This conference call transcript was computer generated and almost certianly contains errors. This transcript is provided for information purposes only.EarningsCall, LLC makes no representation about the accuracy of the aforementioned transcript, and you are cautioned not to place undue reliance on the information provided by the transcript.
spk09: Good afternoon, ladies and gentlemen. Welcome to the ServiceNow second quarter 2023 earnings conference call. At this time, all participants are in a listen-only mode, and please be advised that this call is being recorded. After the speaker's prepared remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star 1 on your telephone keypad. And if you would like to withdraw your question, simply press star 1 again. And please note that we do ask that you please limit yourself to one question. And at this time, I would like to turn things over to Mr. Dharam Yip, Vice President, Investor Relations. Please go ahead, sir. Thank you.
spk05: Good afternoon, and thank you for joining ServiceNow's second quarter 2023 earnings conference call. Joining me are Bill McDermott, our Chairman and Chief Executive Officer, Gina Matantouno, our Chief Financial Officer, and CJ Desai, our President and Chief Operating Officer. During today's call, we will review our second quarter 2023 results and discuss our guidance for the third quarter and full year 2023. Before we get started, we want to emphasize that the information discussed on this call, including guidance, is based on information as of today and contains forward-looking statements that involve risks, uncertainties, and assumptions. We undertake no duty or obligation to update such statements as a result of new information or future events. Please refer to today's earnings press release and our SEC filings, including our most recent 10Q and 2022 10K, for factors that may cause actual results to differ materially from our forward-looking statements. We'd also like to point out that we present non-GAAP measures in addition to and not as a substitute for financial measures calculated in accordance with GAAP. Unless otherwise noted, all financial measures and related growth rates we discussed today are non-GAAP, except for revenues, remaining performance obligations, or RPO, current RPO, and cash and investments. To see the reconciliation between these non-GAAP and GAAP measures, please refer to today's earnings press release and investor presentations, which are both posted on our website at investors.servicenow.com. A replay of today's call will also be posted on our website. With that, I'll turn the call over to Bill.
spk17: Thank you, Darren, and thank you, everyone, for joining us today. Once again, ServiceNow's Q2 results beat expectations for all key performance metrics. Subscription revenue grew 25% in constant currency, 1% above the high end of our guidance. CRPO grew 24% in constant currency, 1.5% above our guidance. And operating margin was 25%, two points above our guidance. We had 70 deals greater than a million in net new ACV, which was up from 54 a year ago for a 30% increase. As the market consolidates, customers are moving to ServiceNow as the intelligent platform for end-to-end digital transformation. We have now more than 1 trillion workflows running through ServiceNow each year, and that metric is already growing at 40% annually. ServiceNow's long-term trajectory is being supercharged by generative AI. ServiceNow is the most differentiated asset in enterprise software. AI first mover, organic innovation led, fast top line growth, best in class profitability, 99% renewal rate, early stages of cross-sell expansion around our IT moat. We have said consistently, ServiceNow will be the defining enterprise software company of the 21st century. This Q2 beat and raise is another step forward on that journey. Looking at our solutions portfolio, large deals were evenly spread in Q2, which illustrates the broad appeal of this platform. ITSM was in 16 of the top 20 deals, with seven deals over a million. ITOM was in 13 of the top 20, also with seven deals over a million. Together, security and risk combined for 17 of the top 20 with eight deals over a million. Customer workflows had a sensational quarter. It's best net new ACV growth in three years. Customer was in 16 of the top 20 deals with eight deals over a million. Employee workflows were in 14 of the top 20 with seven deals over a million. And creator workflows We're in 18 of the top 20 with eight deals over a million. Great organizations are transforming with ServiceNow, including Barclays, BT, Honda, HP, Petrobras, CSB Bank in India, and Yokohama City in Japan, to name a few. We see a sustained demand environment and pipeline for all of our product businesses, geographic regions, and industry verticals. We're set up very well for a strong second half. As you'll hear from Gina, we are raising our full year guidance for subscription revenue and operating margin. This is an unprecedented market environment for enterprise software. Our good friend and video co-founder and CEO, Jensen Wang, joined us at Knowledge23 earlier this year. And Jensen stated, The expanded NVIDIA ServiceNow partnership is really important. Their partnership of choice for enterprise IT. He thinks it's an exciting growth opportunity for both companies. We agree. We're in the midst of a dramatic expansion of the software economy. In 2023 alone, IDC says platform as a service spending will grow 30%. And software as a service applications will grow 17%. When you correlate that to ServiceNow's platform and our workflow leadership, it's clear we live in a great neighborhood on a super nice street, and maybe we're in the best house. With regard to artificial intelligence, especially large language models, ServiceNow's strategy has been laser-focused for years. We accelerated that focus with our element AI acquisition in 2020. Today, by some estimates, generative AI could boost global GDP by almost $7 trillion. We see unprecedented parallel adoption across consumer and the enterprise. Our platform experts, who have worked for the greatest brands in technology, believe this moment is as transformative, if not even more so, than the internet or even the iPhone. But they're careful to remind me it's all about delivering enterprise-grade domain-specific large language models, which is the core of ServiceNow's AI strategy. These models will improve the accuracy of results, leveraging a customer's enterprise data in alignment with their business rules while maintaining the highest ethical standards for data privacy. As you saw at our Financial Analyst Day, ServiceNow is infusing generative AI into all of our workflow offerings. We have since announced Now Assist for Virtual Agents, which maximizes productivity by eliminating time spent searching for information. Another example is ServiceNow Generative AI Controller. It allows organizations to connect ServiceNow instances to both Microsoft Azure OpenAI service and OpenAI API large language models. We're going even further by expanding our generative AI capabilities with case summarization and text-to-code, text-to-flow, and text to new application development. Our customers are so excited for greater ROI in customer service, better employee self-service experiences, and a substantial boost in developer productivity. They are ready to invest to drive these outcomes. And based on the immense value, our customers will realize from our generative AI innovation, we have a clear strategy for monetization. First, our existing pro offerings had a record quarter in Q2 based on the hyper automation technologies we already engineered into those products. For all new generative AI capabilities beginning with our Vancouver release, we will introduce a new set of premium plus SKU offerings across ITSM, CSM, and HRSD. We have also introduced a new ServiceNow AI Lighthouse customer program alongside NVIDIA and Accenture, all in lockstep to accelerate value realization at the cutting edge of generative AI. Specifically, this involves our engineers locking arms with NVIDIA's to co-develop new use cases for the enterprise. We already have the most significant pharmaceutical, financial services, manufacturing, and healthcare companies engaged with us. Additional customers will become design partners for new AI capabilities in their specific industries. We're currently evaluating a range of customers who are candidates for this program and the interest is continuing to surge. These engagements share one sentiment perfectly in common. The propensity to buy is there. Even as our underlying growth is already strong, as our Q2 results indicate, AI represents a market-making tailwind to ServiceNow. Intelligence is only relevant when it is delivered where work actually gets done. It's why our single architecture Single data model workflow platform has never been more relevant than it is right now. As AI goes to work, humans will be the real machines because in most cases, AI augments people. It doesn't replace them. At a moment when employers face a 17-year high in unfilled job openings, generative AI will lift human productivity so we can chase even bigger dreams for the global economy and for the world. With our integrated suite of automation technologies, including AI, RPA, and process mining, ServiceNow is uniquely positioned to lead the intelligence revolution, and we will. Looking broadly at the state of our business, we have the momentum. With our upcoming Vancouver release in September, our products and engineering team will deliver even more AI innovation. Our partner ecosystem has never been more invested than they are right now. We announced an expanded strategic partnership with Cognizant to accelerate adoption of AI-driven automation. We expanded our partnership with KPMG to co-develop joint offerings through our finance and supply chain workflows. We launched a new collaboration with Guidewire to improve insurance experiences. We're also seeing extensive third-party recognition of our products. ServiceNow has been recognized for AIOps, App Engine, and cloud observability by prominent industry analysts. From customer service to risk to employee experience and ERP simplification, we can go on and on. This has fueled our rise into the Fortune 500 for the first time. And this is another tribute to Fred Luddy's founding vision for a hungry and humble market-leading company. And we're only getting started. In closing, this is a dynamic period for the IT industry. Think about it this way. Every leader in every department, in every business, in every industry is writing a new playbook for the AI world. CEOs are sponsoring them. The C-suite across all functions is funding them. And for the few true platforms, the opportunity is bigger than ever. ServiceNow injects speed into the business architecture. Our platform has become the de facto standard for intelligent automation. We are a growth company. We are profitable and durable. And thanks to the relentless execution, our results speak for themselves. We believe in our people, our culture, our platform, and our partners. The world is changing. Imagination is the only limit. ServiceNow is on the move. The CEO I spoke to this summer summed things up perfectly. She said, and I quote, everywhere I go, people are talking about ServiceNow. Whatever you all are doing, it's working, end quote. That's one of the many reasons we proudly say now as ever, the world works with ServiceNow. Thank you all very much. I look forward to your questions, but first, Let me turn it over to our great CFO, Gina.
spk11: Thank you, Bill. Q2 was another exceptionally strong quarter for ServiceNow. We exceeded the high end of our guidance range for all of our key performance metrics, delivering robust subscription revenue and CRPO growth while continuing to drive operating margin expansion and very healthy free cash flow. Subscription revenues were 2.08 billion, growing 25% year-over-year in constant currency, exceeding the high end of our guidance range by 100 basis points. RPO ended the quarter at approximately 14.2 billion, representing 22.5% year-over-year constant currency growth. Current RPO was approximately 7.2 billion, representing 24% year-over-year constant currency growth. of 150 basis point B versus our guidance. From an industry perspective, transportation and logistics led the way with over 80% growth in Q2, followed by very strong growth in education, business and consumer services, energy and utilities, and government. In fact, US Federal had its best Q2 ever, continuing the trend of strong growth over the past several quarters. Our best-in-class renewal rate was 99% in Q2, demonstrating the resilience of our business as the now platform remains a mission-critical part of our customers' operations. With that foundation from which to grow, top-line strength in the quarter was further driven by healthy expansion of our existing customers. We ended the quarter with 1,724 customers paying us over $1 million in ACV, including 45 paying us over $20 million a 55% increase year over year. The Better Together story is continuing to resonate with C-Suite, driving larger multi-product deals as enterprises are looking to consolidate purchasing with our strategic platforms like ServiceNow. In Q2, 19 of our top 20 deals contained five or more products, with nine of them containing 10 or more products. In addition to our cross sales, our upsell motion also remained very strong. ITSM Pro had its strongest growth quarter since 2020, driven by both upsells from the standard SKU and seed expansions from existing customers. Overall, we closed 70 deals greater than a million in net new ACV in the quarter, up from 54 a year ago, representing 30% year-over-year growth. What's more, 12 of those deals were over $5 million, of which three were over $10 million. We also saw strong performance from our industry SKUs, with our telco and technology SKUs closing six deals over a million in net new ACV, and our newly launched public sector SKU gaining further momentum and landing another seven-figure deal in the quarter. Turning to profitability, non-GAAP operating margin was 25%, 200 basis points above our guidance, driven by continued disciplined spend management. Our free cash flow margin was 21%. I would also note that given our path to sustained profitability, in Q2, we recorded a large gap income tax benefit, reflecting a $965 million valuation allowance release related to our deferred tax assets in the U.S. We ended the quarter with a robust balance sheet, including $7.5 billion in cash and investments. Given the current macro environment and our strong cash position in May, the Board of Directors authorized the company's first-ever share repurchase program. The new program authorizes the purchase of up to $1.5 billion of common stock. The program's primary objective is managing the impact of dilution. Together, these results continue to demonstrate our ability to drive a strong balance of world-class growth, profitability, and shareholder value. Moving to our outlook. While we continue to prudently factor the evolving macro crosswind into our guidance, our first half outperformance has driven strong momentum as we head into the back half of the year. As a result, we are raising our top line and operating margin guidance. For 2023, we are raising our subscription revenues outlook by $95 million at the midpoint to a range of $8.58 billion to $8.6 billion. representing 24.5% to 25% year-over-year growth, or 24% on a constant currency basis. We are raising our full-year operating margin target from 26% to 26.5%. And we continue to expect subscription growth margin of 84%, free cash flow margin of 30%, and gaps diluted weighted average outstanding shares of 206 million. For Q3, We expect subscription revenues between 2.185 billion and 2.195 billion, representing 25.5% to 26% year-over-year growth, or 23% to 23.5% on a constant currency basis. We expect CRPO growth of 25.5% or 21.5% on a constant currency basis. We expect an operating margin of 27%, and we expect 206 million gaps-diluted rated average outstanding shares for the quarter. In conclusion, Q2 was another tremendous quarter of outstanding execution, and we are well positioned for the remainder of the year. Our pipeline remains strong, as we've already seen a half a billion dollars of pipeline generation from our Knowledge 2023 event in May. The week-long event of keynotes, panels, and customer discussions showcase the power and the endless possibilities achievable through ServiceNow workflows, along with the incremental opportunities unlocked with our Gen AI roadmap. Over $3 billion in pipeline attended, with an over 50% increase in executive program attendees. The response has been overwhelming. Our intelligent platform for end-to-end digital transformation uniquely positions us to seize the opportunities in front of us as we continue to deliver durable top-line growth and margin expansion on our journey to becoming the defining enterprise software company of the 21st century. Bill and I would also like to extend a heartfelt thank you to our employees around the globe for their continued hard work and dedication. It's their commitment to excellence which has propelled ServiceNow into the Fortune 500, and we couldn't be prouder. This distinction is a testament to our win-as-a-team core value and a culmination of the outstanding results we passionately delivered together in service to our customers, partners, and investors. With that, I'll open it up for Q&A.
spk09: Thank you, Ms. Max-Antwano. Ladies and gentlemen, at this time, if you have any questions, again, simply press star 1, and you can remove yourself from the queue if you find your question has been addressed by pressing star 1 again. at Morgan Stanley.
spk06: Excellent. Thank you guys for taking the question. And really nice quarter. And what still we understand is it's still not a super solid spending environment. So it definitely looks like ServiceNow is outperforming in that environment. I'm sure the focal point for a lot of investors, though, is going to be on sort of the gen AI. You guys continue to innovate there. You continue to roll out new solutions. I'm not sure if this is for Bill or Gina, but maybe you can help us kind of understand how we should be thinking about the timeframe of, we're going to see some releases in September, but how should we be thinking about the timeframe of when this actually gets adopted by customers? And maybe more for Gina, when should we start to think about seeing actually like revenue contributions coming from these Gen AI solutions in the ServiceNow model?
spk11: Well, thank you, Keith, for all of those comments. Appreciate that. You know, Vancouver launch is the end of September. So if you think about from a timing perspective, we won't see it even in the market really until Q4. I'll let CJ talk a little bit more about our very exciting Lighthouse program. But as we think about, you know, longer-term guidance, right, our scale is such that it's going to take a little while for us to see real impact on the top line. Rest assured, we absolutely are very bullish on the opportunities in front of us as we think about the value that we're creating for our customers with GenAI.
spk16: Thank you, Gina. Thank you, Keith, for the question. And the way I would answer it in terms of the demand that we are seeing from some of the largest companies, some of them that were mentioned earlier from the industry perspective, it's very real. believe that generative AI in context of ServiceNow will deliver higher productivity. And I stay consistent that we are going to monetize only when we get higher values that are delivered for our customer and get a fraction of that value, whether it's 10, 90, or whatever. So if customer gets 100 points of value, ServiceNow keeps 10. Customer gets 90% of the value. What I mean here is our premium skills that Bill outlined will be Pro Plus. So this will be on top of ITSM Pro, CSM Pro, HRST Pro, with an exciting new offering for ServiceNow developers that we showcased at Knowledge, which will be text-to-code, text-to-workflow. These products are being released in September. We will see, we know how Our adoption curve was for IPSM Pro and CSM Pro in 2019. So we have some models. But customers want to try it first, see the value, and then we will share with you at the next earnings on how things are going.
spk15: Understanding.
spk14: Nice job, guys. Thank you, Keith. Thank you.
spk09: We'll go next now to Samad Samana at Jefferies.
spk01: Great. Thanks for taking my question and congrats on the strong quarter. I want to maybe ask a follow-up question. Gina, you mentioned Vancouver's coming out in the end of September. I guess one of the questions I want to ask is, is it changing how customers are thinking about renewal timing? And I want to tie that to maybe the CRPO guidance that you just gave for the third quarter. How should we think about what you're thinking about the release, the new products, and maybe how that informs the short-term guidance that you've just given? for the third quarter and what that maybe implies for the fourth quarter as well, as we think through the rest of this year in particular.
spk11: Yeah, great. It's a great quick question, Samad. And what I say is, listen, at the end of the day, what you've seen quarter after quarter from ServiceNow is solid execution. The demand environment is very durable. And that being said, we continue to be prudent with our guidance, right? At the end of the day, we absolutely believe that generative AI could potentially bring renewals forward, but I'm not baking that into a guide right now. We just don't know what that's going to look like. What I can tell you is that from a, if you think about the Q3 guide versus last year, we have a full year now of slower macro demands, right? So really Q3 is when things started to shift. The Q3 of last year, had an incredible Q4 of 21 and an incredible Q1 of 22 in that CRPO guide. Our CRPO guide now for Q3 is strong. We are reflecting lower level of early renewals as we've continued to see. But you're 100% right. The generative AI potential and opportunity could absolutely have some upside that we've not reflected into our guide right now.
spk14: Great. Thanks for that. Congrats, guys. Thank you, Samai. Thank you.
spk09: We'll go next now to Matt Hedberg at RBC Capital Markets.
spk08: Great. I'll offer my congrats again, guys, on the strong quarter. Hearing seed expansion within ITSM Pro is great, especially when there is some investor questions about fewer IT developers in the Gen AI world. Could you put a little bit more context, I guess, A, on what drove that, and B, given the history, Bill, that you have, What are the long-term trends for developers in this Gen A world? CJ, obviously, you can comment, but I think you'd have some perspective there as well.
spk16: Okay. So, first of all, thanks, Matt, and I will start. As it was outlined, that ITSM Pro, as well as CSM Pro, which are very similar, customer-facing agents and employee-facing agents, had amazing growth in second quarter. And even when I look at the percent of total, I feel very good about the pro trajectory that we have been on in this market for the past few years based on automation and other features that we deliver via pro. Now, on your question on seed expansion, the way I think about it is P times Q times R. where R is the rate of increase. So if you look at ITSM Pro, what we have seen is besides the 25% uplift that Gina shared at the Financial Analyst Day, the seed expansion has been 10%. And 10, so you may ask, okay, why is that? The reason is very simple. As the world is becoming more digitized, as the corporations are becoming more digitized, the incident volumes or a customer service request are going up. So while they are leveraging the Pro features, the seed expansion is not a coincidence because number of incidents, whether you look at security incidents, IT incidents, or digital products continue to go up. And that's why I look at P times Q times R, or R being the rate of increase on the number of, if you keep the quantity constant, that R is driven by higher level of digitization. So when I think about generative AI specifically, we look at this base of pro, and we think about pro plus. And given the value that is already being delivered by pro, pro plus will allow you to gain additional value. for whether it's the employees, whether it's our customers' customers, or whether it's our agents. And that's why we feel very comfortable with the monetization strategy with ProPlus because our customers will get value because of our productivity and will get a small percent of it.
spk17: And Matt, what I would build on from CJ's commentary is this is the entire enchilada as it relates to transforming businesses. Generative AI and these LLM models are now putting CEOs in a position where they have to come up with a new playbook. So if you're talking, for example, to a telecom media and technology CEO, they're thinking, how do I reinvent my customer service orientation, the offers that I'm making? How do I manage the network? How do I deliver great service operations. Similarly, you might be surprised a little bit to know how forward-leaning the public sector is. They're thinking like self-service citizen experience. How do I really rethink citizen-facing assisted services? How do I drive employee productivity and really rethink the way we're running things? And manufacturing, you know, I met with one CEO that for every minute, The shop floor is down or isn't as productive as it should be. Every minute is $500,000. So that factory employee. The sourcing and supply chain. Building a digital factory. How do I rethink sales and service? And healthcare. Healthcare CEO who's running probably the most prestigious healthcare institution in the world said how do I rethink healthcare and completely model something that doesn't exist today as it relates to the patient care and how I can move services from an in-house establishment to somebody's home. Like, it's all on the table. So the point that I want to make is this. ServiceNow is now in all of those conversations. And many of those you might have thought of as, wow, that sounds like ERP modernization. Well, that probably sounds like a supply chain case or a manufacturing case. So actually that's the point. We have become the intelligent enterprise for N10 digital transformation, and we're lifting people out of soul crushing work and modernizing these companies with a 21st century platform that's resonating. You combine that with LLMs, the combination of NVIDIA,
spk14: And others, I really think this is a once in a generation moment. Thank you. Thanks, Matt. We'll go next now to Mark Murphy at J.P.
spk09: Morgan.
spk02: Yeah, thank you a lot, Mike. Congrats. Bill, it sounds like you generated real pipeline coming out of the conference last month. Can you comment on the trend in business confidence and willingness to invest? In particular, is the exit velocity coming out of June and July turning a corner if you think, if you compare to how it felt coming out of April and March? And I'm also just curious, is there more consistency in the U.S. or Europe and Asia at the moment?
spk17: Well, thank you very much for the question, Mark. First of all, when we get to the sea level and we're talking to the corner office, it's all about innovations. And there is no lack of interest in digital transformation. There is no lack of interest in rethinking the employee or the customer experience, or even how you empower people to do their best work, especially engineers and IT professionals, because the digital strategy has become the business strategy. So the whole thing for us is not so much based on one month or one quarter versus another. It's having a chance to portray the broad vision and the completeness of vision we have. with sea level decision makers that understand what transformation really is all about. So that is the only limiting factor, just making sure we get a chance to explain the breadth and depth of our story. In terms of the geographic scenario, we're growing in all of them very well. They each have their own individual scenarios. Obviously, you know, you're well aware of energy insecurity and obviously the Ukrainian situation, which is just a human tragedy. America is extremely strong. Europe is strong in spite of that, because they need technology to dig their way out of a lot of the complexity. And Asia is going well for us, especially Japan. But we have a new leader now, and we really feel like we planted a flag in Japan, and we have a new frontier that's going to grow really fast. So we're feeling good about all the geos. Some of the industries are doing incredible things. And yet, at the same time, I want to make the point Back to the platform, we had 19 of our top 20 deals with five or more products in the deal bomb. And in nine of the deals, we had 10 or more products. And that's a tribute to CJ and his amazing engineering team, but also in concert with Paul and our go-to-market machine, the collaboration on taking innovation from the factory and getting it in the hands of the customer quickly. is really establishing itself as an art form here.
spk14: And I'm super proud of the team, and I just want to give it up for the team. Thank you very much. Thank you. Thanks, Mark. We'll go next now to John DeFucci at Guggenheim.
spk10: Thanks for taking my... Hi, John. Hi, Gina. How are you? Thanks for taking my question. So Gina, you said the Fed vertical or the U.S. Fed had its best quarter ever, which is really interesting. I guess just a little more color on that. Were you referring to new ACV? And if so, whatever you can share with us, like a rough gauge of that, like how much it grew maybe or anything that you can share further on that.
spk11: Yeah. So, John, what I said was that it had its best Q2 ever. And so Q3, as you know, is always the big quarter for Fed. But what I said was continuing the trend. So it had its best Q1 ever. It had its best Q2 ever. It had its best Q4 as well. And so it's not bigger than Q3, but it had a great quarter. It saw $10 million deals, including one over $8 million. And what you're really seeing is that our message around accelerating digital transformation journey is resonating. If you think about what they're looking to really partner with ServiceNow and platforms like ServiceNow, much more through an enterprise lens, more strategic, more multi-year, and they're really looking to digitally transform the citizen experience across the board. We're really excited about the continued trends that we're seeing. We have an incredible new leader in Dr. Roz Iyer doing incredible work with that whole team. And so you can only imagine that the opportunity remains really strong.
spk17: And if I could just build one thing on Gina's commentary, John, you might remember the great Kevin Haverty that ran all of our sales force for double-digit years. Kevin is not only with us, but he oversees the whole government business as an entity for the corporation. And we see amazing opportunities to take what we have done in U.S. federal, also state and local, don't forget, 40 out of the 50 states here are running ServiceNow. We see a great opportunity to take that to Asia, specifically India and Japan, obviously across Europe, Germany, France, the UK, to name a few. And we also see expansive opportunities in the Middle East. And I just wanted to, you know, shout out to Kevin because, you know, him being here and being a part of our future and also mentoring Raj and really building a powerhouse is just so exciting to me personally. And I love the Fed team. And I just want to, you know, give them a little shout out, too, because they're amazing.
spk10: Thanks, Bill. Thanks, Gina. And nice job. Nice job, Kevin.
spk09: Yeah, thank you.
spk11: Thanks, Don.
spk09: We'll go next now to Rob Owens at Piper Sandler.
spk00: Great, thank you for taking my question, and I know there's been a lot of discussion around pipeline and enthusiasm towards the second half, but just want to drill down, I guess, more from an economic standpoint, and there's been a lot of discussion, I guess, around the edges here, but as you look at the second half, willingness to invest from customers, and obviously ServiceNow is taking care and executing this environment, but Do you think that there's an all clear signal here that you're giving us with the strength in this quarter? I just want you to paint the landscape for us, thanks.
spk11: Yeah, I would not say that we're giving you an all clear sign on the economy, right? I think we continue to execute extremely well, but from a macro perspective, I would say that there's not a whole lot of change except for the commentary on GenAI, right? And so everyone is really excited about the productivity gains and the value that GenAI is going to create for the business. What that means for the back half is I believe it's early to tell. But at the end of the day, what I'll tell you is our pipeline remains healthy, and we actually see higher pipeline coverage ratios going into Q3 than we saw last year. a lot of momentum coming out of Knowledge 23. I talked about in my script, over $3 billion in pipeline attended that Knowledge conference, and we saw a 50% increase in the executive program attendees. So if you think of the C-suite, the higher up folks are coming to understand what ServiceNow can do and provide. And so we've created approximately half a billion in pipeline to date out of that event. We continue to see strong demand for our team to fly out and do demos similar to what we presented at K23, especially around GenAI. And so I'd be cautiously, like, there's not a whole lot of change in the macro, but there's a lot of excitement about what GenAI, and in particular, what ServiceNow's GenAI strategy can do for customers in the short, mid, and long term.
spk17: And one set of facts, Rob, that might be interesting to you and others is the loyalty effect. You understand cloud economics, of course, but there's also the human effect of loyalty. Right now, we took a very strong position with our employees that we would remain ever loyal to them, no matter the weather conditions in the marketplace, that we would do it together. we now have the best retention rates in the history of the company. We have 99% retention rate with our customers. So if you take the loyalty effect into consideration and the net present value of what that means, and you combine it with the net new ACV that we think we can get out of this amazing platform and the innovators that are leading the charge for us, we have a tremendous sense of purpose and confidence within the company. And I think that really is fun to watch. And it's pretty thrilling to see what we can do with our customers. And I'm excited about this brave new world. And we're really fired up and ready to go over here.
spk00: Great. Thanks for the finer points around the topic.
spk14: Thanks, Rob.
spk09: We'll hear next from Cash Rangan at Goldman Sachs.
spk18: Thank you very much. One for you, Bill, and one for CJ and Gina. We'll get to you in the follow-up. Bill, when you look at the last 12 months, challenging time for the economy, but ServiceNow, how to execute it, gain share. So when the cycle turns towards being more constructive, what does ServiceNow pricing power look like? And how do you get value for your generative AI investments and gain share of that precious IT budget and One for you, CJ. You talked about $100 of value and how you keep 10. Why not more than 10? And can you tell us how the customer gets that $90 of value? I mean, I'm sure that you've done some process mapping, some fancy math financials, et cetera. I'm just curious to get your thoughts. Thank you so much and congrats once again.
spk17: Yeah, Cash. Thank you so much for the question. You know, first of all, the pricing power in a technology company is always representative of its innovation. And again, I can't thank the leaders from CJ all the way through the engineering organization as company for their great, great leadership. And I believe strongly we have something you can reference that's quite fact-based. We have already introduced AI into the ServiceNow platform for some time, as CJ said, and we're seeing the pro version of the ServiceNow platform grow more than 50%, 5-0% year on year. And in terms of putting a figure on it with ProPlus, where we are building those LLM models into the ServiceNow platform and extending those partnerships, I'll let CJ talk about what we think we can get, but it is on top and it is pretty significant because the business cases for the customers are so compelling. Yep.
spk16: Thank you, Bill, and smart on. So, Cash, you know, We have always thought about pricing of service now in the context of what value our customers get, whether when we launched ITSM Pro, which was exactly five years ago, and we have kept the same price for ITSM Pro for the past five years. Now, in terms of ProPlus, based on very specific use cases, right? So I'll start with specific use cases, which we call domain specific. Those large language models we do not need to run super large language models because we are saying that, hey, for ITSM, this model will give additional productivity on top of Pro. And that productivity based on the use case could be significant. So from a pricing perspective, on the list price, we would like to be at least minimum 60% plus when we start on top of pro. So you're a pro customer, you're already getting the value, we have seen it over the past five years, and we have seen the seat expansion happen as well. So on pro plus, you start with 60% plus, customers are trying out this large language models, the models have accuracy, they are trying to learn themselves, hey, do I take the prediction that comes out of large language models, do I just accept it? But we fundamentally believe, which is what I shared at the financial analyst day, that generative AI is a tailwind for our business, but most importantly, the value that customers get. So I want to start with explaining the value, because you can say somebody is more productive for a particular task that they are repeating over and over again, but what percent of their day they spend on that task? And how do we look at the particular work week for a customer service agent or an IT agent. And then if we can say, okay, for your industry, for these few cases on ServiceNow, we believe we can deliver very high value. And hence, there is a premium via ProPlus. And we'll start with the 1090 map. And as we see more and more value getting delivered, of course, we are going to ask for higher prices.
spk18: Very lucid. Thank you so much. Congrats again.
spk14: Thanks, Cash. Thank you, Cash. We'll go next now to Steve Bachman at BMO.
spk03: Hi. It's Keith Bachman. Thank you very much. I wanted to follow up on that. Just a clarification. In the past, you've had ITSM Pro and Enterprise. Will there still be an Enterprise, or does the ProPlus subsume that in some way? And then the question is that the analyst event that you had, we talked a lot about as GenAI rolls out, you're not sure what the seat count may in fact do, but in the Lighthouse program, I just wondered if you've gotten any perspective from any customers as they're thinking about rolling out GenAI solutions, where you've had additional thoughts or feedback on how that may increase the seed count. I know, Jeanne, you said what the seed count has been doing, so I'm really asking on a prospective basis what seed count may do as you roll out these gen AI solutions for ITSM, CSM, HR, et cetera. Many thanks.
spk16: Absolutely. So, first of all, thank you, Keith. Lots of questions in there. And I would say when we launched ITSM Pro in September 2018, the exact same question was asked. And at that point, I said, okay, listen, even if Q remains the same, with the 50% on the list price uplift, we should be able to deliver value for our customers. And how it has played out, though, is that not only we have been able to get 25% uplift on ITSM Pro, but in addition, the fit count went up by 10%, which is the rate of increase. Now, when I look at generative AI, to answer your first question, not only is ProPlus, because it's also EnterprisePlus. Because enterprise features are things like process mining, workforce optimization, skills mapping for the workforce in IT or customer service. So these are not related to AI feature set. So enterprise has a very different payload than pro. So we are pro plus as well as enterprise plus. So that's number one. And number two, in your question around early customer conversations, customers are still dealing with labor shortage. They are still trying to figure out how they can make their labor force more productive. It is always about efficiency so they can get more work done. And in that environment, I have firm belief right now that generative AI is a catalyst so that their employee base is still more productive. And so even if Q remains the same, I'm still optimistic on the rate of increase as well as the price we will get because of the value we are going to deliver.
spk14: Okay, many thanks. Thanks, Keith.
spk09: And ladies and gentlemen, just a reminder to please limit yourself to one question. We'll go next now to Alex Zukin at Wolf Research.
spk07: Hey guys, thanks for taking the question. I think a lot of us are kind of taken aback by some of the pricing commentary on ProPlus. So I wanted to maybe, I had other questions, but I'll throw them to the side. I guess as we think about the potential for that type of uplift, can you walk us through specifically, is this more going to come from a steep increase? Is it more of a consumption dynamic? Is there any thoughts about the percentage of adoption aspirationally you anticipate throughout your client base? And finally, from an investment perspective, is there a big capex cycle required. You mentioned the intensity of the models might not be needed to be foundational models in every case. So just, you know, can you contextualize some of those points?
spk16: Yes, absolutely, Alex. So I'm going to have Gina answer the capex and cost question, and then I'll answer your question.
spk11: So from a capex perspective, Alex, baked into our margin guide for this year, I'm not concerned, right? So any incremental demand is reflected in the free cash flow for 2023. As we think about going forward at this point, we don't see any large requirements for increases, but as we see where demand kind of starts coming through in Q3 and Q4, the back half of the year, I'll reflect that in my guide for 2024. But rest assured, as you have known us to always do, if there is some pressure on gross margins as a result of a little bit more CapEx, we'll be offsetting that with operational efficiencies as we continue to roll out Gen AI capabilities within our own organization. Got it.
spk16: So, Alex, you know, the two things that I do want to share based on Gina's comments is, number one, we do not require large language models with hundreds of billions of parameters because for our domain-specific use case, we can run what we have seen with text-to-code, for example, is one-tenth the size of OpenAI model. So that allows us to run it efficiently. and allows us to run while respecting the privacy of our customer's data. So that's number one. And that goes into the COGS answer that Gina gave based on the initial demand and customers that we are working with. Now, in terms of your question around P times Q, the uplift that we believe we can absolutely price it at would be on the price so if the quantity remains the same the uplift will be on top of pro with the list price 60 uplift and then of course our sales team works with enterprises counts all that you know how that plays out and that's why if you assume that why is that 60 is the number it is all based on the value that we believe our customers will derive with additional Gen AI features that we are going to release for ITSM or whether it's for customer service management, those things, definitely there is a cost of R&D and as well as cost to run something like that, but it will always be based on the value they get. So I feel pretty comfortable on the uplift list price on that specific price at a seat level. And then the second thing I would say is that we have seen, because of digitization on ITSM Pro, which was the point I was trying to make earlier, the seats have expanded by 10% over the last five years, while the price uplift that we have realized, which was 50% on top of ITSM, and we got 25%.
spk17: And Alex, one thing I would also like you to know, and everybody else, is we're getting a lot of new logos. And every time you get a new logo, you get new seats. The other thing is on the platform expansion in the company, we are now in a world where we're selling multi-product solutions, business solutions to significant companies and industries, and we're communicating with all the personas. So one data point that you might find interesting is in 19 of the top 20 deals this quarter, there was five or more products in there. That's a lot of Cs. In nine of our deals, there was 10 or more products in the deal. And then finally, if you think about large-scale enterprise deals, we are growing our deals in the 20-plus million category 50% year on year. So we're getting a lot of new seats. And I think that is something that you should always keep in mind. New logos, expanding on the platform in every company, going into new geos and new personas, all new seats. And then if you apply the logic of innovation and pricing, as CJ said, you're going to get a lot of good outcomes for the customer and for the shareholders.
spk14: Sounds like a pretty good recipe for success, guys. Congrats. Thank you, Alex. Thanks, Alex.
spk09: We'll go next now to Carl Kirstead at UBS.
spk12: Carl, thank you. Hey, Gina, three months ago, you guys put up a solid quarter, but you did tell us that the FINS vertical, which is one of your largest, felt a little wobbly or macro uncertainty picked up. Do you mind just giving us an update with the passage of three months, how that vertical track for service now in the quarter and how it might through year end. Thanks so much.
spk11: Yeah, so if you remember, I talked about the fact that we actually in Q1, despite the macro stuff going on within that industry, we saw growth in Q1. And that was cycling huge growth in Q1 of 2022. And so we were really pleased with what we saw in Q1. And I would say we continue to see strength in financial services. And we had good growth in there, and actually very good growth. We talked about deals with Barclays, for example. And so we continue to be demonstrating
spk16: really strong value in all our financial services customers so um continued strength their car yeah and i'll just add one thing carl uh on gina's point is that specifically in q2 within finn in the banking sector we saw measurable progress across our portfolio both in the united states and canada as well as in europe so the platform is resonating, the largest of the largest bank expanded. And I can tell you that one bank, which expanded with us, is now close to, at a TCV level, $100 million when they renewed with us in Q2. So we are seeing that banks are back, and there is a very decent pipeline in the second half as well.
spk14: Thank you.
spk09: Go next now to Peter Weed at Alliance Bernstein.
spk04: Thank you. You know, I think one of the areas that you've been emphasizing as kind of a future growth lever has been the ramping up of channel and its ability to really deliver alongside ServiceNow. And in the past, you've talked, you know, maybe 15, 20% of revenue is kind of really channel directed and more was supported. You know, how is that going? And, you know, how large do you see that getting to over the coming year? And is this something that you might start breaking out as something that you might speak about regularly in your earnings going forward?
spk17: Yeah, it's a good question, Peter. You know, one of the things that, I would just share with the group here is we have really, really great partnerships. And I mentioned the Cognizant partnership. They're accelerating their adoption of AI-driven automation with us and taking that to market. KPMG, reimagining finance, supply chain, and procurement. We talked a little bit about Accenture. They're the first mover in joining. the ServiceNow Customer Lighthouse Program. We also have other channel partners that are developing, giving our Salesforce expanded reach, very large technology companies. And, you know, reporting on that might be worth doing in the future, certainly wouldn't be against it. But you're right that a lot of the technology partners, whether they're hyperscalers, they're part of the technology stack, or they're just strong technology companies, they recognize the power of their solutions when you combine it with workflow automation from ServiceNow, because then instead of selling boxes or products in a SKU, they move into business solutions. And then they can customize that story by industry. And we're even having some situation in the channel where we're developing smaller bite-sized turnkey solutions that can be sold in a virtual world. So we can do a lot with the channel. I think it's early days for those technology channel partners. The SIs have all adopted us. All have now, the big ones all have billion plus practices. One is beyond 5 billion.
spk14: So, you know, you're on a good point. And we'll be sure to talk about that a lot. Thank you.
spk09: We go next now to Brad Sills of Bank of America.
spk19: Oh, great. Thank you. I wanted to ask about customer workflows. You called out some strengths there. You can see it in the net new ACV contribution this quarter. We're certainly hearing that from the channel as well. What would you attribute that strength to? It's such a broad portfolio. Are there any applications or use cases that you're seeing there? And might we expect to see create or follow trend that you're seeing there with customer perhaps there's a channel play here where there's some pipeline builds and some execution against that um any color on just what's driving the strength in in customer workflows and could create or follow that thank you yeah so uh thank you so much brad so first of all i would start with uh pro
spk16: for CSN also had its best quarter besides customer workflow overall, including our field service management also had a great quarter. So when I think about this category, we were very good on tying front office to the mid office to the back office. And that has been our differentiator, not just the engagement layer, but actually getting work done when a customer raises a request. And now we have some of the largest brands in the world, which showed up at our Knowledge 23 event on how they are using our customer workflow solution all the way from engagement layer to mid office and back office workflows. So that's number one. The other comments that were shared earlier by Gina is that we are also seeing in certain specific industries, customer workflows resonate really, really well. One is telco that Gina shared on our industry specific skews, but also when I look at public sector, when I look at government to citizen experience, all of that on our ability to get work done on ServiceNow platform and leveraging our back office experience and tying that to the front office is resonating at the largest brands in United States and Europe. remain extremely optimistic on this particular product line as we have transformed how customer can be served better when you tie the front office to the mid office and back office. And on creator, also, you know, very, very nice growth in Q2 driven by just, you know, there was an earlier comment on U.S. federal, but we are seeing App Engine, which provides low-code capabilities for our customers, ability to integrate with all the systems that are available, as well as our platform encryption and just the security features of our platform that is resonating really well from financial services to healthcare and many other organizations. including sub-verticals within public sector. So App Engine, you know, when you think about low code and the text-to-code innovation that we will deliver in September, which we showcased at our Knowledge Conference, there is so much demand and Bill touched on this early on. When I speak to some of our largest customers or mid-sized customers, the backlog on ServiceNow remains very high. And what I mean by backlog, they want to automate more things using ServiceNow. They don't have enough people who can automate more things using ServiceNow. So with generative AI and text-to-code and text-to-workflow capabilities, that's what really excites them so that they can reduce the backlog, automate more using our platform so they get higher value and become an efficient organization.
spk19: Great to hear. Thanks, CJ.
spk09: Thank you, Brad. And ladies and gentlemen, we do have time for one more question this afternoon. We'll take that now from Raimo Lindschau at Barclays.
spk13: Hey, thanks for squeezing me in. Just maybe a quick high-level question on the end. If you think about AI and adoption this year, could be tough for corporates because the IT budget was set for enterprises last year. There was a lot of inflation from the vendor side. And so you're kind of squeezing AI out of a kind of tightened budget. How do you think about next year? And Bill, maybe in some of your conversations with board members, with boards, like how are they thinking about the generational shift and how that impacts how you budget and how you plan for the coming years? Thank you.
spk17: Thank you very much. I want to, you know, go back to one of the comments I made earlier. There is no lack of interest in the C-suite for Gen AI. In fact, every one of them knows they have to have a playbook, and they're extremely focused on this. And most of the really forward-leaning ones are demanding of their C-suite direct reports that they're using this in their everyday business activities to run a better company, to run a more margin-efficient company, and ultimately a company that takes better care of their people and their customers. So this is set in stone now. This is real. This is happening. And what's interesting about IT budgets, and this is something that I shared a little bit with Alex earlier, we're in IT as the standard, which is great. Because the IT strategy has easily become the business strategy. But we are now going across all the personas in an enterprise. And what's great about the cloud business model, a lot of these personas have their own budgets, and they're going to fund their own initiatives. And they're looking at ServiceNow now as a company that can fundamentally change the game. So I think that the future is bright. And whether you're thinking about customer and employee service desk where you have virtual agents that are serving queries and general how-tos. You think about text to code. You think about automating class, classification of different cases and how you resolve them. How you take operational support, not only across IT, but proactively manage cases that go through all the other departments. how you have touch list correspondence, and literally onboard all the business processes. So if you're Gina, you're thinking about, you know, who are my partners? Who am I going to procure things from? How am I going to make this onboarding process and all the visibility into all business operations completely seamless? So this is what's happening in every company right now. And I think we're going to be a big benefactor because we became a platform company And we now have the relationship capital with these executives to go way beyond just the IT budget. Not that that's not a good place to be, but it's better when you can go into the entirety of the budget. And that's where all the user counts are. That's where the business model innovation is. And that's where we have the biggest impact. So that's where we're going to be. So I think the future, as you look into 2024, is going to be extremely bright. And I think we have to now do all the hard work to make sure we're the benefactor of a big cut of that overall budget in the company, whether it's at the department level or the central IT level.
spk14: Yep. Okay. Excellent. Thank you. Congrats. Thank you very much, Raymond. Thank you. And ladies and gentlemen, that will bring us to the conclusion of the service now second quarter 2023 earnings call.
Disclaimer