be very exciting. I think there'll be many, many excited customers.

Rob, we have time for one final question today.

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

Hey, Jim and Christian. Thanks for fitting me in. Maybe just a quick one. We've been hearing different customers and organizations trying to use PLM you know, more within the organizations. When we think about the expansion, is it expanding to different departments and teams, or is it product development just becoming a more critical, you know, role within an organization? How would you kind of quantify, you know, this secular dynamic?

Yeah, I think maybe a couple of thoughts. You know, one thing I've said, Jason, is that PLM is moving from a nice-to-have to a must-have. And for example, this concept I was talking about earlier, model-based enterprise, where you're going to interact with 3D models. And 3D models are too big to email around. By the way, when you're interacting with a 3D design, it's not one file. It can be dozens, hundreds, or thousands of files. And you need the system to find them all and fit them together and present it to you so that you can understand what's going on. So I think what's happening, this is all forms of digital transformation, is that companies are saying, we're going to get rid of paper drawings and PDF files. We're going to go to 3D. Therefore, everybody in the company who interacts with product data is going to need a PLM seat, and they're going to need some type of a 3D seat. Might be a viewer, might be CAD, whatever. But it's driving proliferation of PLM out from the engineering department, where it's always been, into purchasing, into manufacturing, now into the service technicians. We pretty quickly envision service technicians out in the field on their phone interacting with 3D models when they're standing in front of a piece of equipment, if not augmenting it right onto the piece of equipment. So I think that's what's happening. It's becoming a true enterprise system versus a departmental system, while at the same time it's becoming a must-have rather than a nice-to-have. I think it's those trends that are really driving this proliferation of PLM, which, frankly, is good for the whole industry, but I think PDC has taken share in the industry at the same time.

Okay, great. Thanks. We'll look forward to more at LiveWorks. Thanks.

Great. Okay, so let me just wrap up here. Thank you all for spending time with us. In the next quarter, we have quite a busy investor schedule. So I just want to share with you some of the things happening in case you want to participate. So Christian and I together are going tomorrow and Friday. We're going to tomorrow at dinner and Friday in the morning, we're going to participate in an RBC Roadshow in New York. Then on February 27th, We're hosting a headquarters visit that JP Morgan is conducting here in Boston. On March 8th, we're both going to the Morgan Stanley TMT Conference in San Francisco. Meanwhile, on my own behalf, I'm going to the Wolf Conference in New York on February 28th. Christian, additionally, is going to the Baird Conference in Utah on March 2nd, to the JP Morgan Global High Yield Conference in Miami on March 6th. And Christian's going on a Barclays virtual bus tour, or probably hosting a Barclays virtual bus tour on March 15th. And then one of our executives, Kevin Wren, who's our chief product officer, is doing the Loop virtual conference on March 13th. So lots of IR touch points here in the coming quarter. Hope to see many of you in the course of one or more of those events. And if not, hope to catch you again in about 90 days on our Q2 earnings call. Thanks again, and have a good evening, everybody.

This concludes today's conference call. Thank you for your participation. You may now disconnect.