Dynatrace, Inc.

Hello, and welcome to the Dynatrace fourth quarter fiscal 2023 earnings call and webcast. If anyone should require operator assistance, please press star zero on your telephone keypad. A question and answer session will follow the formal presentation. You may press star one at any time you place into question queue. As a reminder, this conference is being recorded. It's now my pleasure to turn the call over to Noelle Ferris, Vice President, Investor Relations. Please go ahead, Noelle.

Good morning, and thank you for joining Dynatrace's fourth quarter and fiscal 2023 earnings conference call. Joining me today are Rick McConnell, Chief Executive Officer, and Jim Benson, Chief Financial Officer. Before we get started, please note that today's comments include forward-looking statements, such as statements regarding revenue and earnings guidance and economic conditions. Actual results may differ materially from our expectations due to a number of risks and uncertainties discussed in Dynatrace's SEC filings, including our most recent quarterly report on Form 10-Q and our upcoming annual report on Form 10-K that we plan to file later this month. The forward-looking statements included in this call represent the company's views on May 17th, 2023. We assume no obligation to update these statements as a result of new information, future events, or circumstances. Unless otherwise noted, the growth rates we discuss today are non-GAAP, reflecting constant currency growth rates, and per share amounts are on a diluted basis. We will also discuss other non-GAAP financial measures on today's call. We provide reconciliations between non-GAAP and GAAP measures in today's earnings press release and in the financial presentation slides. posted in the events section of our website. And with that, let me turn the call over to our Chief Executive Officer, Rick McConnell. Rick?

Thanks, Noelle, and good morning, everyone. Thank you for joining us for today's call. Dynatrace delivered an exceptional finish to FY23 with fourth quarter results that exceeded expectations across the board. For the full year, adjusted ARR growth, constant currency subscription revenue growth, and free cash flow margin were all 29%. I'd like to thank the nearly 4,200 Dynatracers globally for their incredible commitment to excellence and tremendous execution this past year. These results continue to demonstrate our ability to run a balanced business that has been delivering high growth coupled with strong bottom line performance. They are a testament to the strength of our market the significant customer value of our unified observability and security platform, our people and partners, and the ongoing durability of our business model. Jim will share more details about our Q4 performance and fiscal 2024 guidance in a moment. In the meantime, I'd like to share my view of the broader market dynamics, primary use cases that are driving customer buying behavior, and significant investment areas for FY24 and beyond. Let's start with our market opportunity. We believe the estimated $50 billion market for observability and application security is at an inflection point. The complexity of modern technology ecosystems is forcing companies to move from in-house or open source dashboards to much more sophisticated observability solutions that deliver vastly improved insights and automation. Additionally, we expect that AI technologies such as generative AI and predictive analytics will contribute to this inflection point. In particular, we believe AI technology advancements will increase the volume and complexity of software delivery, further strengthening the need for observability and security with automation and AI at its core. We are fully equipped already today in our platform to help customers navigate AI initiatives. and are in early stages of actively collaborating with the hyperscalers to create secure enterprise-ready offerings that bring the power of generative AI and predictive analytics to market. This past quarter, AWS, Azure, and GCP reported over $175 billion in combined annualized revenue. Yet Andy Jassy, Amazon CEO, estimated that 90% of global IT spend is still on premises and poised to move to the cloud. For these and other reasons, we believe the market opportunity for observability and security of cloud-based workloads is enormous. Without question, the cloud yields undeniable benefits, including accelerated product development, increased supply chain efficiencies, improved customer satisfaction, and more. At the same time, though, the cloud has also brought some notable challenges. In particular, the scale and dynamic nature of modern cloud ecosystems have made them too complex to manage through legacy monitoring approaches and manual troubleshooting. Effective operations require more than dashboards and alerts. As such, we believe automated observability is rapidly moving from optional to mandatory. Dynatrace makes order out of this chaos. We leverage sophisticated causal AI capabilities and a comprehensive understanding of an organization's hybrid and multi-cloud ecosystem to deliver rapid insights in real time along with actionable remediation. We enable delivery of more reliable infrastructure and applications, improved application security, and more successful digital transformation initiatives. And we believe we are uniquely positioned to lead this market evolution by providing the only fully unified end-to-end platform for observability and application security with analytics and automation at its core. I'd next like to offer several specific use cases that have become key drivers of our customers' purchasing behavior. First, companies are looking to deliver highly performant cloud-native infrastructure and applications. We as end users expect applications to work perfectly. Many organizations underestimate the complexity of the microservice processes required to manage their cloud workloads effectively. In Q4, one of the top 10 global financial services companies broadly expanded their deployment with a mid seven figure Dynatrace platform subscription or DPS deal to ensure their growing footprint of infrastructure and applications continues to run smoothly. Speaking of DPS, we made it available to our entire customer base last month. With DPS, we are now making our solution set broadly and easily accessible through a simplified cross-platform licensing model. This model allows customers to trial and deploy any aspect of our solution, such as logs or AppSec, while leveraging a single commit. We expect DPS will drive net expansion and become an accelerant to ARR in future periods. Second, companies want to increase productivity and accelerate software delivery through cloud native technologies and processes. We believe the adoption of agile development, continuous deployment, and DevOps will drive accelerated demand for automated observability solutions to ensure development teams deliver secure, high-quality releases faster. In Q4, a Fortune 50 technology company embraced a shift left approach and delivered self-service observability and security to their development teams, resulting in increased innovation through automation. Third, organizations are seeking cost-effective and more insightful log management at scale. They tell us that they are spending too much time and money on slow and limited analytics and forensics that add few insights to their businesses without substantial manual engagement. Companies are capturing logs, but a log without context of other data types fails to enable rapid reaction to changing business conditions. We now have a major retailer spending seven figures with us to take advantage of the insights that our log management solution provides with Rails. Fourth, companies are spending substantial sums to ensure delivery of secure cloud applications. Global data compliance requirements, an increase in software vulnerabilities, end-user data breach concerns, and brand impact are among the many contributors to this trend. We closed our largest application security deal to date, a seven-figure expansion with the same Fortune 50 company I mentioned earlier, to help secure their cloud applications from vulnerabilities. We now have nearly 400 AppSec customers and remain on track toward our goal of reaching $100 million in security ARR by the end of fiscal 2025. Fifth, companies are increasingly coming to Dynatrace for us to provide a fully unified observability solution at scale. This especially applies to the vast array of organizations often using dozens of disparate tools in an effort to manage their software ecosystem. They struggle with a fragmented set of capabilities that lack a single source of truth, making it difficult to develop meaningful insights. This need for unified observability at scale, including a consolidation of other third-party solutions, is what Brazil's financial ecosystem app PicPay, in addition to a leading French SaaS marketing company, to displace and consolidate their existing monitoring tools and sign seven-figure deals with Dynatrace in Q4. And finally, we discussed cloud optimization last quarter as a tailwind for Dynatrace, being a headwind for the cloud providers. One part of cloud optimization is about cost optimization. reducing or eliminating ancillary workloads. Critical workloads, however, generally cannot be eliminated. Organizations need these workloads to be optimized, to run more efficiently and with less manual oversight to ensure maximum return from their cloud environments. These are the areas in which cloud optimization plays directly into our mantra of cloud done right. And this is precisely the value that Dynatrace provides through process automation, faster deployment of software, and dramatically improved analytics. Given that we are at the beginning of a new fiscal year and following directly on the pain points that are driving purchasing decisions, I'd like to wrap up with some of our primary investment areas as we look to the future. Keep in mind, our approach to investments remains unchanged. We take a targeted and prudent approach, and we plan to balance our investments to grow the top line while also delivering modest margin expansion in fiscal 24. First, we plan to leverage both in our R&D as well as go-to-market efforts the demand shift from point products and observability to a unified analytics and automation platform. As I noted, customers are looking for a single solution that cohesively solves a variety of use cases. Our platform processes all data types, logs, metrics, traces, open telemetry, real user data, behavioral analytics, and more in a single contextual data store with near real-time analytics. We believe our core technologies of Davis, Grail, OneAgent, PurePath, and SmartScape combine to deliver a radically different approach to solve the observability challenge and provides enormous platform differentiation relative to the more siloed approach of our competitors. We continue to invest in security expansion. We see an ongoing convergence of observability and application security, in large part because the insights derived from observability enable a much more comprehensive and time-critical security response. We recently conducted an independent global survey of 1300 CISOs in large organizations. The research revealed that 68% of CISOs found it increasingly difficult to keep their software secure given the growing complexity of their hybrid and multi-cloud environments. We are expanding our efforts from vulnerability management, where we participate today, to adjacent areas in both agent-driven and data-driven security. Third, we are accelerating investment in developer observability. Development teams are increasingly expected to incorporate observability capabilities into their solutions. or shift left, as well as assume greater ownership for availability and operational management, or shift right. Biz DevSecOps will become more crucial in this environment. At minimum, we expect development teams to have growing influence over the observability, application security, and automation environments. And thus, we intend to expand both our R&D as well as our go-to-market initiatives to deliver best-in-class observability to this audience. Fourth, we are executing against a broad-based set of initiatives around optimizing and expanding our go-to-market. We remain focused on the global 15,000, where complexity and the value of automation and analytics at scale are greatest. In addition to our planned Salesforce expansion during FY24, we increasingly expect to leverage partners to drive a flywheel of opportunity. Partners today already influence nearly two-thirds of our new ARR, but they account for a much smaller percentage of deal origination. Hyperscalers play an important role in the frictionless onboarding of customers. In fact, new ARR transacted through our largest hyperscaler partner grew by more than 80% in FY23 versus the prior year. We also saw a strong traction from the investments we made in growing our relationships with global system integrators, driven both by a direct overlap in our customer basis, as well as the highly synergistic value they can deliver to clients in digital transformation projects. We ended the fiscal year with 10 strategic GSI partners, and a few, including Deloitte and DXC, have built Dynatrace into their reference architecture. The final area of investment is in customer success. Fiscal 23 was a year of incredible innovation, with the delivery of critical new functionality enabling improved log management, enhanced infrastructure monitoring and application security, improved user experience and access to insights, faster application development, and broader automation tools. We are driving Fiscal 24 as a year of customer adoption and value realization. We want our customers to derive maximum value from our solution set and enable them to solve not one, but several of the use cases I described earlier. We expect this will also drive net expansion and contribute to future ARR growth. In closing, we are proud to have delivered a tremendous finish to FY23, despite ongoing macro headwinds that continue to create market uncertainty. We drove record levels of ARR and revenue with excellent operating margins and cash flow generation. Additionally, we are innovating at a very rapid pace with groundbreaking new customer solutions and platform enhancements. Our products uniquely address the challenges that our customers face with a high degree of differentiation around data-driven automation and analytics. We are building upon and evolving our go-to-market initiatives including increased leverage with formidable partners who are expanding their digital transformation practices to include observability. And we remain passionate about delivering ever more value to our customers. With that, let me turn the call over to Jim.

Thank you, Rick, and good morning, everyone. As Rick mentioned, Q4 was another quarter of great execution by the Dynatrace team. In a dynamic macroeconomic environment, we delivered strong results meeting the high end of our guidance across all of our key operating metrics, ARR, total revenue, subscription revenue, operating margin, free cash flow, and EPS. These continued strong results were driven by the combination of solid new logo lands to the Dynatrace platform, the ongoing expansion of existing customers, and an inherently efficient business model. allowing us to deliver a sustained balance of growth and profitability. Our ability to successfully navigate through a tight budgetary environment is a testament to the resilience of our value proposition, our commitment to customer success, and our incredible team. Now let's dive into the fourth quarter results in more detail. Please note that the growth rates mentioned will be on a year-over-year basis and in constant currency unless otherwise stated. As we have shared in the past, ARR is a key performance metric of the overall strength and health of the business, and we delivered 29% adjusted ARR growth, exceeding the high end of our guidance range by 300 basis points. Please keep in mind, adjusted ARR growth normalizes for currency and the wind down of perpetual license ARR, a reconciliation of which can be found on our IR website. We saw broad-based strength across most geographies and verticals, with notable strength in North America and Latin America, and within the government, insurance, banking, and financial services verticals, despite the current volatility in the banking sector. Total ARR for the fourth quarter ended at $1.25 billion, an increase of $252 million year over year. foreign exchange with a $29 million headwind year-over-year. Including the impact of currency and the perpetual license roll-off, we added $84 million of net new ARR in the fourth quarter. That's $26 million above the high end of our guidance, driven by some notable seven-figure competitive wins and consistent expansion across the customer base. including $13 million of expansions associated with early renewals scheduled to close in the first quarter of fiscal 24. This is the first time in our history as a public company where we saw a sequential increase over our seasonally strongest third quarter. We ended the year with more than 3,600 Dynatrace customers representing an increase of 9% over last year. Our gross retention rates continued to be best in class in the mid-90s and contributed to a strong dollar-based net retention rate of 119% in the fourth quarter. We added 179 new logos in the fourth quarter for a total of nearly 700 new logos this fiscal year. ARR per new logo was particularly strong, highlighting the market trend away from point solutions toward platform adoption. In the fourth quarter, 65% of our new logos landed with three or more modules, up from approximately 50% a year ago, driving our average new logo land up to more than $130,000 on a 12-month trailing basis. We were pleased with the uptick in the average sizes of the new logo lands, including several large competitive takeouts. This aligns well with our focus on the quality of lands that have a greater propensity to expand. As we've mentioned in the past, we believe that the average ARR per enterprise customer could be $1 million or more given the significant cross-sell and expansion opportunities in our customer base. Over 60% of our customers are using three or more modules with an average ARR of over $500,000. and customers with four or more modules have an average ARR of nearly $700,000. Moving on to revenue, total revenue for the fourth quarter was $314 million, $7 million above the high end of our guidance. Total revenue grew 27% compared to the fourth quarter last year. Subscription revenue for the fourth quarter was $293 million, $6 million above the high end of our guidance. Subscription revenue grew 28% compared to the fourth quarter last year. With respect to margins, total non-GAAP gross margin for the fourth quarter was 84%, consistent with both last year and Q3 levels. Our non-GAAP operating income for the fourth quarter was $78 million, $4 million above the high end of our guidance range due to the revenue upside in the quarter. This resulted in a non-GAAP operating margin of 25%, exceeding our guidance by roughly 100 basis points. Non-GAAP net income was $92 million, or 31 cents per share. This is 8 cents above the high end of our guidance range, primarily driven by some strategic tax planning opportunities and favorable revenue performance. On a GAAP basis, our net income was $80 million, or 27 cents per share. We highlight this GAAP financial metric because following several years of profitability, we determined that we are now able to realize a substantial portion of our deferred tax assets in the US. The release of the valuation allowance against these assets resulted in a $40 million GAAP P&L benefit in FY23. Turning to a quick summary of the financial results for the full year, total revenue was $1.16 billion, and subscription revenue was $1.08 billion, both of which grew 29% year over year. Before we move on to operating income, I wanted to provide a quick update on our methodology for allocating certain operating expenses across R&D, sales and marketing, and G&A. In the past, depreciation expense was primarily allocated to G&A. As the company scales and invests across functions, we believe a better presentation is to have the cost align with the related use of the assets. In the fourth quarter, we made the decision to revise our methodology to allocate depreciation expenses, which are mostly facilities related, across R&D, sales and marketing, and G&A. We also recast Q1 through Q3 accordingly. There is no impact to total operating expense, but you will see approximately 100 basis points of reduction in G&A and a corresponding total increase in sales and marketing and R&D to align to this new methodology. Non-GAAP operating income for the year was $292 million, resulting in a non-GAAP operating margin of 25%. Non-GAAP net income for the year was $282 million, or 97 cents per share. Our non-GAAP EPS includes an effective cash tax rate of 4.5%. Below the 11% we guided, as we were able to take advantage of a couple one-time strategic cash tax planning opportunities in the quarter. As we've mentioned in the past, we believe in a balanced approach to operating the business. one that delivers strong and durable performance on both the top and bottom line. This approach proves to be even more important as we navigate the rapidly evolving macro backdrop where the resiliency and predictability of our business model shines through. Turning to the balance sheet, as of March 31st, we had $555 million of cash and zero debt. Our free cash flow was $115 million in the fourth quarter and $333 million for the full year, or 29% of revenue, exceeding the high end of our guidance by $12 million. As a reminder, our full-year free cash flow was positively impacted by a one-time tax refund of approximately $35 million in the first quarter. Excluding the tax refund, normalized free cash flow would have been approximately 26%. The last financial measure that I would like to discuss is our remaining performance obligation, RPO. RPO was just under $2 billion at the end of the quarter, an increase of 28% over Q4 of last year. The current portion of RPO, which we expect to recognize as revenue over the next four quarters, was approximately $1.1 billion. an increase of 27% year over year. It is important to remember that seasonality associated with bookings and contract upselling will cause variability in the RPO growth rates. As such, we believe ARR is the best metric to understand the health and durability of the business as it removes noise associated with the timing of billings. Now let me turn to guidance. We are confident in the long-term growth opportunity for Dynatrace. We believe the addressable market is large and growing. The observability ecosystem is expanding. The demand environment remains healthy. Our product has proven to be highly differentiated, and our financial model is balanced and durable. Near-term, we are mindful of the current macro uncertainty. And while we've seen signs of resiliency in the observability market, We believe it's prudent to continue to factor the dynamic macro landscape into our guidance. Enterprises continue to be cautious in their spending, and our approach to guidance assumes the tighter budget scrutiny and elongation of sales cycles we experienced in the back half of last fiscal year will persist through fiscal 2024. There are a few things to keep in mind with respect to our guidance. First, new logos and net retention rate continue to be the building blocks for future growth in the business. We believe we have the right foundation in place to grow new logos in the low single digits and maintain a dollar-based net retention rate in the mid teens for fiscal 2024. As I mentioned last quarter, we expect roughly a third of net new ARR for the full year to come from new logos and two-thirds is going to come from expansion. Second, with more than 40% of our business denominated in foreign currency, the continued weakening of the US dollar creates a modest tailwind on ARR and revenue. Based on foreign exchange rates as of April 30th, 2023, we expect the FX tailwind to ARR and revenue to be roughly $10 million and $13 million, respectively, for fiscal 2024. And with respect to Q1, we anticipate the tailwind to be roughly $7 million to ARR and an immaterial impact on revenue. Third, as we mentioned in the past, the headwind associated with the wind down of perpetual license is now less than 100 basis point impact. To simplify our ARR reporting moving forward, we will no longer be referring to adjusted ARR growth in our prepared remarks. ARR guidance will be provided on an as-reported dollar basis, and growth rates will be in constant currency. For comparison purposes, we will continue to provide the perpetual headwind detail in our quarterly presentation and in the financial data trends file available on our website. And the final point I'd like to highlight relates to expected increases in cash income taxes and the impact on our fiscal 2024 free cash flow. Given the increasing strength of our profitability, we have fully utilized our NOLs and tax credit carry forwards, and we will be a full cash taxpayer. As such, we expect a significant increase in our effective cash tax rate and related cash taxes in fiscal 2024. And with that as an opener, let's start with our guidance for the full year with growth rates in constant currency. We expect ARR to be between $1.475 and $1.49 billion, representing an ARR growth of 18 to 19%. And as I mentioned earlier, this growth rate no longer excludes the headwind associated with perpetual license wind down. At the high end of guidance, This assumes net new ARR $243 million on an as reported basis. And while we don't guide to ARR on a quarterly basis, we did want to provide you with some color in terms of how we expect net new ARR to come in throughout the year. As I mentioned earlier, we had an exceptional close to Q4 fiscal 2023, which included roughly $13 million of expansions from early renewals expected in the first quarter. As such, the seasonality of net new ARR will be a bit more back-end loaded this year compared to prior years, with roughly 35% landing in the first half of fiscal 2024 and 65% in the back half. Turning now to revenue, we expect total revenue for the full year to be $1.388 to $1.406 billion, up 19% to 20% year over year. Underlying that, subscription revenue is expected to be $1.311 and $1.327 billion, up 20% to 21% year over year. We expect non-GAAP operating income to be between $348 and $358 million, resulting in a non-GAAP operating margin of 25% to 25.5% for the year. At the high end, this represents a 25 basis point margin improvement over fiscal 23. We expect non-GAAP EPS of $0.98 to $1.02 per share, based on roughly 300 to 301 million shares outstanding. Our non-GAAP net income and non-GAAP EPS calculations assume a non-GAAP effective cash tax rate of 19%, due to the notable uptick in cash taxes that I mentioned earlier. We expect free cash flow to be between $303 to $312 million, or approximately 22% of revenue. This is roughly 400 basis points below our normalized fiscal 2023 levels, exclusively driven by the projected increase in our tax rate from 4.5% to 19% in fiscal 2024. The anticipated free cash flow impact from the tax rate increase is approximately $60 million. Free tax free cash flow is expected to grow during fiscal 2024. As a reminder, due to seasonality and variability in billings, we expect higher free cash flow in the first and fourth quarters and significantly lower free cash flow in the second and third quarters. Looking now at Q1, we expect total revenue to be between $325 and $328 million, or 22% to 23% growth. Subscription revenue is expected to be between $306 and $309 million, up 23% to 24% year over year. From a profit standpoint, Non-GAAP operating income is expected to be between $76.5 and $78.5 million, or 23.5 to 24% of revenue. From a seasonality perspective, we tend to see a dip in Q1 and Q4 operating margins due to our annual sales kickoff, payroll tax resets, and our performed customer conference. Lastly, non-GAAP EPS is expected to be approximately 22 cents per share. based on a share count of approximately 296 to 297 million shares. In summary, we are very pleased with our fourth quarter and fiscal 2023 performance. We have a strong track record of consistent execution. And as we have continued to demonstrate, we are committed to maintaining a disciplined and balanced approach to optimizing costs and improving efficiency and profitability while continuing to invest in future growth opportunities that we expect will drive long-term value. And with that, we will open the line for questions. Operator?

Thank you. We'll now be conducting a question and answer session. We ask that you please ask one question, one follow-up, then return to the queue. If you'd like to be placed in the question queue, please press star 1 at this time. A confirmation tone will indicate your line is in the question queue. You may press star 2 if you'd like to remove your question from the queue. Once again, please limit yourselves to one question and one follow-up. Our first question today is coming from Mike Sikos from Niedermann Company. Your line is now live.

Hi, team. Thanks for getting me on here, and I just wanted to circle up on a couple items. I appreciate all the color on the guidance, too. But on the ARR that you guys delivered, and I know that you had cited the early renewals in Q4 here, When I think about the 13 million that came in Q4 that was earlier than expected expansion, those early renewals, is that in any way tied to customers' co-terming licenses? And I guess where I'm going with that is how much is that being influenced by potentially customers adopting DPS? Thank you.

I'll take that, Mike. It's a good question. The $13 million is more, as you can imagine, that we're in our – fiscal year end. And sales is certainly incentive to try to close as much business as possible. And you happen to have customers that are close to their renewals in the first quarter. And in some cases, they were going to be doing expansions anyways. And what we found was we had situations where customers were ready to expand and you know, we had already had the engagement with the customer and we were able to close it a little bit earlier. So it's nothing more than that. So it's not really a matter of more DPS or anything like that. It's just literally just, you know, some customers that renewed early and had some pretty significant expansions associated with them.

Terrific. Thank you for the color on that. And while we're on the subject, I guess I'll just use my follow-up on DPS. Can you help us think about the number of customers that are currently on DPS or what are the early findings as far as how customers are using your platform more broadly once they're on DPS? What are you guys seeing? Because I know that you had called out, you envision this being an ARR accelerant over time. Is there any evidence of that with the customers that have adopted this at the earlier stages? And thank you again.

Hi, Mike. It's Rick. So we now are up from where we were last quarter to about 100 customers on DPS, which were really the largest customers to already about 130. That continues to grow, and we expect to grow over the course of FY24 by many, many hundreds. The feedback from customers on DPS is very strong, and we do see it as ARR accretionary as we look at it. And by the way, we've seen good evidence of this in the existing installed base of DPS customers that we've had on the platform using DPS for some time.

Thank you very much.

Thank you. Next question today is coming from Matt Hedberg from RBC Capital Markets. Your line is now live.

Great. Thanks for taking my questions, guys. Congrats on a really strong quarter. Rick, maybe to start with you, you spent a little bit of time in the quarter marks talking about generative AI being a tailwind to the platform. I guess I'm wondering, from sort of a more holistic perspective, can you talk about the long-term monetization strategy there? I mean, how would we see it show up perhaps in ARR growth in the future?

Thanks, Matt. It is a fascinating time to be in technology is what I would say at the outset. Generative AI, from our point of view, is really all about productivity, whether writing text or developing code, whatever it might be. We see it over the long haul as being upwards of a 10x multiplier in software development efficiency. Given that, that's going to drive a huge number of additional applications. It's going to drive more cloud migration, more workloads, more compute. The result of that is we see it being a tailwind for observability solutions such as ours, especially those with deep automation analytics. Our platform, as I mentioned in the prepared remarks, is already available to handle these workloads. And by handling these workloads today, it's going to be generated through additional compute cycles and additional elements to observe. The other thing I would say, just two quick maybe additional points on this since I figured This would be a key question. First, generative AI and causal AI, which is the brand of AI that we deliver, are highly, highly synergistic. So the causal AI from Dynatrace delivers precise answers and automation from data in real time at scale. And at our perform conference, we announced a new capability called Chat DQL, which is for our Dynatrace query language. What this does is enable customers to use natural language to write DQL queries. So by doing that, we're really bridging the two capabilities together to make the Dynatrace platform more accessible to more users to get more insights out of the causal AI that we deliver. So hopefully that helps provide a bit of color.

It does. Great. Then maybe just a quick one for Jim. The guidance commentary was super helpful. I guess the one other thing I was wondering about is how are you thinking about sales capacity this year? I mean, normally we've got a pretty programmatic view on how you think about adding capacity, but just any color there would be helpful. Thanks, guys.

No, that's a great question. I'll start with we had a fantastic finish to the year. And as we enter fiscal 24, we're actually in a really good position relative to the tenure of our sales organization. So the tenure of our reps that are two plus years is very, very high. So we're in a good position. So, you know, we've got tenured reps and you can expect that we will continue to add capacity probably in the mid to high teens this year. And it'll probably be a little bit more back end loaded, Matt, because obviously we are living in kind of an uncertain macro environment. So we're going to be moderate in the way we increase capacity based on the demand that we see. Thank you.

Thank you. Our next question today is coming from Vinod Srinivasarathavan from Barclays. Your line is now live.

Hi, thanks for taking my question and congrats on the quarter. You know, you, you spoke a bit about this, but can you talk a little bit more about, you know, the rollout of Grail, how customers are experimenting and starting to deploy it as it really does seem like a unique data store to capture and analyze. data for both observability and security use cases? Thanks.

Sure Vinod, let me take that one. The GRAIL remember is simply an underlying core technology that we use in the platform as a data store that is a massively parallel processing data lake house. And what it does is it enables the aggregation of data, whether they be logs, traces, routes, metrics, our smart scape, topology map, et cetera. That then enables us to monetize that through the sale of various different modules, all of which use Grail as an underlying platform element, the first and foremost of those being log management. So the example that I used was a case where we've already got a customer doing mid-seven figures of ARR on log management, which, of course, uses underlying that Grail. So that's the way to think about it.

Thanks. Appreciate that. And then I think rail was initially available on AWS. When do you expect it to be available on all of the hyperscalers?

We continue to work to deliver that, and we expect that we'll deliver that on the next platform over FY24. Thanks.

Thank you. Next question today is coming from Tosh Rangan from Goldman Sachs. Your line is now live.

Thank you very much. Congratulations on the results. I was wondering, Rick, if you could give us your perspective. The mix of business, certainly maybe because of DPS, is becoming less APM-centric and more broadly diversified. Can you talk about the shift in the business and how the go-to-market and product organizations are aligning to increase the sources of revenue the company gets? And also, one for Jim, on DPS, The early cohort of customers, what has been your analysis as to the increased revenue uptake, although early it might be, relative to the previous levels of consumption of the Dynatrace platform? Thank you so much, congratulations.

Thanks, Kash. We see the evolution of the platform and our sales model as being really quite notable in terms of the move from where we were a year ago landing around 50% of new logos on multiple modules, which we consider to be three or more modules. And that number is now up to 65%. So when we've got new customers that are coming in, wanting more of the platform, we think it is strong evidence that they want not just APM from Dynatrace, but they want APM, they want infrastructure, they want application security, digital experience management for real-time user feedback. The net of that is we will expect to see an ongoing evolution toward accessing the platform through one or more of the use cases I described in the prepared remarks, but that ultimately the destination for most of them is really to use the entire platform over the course of time.

Yeah, and the added color on what are we seeing, I would say it's early days. As Rick said, we have roughly 130 customers. They tend to be our largest customers, and we we see very, very healthy expansion with those customers. And to Rick's point, as you more broadly roll it out, it's just a vehicle to make a much more frictionless purchase experience and leverage more of the Dynatrace platform. So in that regard, we just think it's a much better vehicle for customers to grow and expand on the platform.

Maybe, Cassius, to provide a little bit more color on DPS and also for those others on the call, The opportunity around DPS is really quite enormous because this is what customers are asking us for. They have wanted us to deploy a model where they have a single commit that spans the entire platform. And that's precisely what we've delivered with DPS. So single commit, you can use application security, you can deploy log management, you can do trials, you can deploy DEM. All of this with your single contract that is under DPS. So this is why it really is fueling very strong interest in customers to move to this model and why we've enabled it really across the customer base.

Thank you. Our next question is coming from Andrew Nowinski from Wells Fargo. Your line is now live.

Great. Thank you. Congrats on another great quarter and a great close to the fiscal year. I just have two quick questions for you. I want to ask about the Grail and the SaaS platform. How much of a revenue or an AR uplift are you seeing from customers that move from on-prem to your Grail-based SaaS platform?

I would say that it varies, but we see roughly a 10% uplift when customers go from a managed to a SaaS platform.

10%, okay, thank you. And then I want to ask about your operating margin. So you mentioned, I think, Rick, you said you expect modest margin expansion in fiscal 24, but you guided margins flat at 25%. So I'm wondering if you could just put some guardrails around what you consider modest expansion and also whether you have any long-term targets for operating margin that we could think about. Thanks.

Yeah, I mean, so we landed in fiscal 23 at around 25%, and we guided 25 to 25 and a half. So at the high end of the range, what I said is that that's probably about a 25 BIP improvement in margins. As you can imagine, just a reminder, obviously, we are a rare breed of company that has balanced growth and profitability, having growth in the 20s. in margins in the low to mid 20s. So we think we're in a really, really good place. I think there's a significant opportunity for margin expansion long term for the company. We're going to be having an investor day here probably in the future. We haven't set a date yet, and we'll provide more insight on where we think maybe a long term model could be for op margins. But you should expect that we think there's significant room for accretion in the operating model. It's obviously about rate and pace. When do you do that and how do you balance it based on the opportunities that you see in front of you?

Super. Thank you, guys.

Thank you. Next question is coming from Koji Ikeda from Bank of America. Your line is now live.

Thanks, Rick and Jim, for taking the questions. I wanted to ask another question on GRAIL. And we've been hearing from partners that initial testing and proof of concepts have been going pretty well, and really the next step is demonstrating the ability to scale to similar levels to the competition out there, specifically in enterprise log analytics. So I was wondering if you could share some of your thoughts on GRAIL, you know, maybe its ability to scale to the largest workloads, and what specifically from a technology perspective for GRAIL gives you that confidence? You know, maybe I'm just simply underappreciating the power of GRAIL's parallel processing lake house. Thanks, guys.

Koji, we already have a customer doing 100 terabytes or more of storage in real time on Grail. So we think we've already proven that scale and we are POCing it broadly. So we now have well over 300 POCs. That's more than double where we were last quarter this time. And customers are very interested, as I said in the earlier remarks, on testing GRAIL as a mechanism toward both reducing the log management costs as well as increasing its effectiveness.

Got it. Thanks, Rick. And maybe just to follow up, you know, in the prepared remarks, the commentary on the potential AI tailwind sounded pretty bullish. And I was just wondering, you know, just to be super clear here on the FY24 guide, is there any embedded tailwinds from AI in the guidance or, and if there is, Could you please quantify that magnitude? Thanks, guys.

Thanks so much for taking the questions. Right, Koji. No embedded tailwind in AI. This is new. It's exciting. It's rapidly developing. We think it's going to result in added workloads, as we discussed. But there's nothing embedded in the FY24 guide for generative AI.

Thank you, Rick. Thanks so much for taking the questions.

Thank you. Next question today is coming from Will Power from Bayer. Your line is now live.

Great. Yeah, Rick, just want to circle back on generative AI. I appreciate the comments in color earlier on some of the monetization opportunities. I wonder how you're also thinking about generative AI in terms of driving efficiencies in your own underlying businesses. What do the opportunities look like on that front?

Well, it's a really, really good question. The short answer is that just as we expect our customers to gain productivity as a result of large language models, LLMs, as well as generative AI, we expect to do the same. In addition, I mentioned the announcement at Perform around chat DQL. This is really exciting. Imagine if you're a user of the Dynatrace platform today, you have to write DQL queries. Now, the good news is this is a very common language and users have this capability in spades, so that's great. But imagine that we can provide that to be even more accessible by using natural language to query the Dynatrace platform. Very, very exciting in extending the Dynatrace platform to more end users. And then lastly, imagine if you were using one of the hyperscalers generative AI platforms and that you can actually use that to query the Dynatrace data using causal AI, also a strong extension of the platform. So these are some of the areas in which we could imagine this evolving.

Okay, I appreciate that. Maybe just as a follow-up, kind of sticking with the automation analytics theme, coming out of your user conference, a big focus on automation engine, app engine. I wonder if any... Any early color you could provide in terms of customer interest and progress on those fronts?

The way that I would answer that, Will, is that we really do see FY24 as the year of adoption. So we are really driving through our customer success team, our services teams, our SEs and others, trials, POCs, deployment of these capabilities because we think that it makes the Dynatrace platform dramatically more valuable to customers. Obviously, from our standpoint, it creates more stickiness, more ARR generation, all of those elements as well. But the primary value is really to the customer, and that's where we're focused on driving these kinds of POCs. On App Engine, Automation Engine, and others, very good early returns in POCs. Too early to really say too much more about it, but excited with the early returns.

Thank you. Thank you. Next question today is coming from from JP Morgan. Your line is now live.

Oh, great. Hey, guys, congrats on the quarter. Rick, I want to ask you about the DXE and the Deloitte comment that you made. It seems like Dynatrace is becoming part of the reference architectures. Do you see Dynatrace more and more becoming embedded for application development holistically impacting how applications are developed and how any changes to the application impacts the entire stack And as that evolves, does that kind of uplevel the opportunity for Dynatrace?

Two answers to the question. First of all, with respect to the GSIs, becoming part of the reference architecture is really core and a major first step toward making sure that when the GSIs do a digital transformation project, a cloud migration and so forth, that they are thinking about Dynatrace. Because after all, we really do see Dynatrace as an opportunity to make cloud instantiations work better. and the result of that is that we expect that the clients of those gsis will see the same and the gsi's engagement with us is very productive in that regard so that's that is a uh that is a key element of um of of the gsi uh the gsi uh story so let me let me leave it at that for now understood i want to double click on the um the dps accelerant to arr comment um

Can you explain that? Is that largely driven by kind of the higher expansion dynamics that you might be seeing? When do you see DPS start making an impact to ARR numbers? When do we see that over the next two, three years?

Well, we've already seen that in the existing DPS customers. They tend to have higher ARR accretion than non-DPS customers. So we already do see that value to existing DPS customers today. The way that this works is that it creates just a more frictionless expansion opportunity by avoiding additional contracting for new modules. Like, for example, if I've got APM, DEM, and infrastructure, and I don't have to come contract for AppSec or log management, I can just extend those within my existing contract. It creates less friction.

Got it. Thank you. Thank you. Our next question today is coming from Keith Bachman from BMO. Your line is now live.

Hi. Many thanks. The first question I want to revert back to GRAIL is, what do you think the penetration rate will be on GRAIL? So, for instance, we talked to a large customer, said it's inevitable they will adopt GRAIL because of the way the dataset models work relative to the application usage. And so, just wondering how you think the adoption trends will unfold. I know you said there's been a significant increase, I think 300 customers versus 150 last quarter, but where do you see this ending up? And when you reference POC, what did you mean by the customers have signed a POC in terms of, you know, what was the monetization impact? And I have a follow-up, please. Well, I'll just ask my follow-up now. If you could give some update on where security is,

in terms of adoption kind of run rate uh that would be great many thanks well keith on the on the question of pocs this means that customers are deploying pocs they're using it in uh in in trial environments headed to production environments and and testing it out so that's that's that piece uh with respect to the the security piece We, as we said, we have 400 customers now on security. That's about 10% penetration to our installed base. We continue to expect, uh, that to, that to grow and penetration to increase to the point where we said that we expected to do a hundred million over a three year span that gets us there by the end of FY25. We continue to expect that outcome. And then lastly, with our degrail deployment, this is a very important question. Because we expect Grail, just to be very clear, again, as an underlying core technology, to be present in 100% of our installed data over the course of time. Log management using Grail won't necessarily be 100%, but Grail is simply an underlying data store. And that data store will be used across the entire platform.

Okay, yep, that's exactly where I was getting to. Many thanks.

Thank you. We've reached the end of our question. Actually, our final question today is coming from Gray Powell from BTIG. Your line is now live.

Oh, great. Thank you for squeezing me in. I'll be quick. So, yeah, just following up on the security question, what's the typical ASP uplift you get for a customer that takes security? And then on the $100 million target by the end of fiscal 25, just how should we think about the linearity to get there? Thank you.

Yeah, I think obviously the uplift on, if you're talking about AppSec, the uplift on AppSec obviously varies based on the size of the customer. So it's hard to just give you a generic response because of the way we've kind of positioned it. So I can tell you that you can expect in general that at least based on customers that have a reasonable ARR, it's probably a 10% uplift.

Thank you. We reach the end of our question and answer session. I'll turn the floor back over for any further closing comments.

Okay. Well, thank you all very much. In closing, we are very, very pleased with the finish to fiscal 23. We're very bullish about the opportunity that lies ahead, as you can tell. Thank you all for your engaged questions, as well as for your ongoing support. We look forward to connecting with you at upcoming IR events over the coming weeks, and we wish you all a very good day.

Thank you. That does conclude today's teleconference and webcast. You may disconnect your line at this time and have a wonderful day. We thank you for your participation today.