PagerDuty, Inc.

Good afternoon, and thank you for joining us to discuss PagerDuty's third quarter fiscal year 2023 results. With me on today's call are Jennifer Tejada, PagerDuty's chairperson and chief executive officer, and Howard Wilson, PagerDuty's chief financial officer. Before we begin, let me remind everyone that statements made on this call include forward-looking statements based on the environment as we currently see it. which involve known and unknown risks and uncertainties that may cause our actual results, performance, or achievements to be materially different from those expressed or implied by the forward-looking statements. These forward-looking statements include our growth prospects and future revenue, among others, and represent our management's belief and assumptions only as of the date such statements are made, and we undertake no obligation to update these. During today's call, we will discuss non-GAAP financial measures, which are in addition to and not a substitute for or superior to measures of financial performance prepared in accordance with GAAP. A reconciliation between GAAP and non-GAAP financial measures is available in our earnings release. Further information on these and other factors that could cause the company's financial results to differ materially are included in filings we make with the Securities and Exchange Commission. including our most recently filed Form 10K and 10Q, as well as our subsequent filings made with the SEC. With that, I will turn the call over to Jennifer.

Thanks, Tony, and thanks, everyone, for joining us today. We are pleased to report another quarter of strong results as we continue to execute on our operations cloud vision. Revenue grew 31% year over year to $94 million, above the high end of our guidance and marking our sixth straight quarter of growth above 30%. In Q3, we achieved non-GAAP profitability, a quarter ahead of our previous guidance, with $3 million in operating income, an improvement of 1,000 basis points over Q3 last year. We exceeded the high end of our guidance ranges for both top and bottom line and realized our profitability milestone a quarter ahead of schedule. We continue to see strength in our focus segments, mid-market and enterprise. Our customer cohort, spending over $100,000 in ARR, grew 31% over last year. Total free and paid customers on our platform grew 22% year-over-year. Dollar-based net retention was 123%, as our customers continued to expand to users and adopt more products and services. In the quarter, more than half of our ARR came from customers with two or more products. While the macro environment is likely to remain a headwind for our business in the near term, we continue to see positive trends underpinning our performance and remain bullish about both long-term opportunities and our balanced growth investment plans. First, we continue to see strong growth in incident response. Cloud adoption and digital acceleration are enduring multi-year initiatives. DevOps transformation is now required to achieve the efficiency demanded by this macro environment. PagerDuty is essential infrastructure, leading to some large digital transformation wins in traditional industries, which I will discuss later. Second, we saw solid adoption of new products, especially automation and our AIOps solution, where customers chose the efficiency and effectiveness of our integrated operations cloud, offering ahead-of-point solutions. Third, our low cost of ownership and fast time to return on investment makes PagerDuty more attractive to customers than expensive, long deployment solutions. Our sales pipeline is strong, heading into Q4 for both incident response and new products. Finally, we have positioned ourselves well to navigate the challenging macro environment, achieving profitability by improving our cost structure such that we can continue to invest in growth capacity and product innovation. During Q3, we extended our competitive lead as we balanced strategic investments in product innovation and growth, while also significantly improving operating leverage. Our results this quarter demonstrate the continued strength of our value proposition for enterprises and our team's ability to execute with an increasingly efficient go-to-market motion. PagerDuty's Operations Cloud underpins operational resilience and digital maturity for our customers at a moment when they need it more than ever. Automation capabilities integrated across every aspect of the platform reduce time and effort spent by technical employees managing interrupt work and translate to both money saved and better experiences for their customers. Our ability to orchestrate digital operations across the entire enterprise makes PagerDuty the platform onto which companies are consolidating previously fragmented tech spending. As organizations come under pressure to protect revenue, prioritize IT spending, and do more with less, our customers have made it clear they consider PagerDuty essential. This was validated as we closed a record number of mid-market and enterprise expansion transactions managed churn well below 5% of starting ARR, and increased both average revenue per user and average revenue per customer. Our mission to revolutionize operations has always been grounded in building a durable growth company while improving the efficiency of our go-to-market and G&A spend. We are investing to deepen our competitive moat through innovation in AIOps, automation, customer service operations, and flexible workflows that help teams across the enterprise manage interrupt work. Our efforts over the past year to sustainably lower our cost structure with new, lower-cost, high-talent locations like Lisbon will enable ongoing operating leverage improvement similar to the pace we have delivered this financial year. In a volatile macro environment, we are controlling the controllables with the objective of continuing to make demonstrable progress from the early 30s towards operating as a Rule 40 company. Given our role as essential infrastructure, our loyal customer base, and our competitive track record and our innovation roadmap, we are positioned to weather this environment well. We are confident that we will emerge stronger as a high performing, profitable growth company, the leading operations cloud for modern enterprises. In November, we announced early availability of more flexible incident workflows that enable PagerDuty customers to tailor workflows to different use cases and automate steps when a major incident occurs. We launched capabilities to reduce noise and improve developer productivity so our customers can take back hours of engineering time. Over time, flexible workflows will be the primary solution to enable non-technical teams to manage interrupt work. Earlier this week at AWS reInvent, we also announced automation actions for PagerDuty AWS customers. These capabilities improve resiliency and increase the use of best practices, all by saving developer time. Freedom Pay, a data-driven commerce platform, is saving the equivalent of four people's dedicated time, making their critical processes more reliable and removing the risks of human error by automating tasks with PagerDuty. During Q3, a Fortune 100 global security and aerospace company nearly doubled its PagerDuty user footprint on digital operations and signed a multi-year contract. This long-term PagerDuty customer is realizing a return on investment in excess of 30 times its annual spend with us. In the last 18 months, this customer significantly reduced its mean time to resolve incidents, translating into tens of millions of dollars in savings. Their expansion with PagerDuty was explicitly due to our ability to reduce their costs while also freeing up time for their innovation teams. In the quarter, an Australian-based home improvement retailer, in the midst of a large-scale digital transformation, expanded its investment with PagerDuty. The customer has nearly doubled its PagerDuty footprint since its initial deployment in 2020. This quarter, they adopted PagerDuty process automation to address more advanced use cases, including automated diagnostics and auto remediation. They expect to increase engineering productivity and resolve incidents faster as we advance their digital maturity. Also during the quarter, a multinational Fortune 200 wireless technology innovator turned to PagerDuty to consolidate digital operations on an integrated platform for action. The company sought a more flexible solution that could provide faster time to value, lower maintenance costs, visibility across multiple departments, and ultimately consolidate their tech spend. They had been using a point solution for AIOps in their IT service center for several years, but upgraded to PagerDuty digital operations, automated actions, and event intelligence, replacing that vendor and signing a multi-year six-figure investment. Their expansion with PagerDuty enables them to automatically detect, action, and manage all in the same platform. PagerDuty is central to their technology strategy to exponentially scale services while keeping service costs low. They anticipate payback in less than a quarter and a return on investment of nearly 500% within the first year. Our value proposition has proven resilient, even as decision-making within organizations becomes more cautious. PagerDuty's Operations Cloud is the only platform integrating incident response, AIOps, and automation. We deliver tangible ROI and fast time to value, help mature our customers' digital operations, and deliver operational resilience, which is critical in today's environment. As customers realize the initial value, they adopt new products, expand users, and move towards more advanced use cases. In an environment where it's much easier to sell more to current customers than find new ones, we have several new products to attach as the result of our recent innovation and a large under-penetrated opportunity within our installed base. The operating leverage PagerDuty exhibited during the third quarter is the outcome of structural changes implemented throughout the past several years to generate profitable growth. We have responded to the recent changes in the demand environment by accelerating the implementation of several efficiency initiatives, including standardizing our go-to-market motions across regions, opening lower cost, high talent employee locations, improving our digital marketing returns, and refining our R&D investments. We continue to expand our operating margins as we move forward into the next fiscal year. We are executing well on our long-term operations cloud strategy, balancing growth and profitability. We were recently recognized on several fronts for progress that will also support success in FY24. Earlier this week, we were honored at AWS reInvent to receive the Rising Star Award, celebrating significant year-over-year growth in our business on the AWS marketplace. And we expect our momentum with AWS to continue. Our investment in attracting and retaining top talent, creating an inclusive workspace, and ensuring a healthy company culture manifests in the success of our teams. During the quarter, we won multiple Stevie Awards, including for Special Achievement in Workplace Health and Wellbeing and for Best Corporate Social Responsibility Strategy. This fall, Trust Radius recognized PagerDuty as a Tech Care Awards winner for our ongoing commitment to corporate social responsibility. Finally, G2 named PagerDuty a leader in incident response, AIOps, and workload automation. Our results from Q3, the persistence of long-term tailwinds, and customer demand for our high ROI, fast time to value platform, reinforce our confidence in our ability to both execute well in the near term and emerge even stronger. Even as we scale efficiently, we know that innovation fuels our competitive advantage. PagerDuty is the partner our customers trust on their worst days. It is our responsibility and our privilege to deliver for them. As we move into FY24, we expect to continue monetizing our product investments as customers see value from PagerDuty's Operations Cloud. I want to thank our customers for their trust and partnership, and I want to recognize our global Duttonians for their dedication to championing our customers for their resilience and for their great execution this quarter. With that, I'll turn the call to Howard and look forward to your questions.

Thank you, Jen, and good day to everyone joining us on this afternoon's call. Our third quarter results demonstrated the agility of PageDuty and our commitment to profitable growth. The combination of our ongoing programmatic efforts as well as our operational agility enabled us to reach the profitability target put forth during our Q4 FY22 call one quarter earlier while preserving our strategic growth investments. Evidence that PagerDuty's operations cloud is well positioned to meet our customers' challenges, reducing costs, protecting revenue, and retaining talent, and enabling them to do more with less. Unless otherwise stated, all references to our expenses and operating results are on a non-GAAP basis and are reconciled to our GAAP results in the earnings release that was posted before the call. Revenue was $94 million in the third quarter, up 31% year over year. The contribution from international was 23% of total revenues compared to 24% in Q3 of last year, reflecting the challenging economic environment in Europe. Our customers continue to expand with us, adding new users and new products. We had a record number of customers expand with us this quarter. While many of these transactions were on the smaller side, the volume of customers demonstrating their reliance on PagerDuty, even in a challenging environment, is a further testament to our durable growth. We saw the most strength in our North American mid-market and enterprise business and PagerDuty Online, our self-service business. We did notice an increase in customer approval requirements, particularly with larger deals. We delivered dollar-based net retention in Q3 of 123% compared to 124% in the same period one year ago. We expect dollar-based net retention to be at or above 120% for Q4. Customers spending over 100K in annual recurring revenue grew to 710, up 31% from a year ago, demonstrating our ongoing strength in mid-market and enterprise. Total paid customers increased by 5% annually to 15,265 compared to 6% in the year-ago period. Free and paid companies on our platform grew to over 23,000, an increase of approximately 22% compared to Q3 last year. Q3 gross margins of 85% remained within our target range of 84% to 86%. Operating income was $3 million or 3% of revenue, an improvement compared to a loss of $5 million or negative 7% of revenue in the same quarter last year. Please note the fully diluted share count associated with Q3 profitability was 101 million weighted average shares. Operating margin outperformed by 600 basis points compared to the high end of our guidance range for the quarter as we accelerated our scaling initiatives, refining our go-to-market model, leveraging our global locations, and increasing use of automation. We usually experience a sequential improvement in operating income from Q3 to Q4. However, this year we expect operating income to decline marginally in Q4. This is primarily due to our investment in AWS reInvent, as well as a full quarter of expenses from third quarter hires. Now to cash, third quarter cash from operations was nearly break even at negative $0.4 million compared to $3 million in Q3 of last year. Free cash flow was negative 2 million compared to positive $2 million in the year ago period. We expect positive free cash flow in the fourth quarter. Turning to the balance sheet, we ended the quarter with $459 million in cash, cash equivalents and investments. Total deferred revenue ended the quarter at $180 million, up 26% year over year. Quarterly calculated billings were $104 million, which was an increase of 29% year over year, ending above the 20 to 25% range provided during last quarter's call. This result includes approximately $2.6 million in prepaid multi-year billings. Adjusting for this, the increase was 26% and also above the range provided. Last year in Q4, we had strong 30% billings growth that included $3.2 million of multi-year prepaid contracts that are not available for renewal this period. Given a tougher compare and adjusting for the volatile macro, we expect billings growth for Q4 to be approximately 20%. Given quarter-to-quarter fluctuations in billings associated with our co-term practices, we focus on trailing 12 months billings. On a trailing 12 months basis, billings were $385 million, an increase of 30% compared to a year ago and above the 27% estimate previously provided. We expect trading 12 months billings growth exiting the fourth quarter to be at or above 25% over last year. Turning now to our guidance. Our guidance reflects our understanding and consideration of the impacts of the current evolving uncertain macro environment. For the fourth quarter fiscal 2023, we expect revenue in the range of 98 to $100 million, representing a growth rate of 25 to 27%. and net income per diluted share attributable to PageDuty Inc. in the range of two to three cents with fully diluted shares outstanding of approximately 102 million. This implies an operating margin in the range of one to 2%. For the full fiscal year 2023, we expect revenue in the range of 368 to $370 million, representing a growth rate of 31%. And we're improving guidance for net loss per share attributable to PagerDuty Inc. to 1 cent to break even with basic shares outstanding of approximately 90 million and fully diluted shares outstanding of approximately 101 million. This implies an operating margin of negative 1% to break even for the year. Before I close, I would like to thank our customers for their continued partnership and for our teams across the globe who champion them. Our rapid pace of innovation positions us to realize our vision to transform critical work and revolutionize operations. We remain confident in our operations cloud strategy, the market opportunity, and our performance as we continue to demonstrate profitable growth, expanding our operating leverage in Q4, and in a strong position to achieve a similar level of improvement in the next financial year. With that, I will open up the call for Q&A.