Adobe Inc (ADBE) 2016 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen.

I would like to welcome you to the Adobe Systems second-quarter FY2016 earnings conference call.

(Operator Instructions)

Thank you.

I would now like to turn the call over to Mr. Mike Saviage, Vice President of Investor Relations.

Please go ahead, sir.

Good afternoon and thank you for joining us today.

Joining me on the call are Adobe's President and CEO, Shantanu Narayen, and Mark Garrett, Executive Vice President and CFO.

In the call today, we will discuss Adobe's second-quarter FY16 financial results.

By now, you should have a copy of our earnings press release, which crossed the wire approximately one hour ago.

We've also posted PDFs of our earnings call prepared remarks and slides, financial targets and an updated investor data sheet on Adobe.com.

If you would like a copy of these documents you can go to the Investor Relations page and find them listed under quick links.

Before we get started, we want to emphasize that some of the information discussed in this call, particularly our revenue and operating model targets and our forward-looking product plan, is based on information as of today, June 21, 2016, and contains forward-looking statements that involve risk and uncertainty.

Actual results may differ materially from those set forth in such statements.

For a discussion of these risks and uncertainties you should review the forward-looking statements disclosure in the earnings press release we issued today, as well as Adobe's SEC filings.

During this call we will discuss GAAP and non-GAAP financial measures.

A reconciliation between the two is available in our earnings release and in our updated investor data sheet on Adobe's Investor Relations website.

Call participants are advised that the audio of this conference call is being webcast live in Adobe Connect, and is also being recorded for playback purposes.

An archive of the webcast will be made available on Adobe's Investor Relations website for approximately 45 days, and is the property of Adobe.

The call audio and the webcast archive may not be rerecorded, or otherwise reproduced or distributed without prior written permission from Adobe.

I will now turn the call over to Shantanu.

Thanks, Mike, and good afternoon.

In Q2 Adobe delivered another record quarter, reporting revenue of $1.4 billion, GAAP earnings per share of $0.48, and non-GAAP earnings per share of $0.71.

Our momentum is a result of the continuous delivery of breakthrough product innovation across each of our three cloud offerings.

We advanced our strategy of enabling the world's biggest brands, governments and educational institutions to develop well-designed data-led and personalized digital experiences to their customers across every channel.

In our Digital Media segment, we exited Q2 with $3.41 billion of annualized recurring revenue, a net increase of $285 million.

We exceeded our ARR target as a result of continued adoption and retention of Creative Cloud and Document Cloud across all customer segments.

Creative Cloud is the one-stop shop for creatives, from inspiration to monetization.

Q2 ARR performance was driven by strong demand across all offerings, routes to market, and geographies.

We continue to execute against our strategy of migrating CS customers, expanding into new market segments, and adding value by introducing new services.

In addition to continued strength on Adobe.com, we were particularly pleased with the strength of renewals of enterprise term license agreements, which drove an increase in enterprise ARPU.

Creative Cloud innovation continues at a torrid pace.

Our goal is to make the creative process more fun, seamless and efficient for creatives, enabling them to go from a blank page to a brilliant composition in record time.

We announced a major Creative Cloud update today that includes new features in flagship applications like Content Aware Crop in Photoshop, performance enhancements in cross-product capabilities like Creative Sync, and a significant update to Adobe Stock, which now includes a premium collection of stock content and deeper integration within the CC desktop and mobile applications.

We believe this innovation will promote migration and enhance retention.

We continue to introduce new applications to target new design categories.

Adobe XD, our solution for user interface design, has already garnered more than 200,000 downloads as a preview release.

In addition to delivering cutting-edge innovation for use by professionals, we are excited about the broader opportunity to enable anybody with an idea to create and share high-impact visual stories.

Adobe Spark was introduced in May to address this need, and enables students and consumers to create professional quality social posts, web stories and animated video in minutes.

Adobe Document Cloud, the leading digital document service, enables businesses to transform inefficient paper-based processes into 100% digital workflows.

Net new Document Cloud ARR grew quarter over quarter, demonstrating the continued momentum of this business.

Document Cloud revenue was $188 million in Q2, and we exited the quarter with $415 million of Document Cloud ARR.

Cross-cloud integration remains a high priority for Adobe.

In April, we announced the first integration between Adobe Sign and Adobe Experience Manager, eliminating the cost and frustration of manual, paper-based processes for enrollment, onboarding and servicing across the customer journey.

We announced new Document Cloud storage integrations with Box and Microsoft OneDrive to seamlessly and securely connect workflows across enterprise content collaboration platforms.

In our Digital Marketing segment, Adobe Marketing Cloud remains the leader in the emerging, high-growth customer experience category.

Through our unique combination of content and data, Adobe Marketing Cloud enables businesses to deliver highly personalized digital experiences across devices and digital channels Adobe Marketing Cloud customer retention remains high and we continue to drive adoption of multiple solutions by our customers.

Q2 customer wins include Southwest Airlines, eBay, the NFL, FedEx, American Red Cross, Logitech and Singapore Workforce Development Agency.

In Q2 we had record attendance at Adobe Summit events in Las Vegas and London, as well as Symposia in Mumbai and New York.

We unveiled the next generation Adobe Marketing Cloud, shared our Adobe Cloud platform roadmap, and announced the Adobe Marketing Cloud Device Co-op, a network that will enable the world's biggest brands to work together to better identify consumers across digital devices.

A key takeaway from these customer events was the strong growth of partners and developers who are building vertical applications on our platform.

In March we announced Adobe Primetime over-the-top capabilities that make it easy for TV networks and pay-TV providers to bring more personalized TV and ad experiences directly to consumers via Apple TV, Microsoft Xbox, Roku and other connected devices.

In May, we introduced expanded virtual reality and augmented reality capabilities within Adobe Primetime, with ad insertion, digital rights management and playback.

In May we acquired Livefyre, a social content curation company.

Livefyre will continue to be available as a standalone service and will be integrated within Adobe Experience Manager.

With this integration, customers will be able to collect, curate and publish user-generated content from major social networks into digital experiences across their owned marketing channels.

Based on these announcements, innovation and momentum, industry analysts continue to recognize Adobe's Marketing Cloud solutions as market leaders in their respective categories.

In Q2, Adobe's Campaign solution was named a Leader by both Gartner and Forrester Research in their 2016 Magic Quadrant for Multichannel Campaign Management and the 2016 Cross-Channel Campaign Management Wave reports, respectively.

Last week Gartner named Adobe as a Leader in its 2016 Magic Quadrant for Mobile Application Development Platforms report.

Finally, Forrester Research recognized Adobe as a leader in its 2016 Enterprise Marketing Software Suites Wave report, where we once again received the highest scores for our overall Adobe Marketing Cloud offering and strategy.

In Q2, Adobe Marketing Cloud managed nearly 19 trillion customer data transactions for our customers, reinforcing Adobe is the leading big data company in digital marketing.

With unique insights from this data, we launched our new Digital Economy Project in March, which has quickly garnered broad attention as a critical indicator for the US digital economy.

The monthly report includes a digital price index, a housing index and a job seeking index.

Dealing with digital disruption is the main concern we hear about in every meeting we have with business, education and government leaders the world over.

A key strategy for dealing with this disruption is to deliver a compelling digital experience, which is the new basis for customer satisfaction, loyalty and growth.

This business imperative creates great opportunity for Adobe, and we are the only company that helps with every stage of a digital experience, from creation through monetization.

With another strong quarter behind us, we continue to be bullish about our growth prospects.

Mark?

Thanks, Shantanu.

In the second quarter of FY16, Adobe achieved record revenue of $1.399 billion, which represents 20% year-over-year growth.

GAAP diluted earnings per share in Q2 were $0.48 and non-GAAP diluted earnings per share were $0.71.

Revenue came in above the midpoint of our targeted range, GAAP earnings were at the high end of our targeted range, and non-GAAP earnings were above our targeted range.

These strong results reflect continued momentum across our business.

Highlights in our second quarter include strong growth in Digital Media ARR, which reflects the overall health of our Creative Cloud and Document Cloud businesses; record Creative revenue of $755 million, which represents 37% year-over-year growth; record Adobe Marketing Cloud revenue of $385 million, which represents 18% year-over-year growth.

Strong growth in operating and net income, with cash flow from operations of $489 million and 81% of Q2 revenue, was from recurring sources.

In Digital Media, we grew segment revenue by 26% year over year.

More importantly, we exceeded our Q2 target for Digital Media ARR.

We added $285 million during the quarter and exited Q2 with $3.41 billion.

Within Digital Media, we delivered Creative revenue of $755 million, which represents year-over-year growth of 37%.

We increased Creative ARR by $263 million during Q2.

Driving this momentum was continued strong demand for Creative Cloud across all offerings and routes to market during the quarter, including net new Creative Cloud subscriptions.

Retention rates remain consistent with prior periods.

We continued to execute well against our key Creative Cloud opportunities, growing our core base of us users, including migrating the legacy user base of Creative suite users; and growing our installed base in the education market, driving new customer adoption in adjacent markets with market expansion efforts such as the photography plan and using Creative Cloud mobile apps to drive new member adoption; and achieving higher ARR with value expansion services such as Adobe Stock where revenue has grown sequentially over each of the past three quarters.

With Document Cloud, we achieved revenue of $188 million which was in line with our expectations.

In addition, Document Cloud ARR exiting Q2 grew to $415 million, which represents higher quarter-over-quarter growth when compared to Q1.

We continue to drive adoption of Acrobat subscriptions and value-add services such as Adobe Sign, which is benefiting ARR and building a foundation for growth in the future.

In digital marketing, we achieved record Adobe Marketing Cloud revenue of $385 million, driven by multi-solution adoption.

We achieved another strong quarter with Adobe Campaign and Adobe audience Manager is becoming a strategic asset, as our customers are increasingly utilizing data to enhance their digital marketing programs to deliver personalized engaging experiences.

In Q2 for the first time, mobile transactions grew to 50% of total Adobe analytics transactions.

From a quarter-over-quarter currency perspective, FX increased revenue by $5.2 million.

We had $3.6 million in hedge gains in Q2 FY16 versus $3.2 million in hedge gains in Q1 FY16, thus, the net sequential currency increase to revenue, considering hedging gains, was $5.6 million.

From a year-over-year currency perspective, FX decreased revenue by $21.7 million.

We had $3.6 million in hedge gains in Q2 FY16 versus $22.2 million in hedge gains in Q2 FY15, thus the net year-over-year currency decrease to revenue, considering hedging gains, was $40.3 million.

In Q2, Adobe's effective tax rate was 26% on a GAAP basis and 21% on a non-GAAP basis.

Our GAAP tax rate was higher than expected, primarily due to the acquisition of Livefyre.

Our trade DSO was 43 days, which compares to 39 days in the year-ago quarter and 42 days last quarter.

Cash flow from operations was $489 million in the quarter.

Deferred revenue grew to $1.68 billion, up 37% year over year.

Our ending cash and short-term investment position was $4.32 billion, compared to $4.1 billion at the end of Q1.

In Q2 we repurchased approximately 2.2 million shares at a cost of $205 million.

We currently have $1.2 billion remaining under our current authority granted January 2015.

I'll now provide our financial outlook.

Based on our strong first-half performance and business momentum, we expect to meet or exceed our FY16 annual targets, which we raised in March.

We expect the second half of the year to play out as we outlined in our Q1 call.

We are targeting a third-quarter revenue range of $1.420 billion to $1.470 billion.

In Digital Media, we expect to add approximately $285 million of net new Digital Media ARR during Q3, with strong year-over-year Digital Media segment revenue growth.

In Digital Marketing, we expect continued momentum in bookings and approximately 7% year-over-year Adobe Marketing Cloud revenue growth in Q3, factoring in the strong perpetual revenue in the year-ago quarter.

We are targeting our Q3 share count to be between 504 million to 506 million shares.

We expect net non-operating expense to be between $11 million and $13 million on both a GAAP and non-GAAP basis.

We are targeting a Q3 tax rate of approximately 24% on a GAAP basis and 21% on a non-GAAP basis.

These targets yield a Q3 GAAP earnings per share range of $0.46 to $0.52 per share and a Q3 non-GAAP earnings per share range of $0.69 to $0.75.

In summary, Q2 was another solid quarter for Adobe and we look forward to our momentum continuing in the second half of FY16.

Mike?

Thanks, Mark.

A few weeks ago we opened registration for Adobe MAX, which is our user conference for our Creative business that will be held on November 2 through November 4. This year MAX moves to San Diego and we will host a financial analyst meeting on the first day of the conference, which is Wednesday, November 2. Next week we will send an invitation out to our investor e-mail list to attend MAX at a discounted price.

If you have any questions please contact Adobe Investor Relations with an e-mail to IR@Adobe.com.

For those who wish to listen to a playback of today's conference call, a web-based archive of the call will be available on our IR site later today.

Alternatively, you can listen to a phone replay by calling 855-859-2056.

Use conference ID number 18786308.

International callers should dial 404-537-3406.

The phone playback service will be available beginning at 5 PM Pacific time today and ending at 5 PM Pacific time on June 24, 2016.

We would now be happy to take your questions and we ask that you limit your questions to one per person.

Operator?

(Operator Instructions)

Your first question comes from the line of Kirk Materne with Evercore ISI.

Your line is open.

Thanks very much and congrats on the quarter, guys.

Mark, I had a question just on the guidance around the Digital Marketing business.

I realize that there's been some changes in how the rev rec's been going given the shift from perpetual to more subscription-based rev rec.

But this next quarter, even when you adjust for some of the deals that fell into 3Q last year, which I understand creates a bit of a tougher comp, it seems like that gap between bookings in that segment and revenue growth still isn't closing perhaps as fast as one might be thinking.

So, can you just walk you through that if there's changes in terms of implementation times or taking longer, so there's some issue there, or you have longer deals that are being spread out over, say, six quarters versus four.

I just want to get a sense on when do we start to see the inflection in the revenue growth in that business come back into line a little bit closer with the bookings trends.

Thanks.

Yes, thanks.

As you pointed out, in Q3 of last year we did have an unusual amount of perpetual revenue.

In fact, if you normalized last year for that perpetual revenue that was above and beyond, the growth this year would have been somewhere in the 20% area.

So, that is the reason why you're seeing 7% instead of what would have normally been something like 20%.

We're still on a path to do 20% for the year, which is what we guided to quite a while ago.

So, there's no change.

There's no change in implementations or any of the other factors that you mentioned.

It's really just how the quarters play out relative to perpetual last year.

Okay.

Thanks a lot.

Your next question comes from the line of Brent Thill with UBS.

Your line is open.

Thanks.

Mark, just following up on Kurt's question, can you just confirm that you're still, on the booking side I didn't catch what you did in Q2 in the Marketing Cloud, can you give us a sense of what the booking number was in Q2?

We don't disclose the booking number, Brent, every single quarter.

But what we have said is that we're driving towards 30%.

We're driving both long-term total contract value and we're focusing more and more now on annual contract value.

And we expect that to grow 30% this year, which is consistent with what we've been saying.

Okay.

So, no change in the background other than the optics and stuff, the perpetual?

That's right.

As we're pointing out w, 're still saying we're going to grow 20% revenue this year.

It does make for a bigger Q4 but you're also getting now the stacking effect of those bookings that will start to play out in Q4.

And two things, both Brent and Kirk, if you look at our numbers for last year it actually does have a traditional and seasonal expectation to it.

So, Q3 and Q4.

And when we gave our updated targets at the end of Q2, this was very much part of the plan.

So, it's playing out exactly as we had expected.

Shantanu, just a quick follow-up.

On the Creative Cloud, where do you see the biggest next lever of growth?

Is this coming international?

Is it a new user type?

The team addition seems like it's doing well.

What's the next big wave you see that you have yet to hit?

Brent, firstly, with respect to Q2, we exceeded our ARR target that we had specified.

We had expected $275 million.

We came in at $285 million.

And if you normalize for the 14-week quarter in Q1, you'll actually see it was extremely strong performance.

From the point of view of color, we said that we actually saw strength across all of the offerings as well as all of the geographies, and, I think I highlighted in particular, as the three-year ETLAs are all coming up for renewal, The first time around we had actually done a lot of the ETLAs as custom deals.

Now we're seeing service as part of it.

The enterprise continues to be an opportunity.

International, to your point, also continues to be an opportunity.

We've always highlighted Japan and Germany, which are continuing to show progress against the migration goals that we have as well as new customer acquisition.

Education also continues to be an area where we're seeing interest in the Creative suite.

And I think if you see some of the announcements we made today, whether it was the new product in XD, adding virtual reality to premier, things that we're doing with touch, there's just so much innovation possible.

I think the core elements of migrating existing customers, adding new customers and adding new services, we continue to be excited about the opportunity ahead of us.

It's actually pretty interesting that three years into the transition we expect record net ARR add in 2016.

I think by all accounts, that's great performance.

Thank you, Shantanu.

Your next question comes from the line of Sterling Auty with JPMorgan.

Your line is open.

Yes, thanks.

Hi, guys.

I know that you're no longer disclosing the numbers around Creative Cloud.

But triangulating some of the commentary on ETLA renewals, increase in ARPU, might have some people wondering qualitatively was there any softness in terms of the net increase in Creative Cloud subs in the quarter.

Sterling, we were expecting multiple people would ask us that.

We had a great quarter in subs.

ARR continues to be where we're focusing.

No issues there whatsoever.

Great quarter.

All right.

Great.

Thanks, guys.

Your next question comes from the line of Ross MacMillan with RBC Capital Markets.

Your line is open.

Thanks a lot.

Mark, just wanted to drill in on Digital Marketing.

In Q1 the Digital Marketing subscription revenue grew 25%.

We get that in the filing.

I wondered if you had that subscription revenue growth in 2Q.

And in context of that, when you talk about 20% overall growth, what will that subscription revenue grow at, ballpark, for the year, do you think?

Thanks.

Let me answer that a slightly different way.

I may have to get a little bit more detail for you later, Ross.

But in Q1 the subscription revenue that you see that was reported had an extra week, and that week we said on the Q1 earnings call was worth $75 million in total revenue, but the bulk of that is subscription oriented.

Again, in Q1 we had that extra week we talked about of revenue which was worth $75 million.

The bulk of that is going to be subscription oriented revenue.

So when you look at sequentially the subscription revenue that we report from Q1 to Q2, it's definitely muted by the fact that you had an extra week in Q1.

So, there is really strong growth in subscription revenue in Q2.

The other thing, Ross, I would just add is, as expected, the amount of perpetual revenue that we're seeing in the Digital Marketing business is decreasing and becoming immaterial.

So, I think the health of the business is driven by bookings and converting the bookings to revenue.

Your next question comes from the line of Kash Rangan with Bank of America-Merrill Lynch.

Your line is open.

Hey, thanks and congratulations on still continuing to be the gold standard for these model transitions.

One clarification for you, Mark.

When you look at the Creative revenue number, Q1 was significantly better than expected.

How much of the Creative revenue performance itself this quarter is more so the normalization because you do not have the extra week and therefore you're forecasting a number of guiding to a number that's closer to where you landed vis-a-vis any changes in the linearity or trends in the business this quarter, vis-a-vis the previous quarter?

And I have a quick follow-up.

Thank you.

Yes, Kash, it's really driven by the extra week.

Like I said, $75 million in Q1 came from that extra week.

That $75 million is driven by subscription revenue which would be both Digital Media and Digital Marketing.

There's no change to the core underlying businesses.

It's really just driven by that extra week.

Got it.

With respect to Street numbers, your guidance certainly, at the low end of the range, is a little bit below, considering that you're very consistent, a little below the Street expectations.

Is that primarily due to the Marketing Cloud side?

You correctly pointed out that you have a tough comparison to the perpetual induced Q3.

Is that all there is to it with respect to how your guidance shakes out relative to the rest of the Street, or is there other pieces to the guidance that explains the discrepancy, at least where our models were?

And that's it for me.

Thank you again.

As Shantanu and I have both said, we expect to meet or exceed all of our FY16 targets, and these are targets that we raised after Q1.

We didn't give specific Q3 and Q4 targets but what we're laying out now for the rest of the year is very consistent with the quarterly color we provided.

And it's also very similar to what you saw last year in terms of seasonality.

There is still seasonality as it relates to revenue in Q3, Q4.

So, I think what you're seeing from us is exactly what we would have expected, exactly consistent with what we've been saying all year long.

It's probably just driven by the fact that we didn't give specific targets in Q3 and Q4.

Actually you did point out deceleration on the March quarter call in Digital Marketing upcoming in Q3.

So, you did give us a bit of a heads up.

Yes.

Kash, the other thing that's really happening is, from our point of view, Mark and mine, the quarters are playing out exactly as expected.

And when you see the percentage of revenue right now that's recurring, when you look at it relative to the mid point of what we specified in Q2, it was an outstanding quarter from our point of view.

And our ability to predict the revenue is actually getting better and better.

I think when you look at some of the ranges that used to be the traditional part of our business, when the amount of perpetual was different, the good news from our point of view is the business is actually becoming more predictable and we have more visibility.

So it's playing out like we had thought.

Congrats, gents.

Your next question comes from the line of Walter Pritchard with Citi.

Your line is open.

Hi.

Thanks.

Shantanu, wondering if you could talk about larger M&A and how that influences your strategy here as you're looking at growth in the digital marketing space, and how willing you are to step up to do a large deal, and what that deal might look like if you were looking to step up and do something more than $1 billion.

Walter, I think from our point of view, when we look at the overall opportunity, we've estimated it as approximately $27 billion.

We don't think any single adjacency is going to impact our ability to either differentiate or continue to lead the market.

We have very established criteria.

We look at strategic expansion, we look at cultural fit and we look at healthy financial returns.

And if something meets those criteria, we will engage.

If something doesn't, we will continue to focus on our organic growth opportunities, which are outstanding.

The second thing I would say is that, specifically as it relates to our focus, as we are delivering the platform, more and more of this actually represents a partner ecosystem.

And I would suspect that commerce is on some people's minds relative to what our strategy is.

And we continue to partner with multiple companies, whether it's IBM, SAP or Demandware because we control the entire digital experience and we partner with them, with Demandware on the specific retail vertical as well as physical goods.

If you think about the much larger opportunity that exists there, it's around non-physical commerce and we have partnerships there, as well.

Net, I would say we feel really good about our organic growth prospects and we will continue to be disciplined about looking at potential adjacencies.

Okay.

Thank you.

Your next question comes from the line of Keith Weiss with Morgan Stanley.

Your line is open.

Excellent.

Thank you, guys, for taking the question, and nice quarter.

Just in terms of your overall macro, one of the things that we picked up in our checks was a potential forced pause in spending, particularly in the UK, maybe more broadly in Western Europe, ahead of the Brexit vote.

Did you see any of that in your quarter at all, any indication that guys are just maybe pausing ahead of that period of uncertainty?

And was there any of that reflected in your guidance, any of that uncertainty?

No, Keith, we neither saw any weakness, nor do we think that there's any impact to the macroeconomic opportunity that we have in those countries.

As I said, there isn't a customer on the planet that we go visit where digital disruption is not top of mind.

It's a line item in everybody's budget, and they're all talking about how they can aggressively transition to digital experiences.

So, our conversation with them is front and center.

Got it.

Thank you very much.

Your next question comes from the line of Heather Bellini with Goldman Sachs.

Your line is open.

Great.

Thank you.

I actually had two questions.

The first one was related to Adobe Stock.

Now that that deal has been closed for about a year and a half, just wondering if you could share with us how your strategy with that has been evolving, and any stats you could share with us about that driving incremental ARR.

And then the second question, Mark, is, you guys have been exceptional in terms of your operating expense control.

If we do, however, look at what you're forecasting or what's implied in your forecast in the back half of the year, there is a pretty material ramp that you're baking in.

I was wondering if you could just give us a sense of what those incremental investments might be.

Thank you.

I'll take the first, Heather, with respect to Adobe Stock.

I think the big picture opportunity has always been that the people who both contribute to the stock ecosystem and the people who use Stock in order to create their compositions both are Adobe customers.

I think when you look at the number of people who are using Adobe Stock, the percentage of them who are CC subscribers is a very high percentage.

Clearly we are targeting folks who are already have a strong affinity towards our products strategically and view this as a value-added service.

With respect to how we are going to market, Heather, we have offerings that allow people who have a CC subscription to add a Stock subscription to that.

And we also offer a complete offering which includes both access to CC desktop applications, as well as Stock.

And we're seeing uptake in both of those categories in addition to the traditional on-demand business that existed in Stock.

When I look at the revenue numbers over the last three quarters, we've been seeing good growth in the Adobe Stock line item across all three quarters.

So, it's leading to both revenue as well as ARPU and ARR.

And, Heather, as it relates to OpEx, I know this has been a question on analysts' minds for a while.

We do have enough OpEx in our model, whether it's this year's model or the three-year model that we provided, to make sure that we can grow the business the way we want to grow the business.

That growth is going to require sales capacity in Digital Marketing, and it's going to require marketing activities in Digital Media.

And of course we're going to constantly invest in R&D.

That's where it goes.

To the extent that in any given quarter we don't need it, and we don't have a responsible place to put it, we're going to give it back to shareholders.

And that's what you've seen from us in the last couple of quarters.

And you know over many years that when we control costs and don't have a short-term need to make those investments, we'll provide it back to you in the form of upside to EPS.

Thank you very much.

Your next question comes from the line of Mark Moerdler with Bernstein Research.

Your line is open.

Thank you very much.

Can you give us some more color on the Document Cloud transition to subscription, how that's progressing, when and if we could see a bigger inflection, how we should think about the whole process going forward?

Yes, Mark, we had a strong quarter in the Document Cloud.

And, as you know, a significant portion of what we are seeing even with the Creative customers is adoption of the new Acrobat.

Adobe Sign also continues to do well.

That's represented in the Document Cloud business.

So, if I look at it quarter over quarter, that business continues to show momentum.

We think there's significant opportunity ahead of us.

We've stated in the past that we have over 30 million people who have bought a perpetual or traditional version of Acrobat.

That represents opportunities.

And that migration to subscription will be more muted overall than the Creative business.

But on Adobe.com we're actually seeing mostly adoption of the subscription version of the Document Cloud.

So, pleased with the business and continue to think that that's a growth opportunity for us.

Thank you.

Your next question comes from the line of Steve Ashley with Robert W. Baird.

Your line is open.

I was going to ask a Document Cloud question, as well.

And specifically, (inaudible) the Cloud has allowed you to augment and change your go-to-market strategy, and are you trying to also push adoption within larger Creative accounts with the Document Cloud?

Steve, you broke up a little bit, but if the question was around what we are doing with respect to cross-selling each of our clouds into enterprise customers, yes, we are seeing significant progress with that.

Specifically, I would say in three areas.

The first area is in what we've done with mobile and combining the DPS offering with AEM mobile and now providing a one-stop shop for whether they were Creative customers or digital marketing customers with our mobile publishing suite.

The second area is in the cross-integration between Adobe Sign as well as AEM forms, thereby, allowing people to automate their inefficient paper-based processes.

And the third area of cross-cloud integration and selling that we're doing is in the Creative Cloud enterprise offering, where people both have access to all of the Creative Cloud desktop applications, as well as asset management through our digital marketing solutions, to improve their content velocity.

So, those are the three areas where we're continuing to both see traction from our customers, cross-sell into those specific accounts, and continue with innovation on an integration.

Perfect.

Thank you,.

Your next question comes from the line of Jay Vleeschhouwer with Griffin Securities.

Your line is open.

Thanks.

Good evening.

Shantanu, at Summit three months ago and again today on the call you highlighted Audience Manager among your Marketing Cloud solutions.

I'm wondering if you are anticipating a significant reranking, let's say, of the various solutions that comprise total Marketing Cloud revenues.

Could Audience Manager in effect become the next AEM as a major driver to growth of total Marketing Cloud?

Also, at Summit you had said, almost in passing, at the investor meeting that you were experimenting with a new kind of licensing or usage model.

If you have any update on that.

And just a quick follow-up for Mark.

Sure, Jay.

I think both of those relate to the big picture question of how are we making progress, both migrating from individual solutions to customers adopting our entire digital marketing platform.

I think the big three as it relates to solution revenue continued to be the Adobe Analytics, the Adobe experience Manager as well as the Adobe campaign Solutions.

But I think what's really exciting about Adobe Audience Manager is that it's one of the core services that's helping integrate all of these other three products into more meaningful offering to marketers and chief revenue and chief digital officers.

And the traction that we're seeing with that, I think reflects the growing trend in the industry, where people don't want to buy individual solutions but they want to buy an entire platform that they can deploy and see the benefit of it easily.

, o I think that's the reason to highlight the success that we're seeing with Audience Managers as a core service.

And with respect to your second question, we're continuing to clearly see that the multi-product solutions are being adopted, and that will continue to be our focus and delivery.

For Mark, you appear to have had record revenue for services.

We've talked about this subject the last couple of quarters.

On the other hand, your margins improved in services sequentially and year over year.

So, the question is, do you think you can keep services margins stable or perhaps on some upward path as we saw in Q2?

And is the services growth driven by both Creative Cloud and Marketing Cloud or one more than the other?

The services growth is really driven by Marketing Cloud.

As we do larger engagements with customers, as we deploy multiple solutions within customers, they want us to help them get the ROI out of that purchase and they're coming to us for implementation help.

That's what's driving the marketing consulting.

And yes, Jay, obviously I'm focused on the margin in that business.

It's going to be deal specific from time to time, but overall I'd like to see the margins in that business continue to get better.

Thank you.

Your next question comes from the line of Michael Nemeroff with Credit Suisse.

Your line is open.

Hi.

Thanks.

Great, thanks for taking my questions.

I'm curious if maybe you could help us with how many more customers there are left to convert to the Creative Cloud from the Creative Suite, and maybe just a sense of what inning we're in.

And then also if you could maybe comment a little further on the ETLA strength in the quarter.

Shantanu, I think you had mentioned that you were starting to see some contracts from a couple of years ago start to come up for renewal.

Should investors and should we expect that the strength in ETLA renewals is going to be similar to what we saw this quarter?

I think with respect to your first question on installed base migration, as you know, we don't update those on every quarter but I'd encourage you to look at the last numbers that we had at our MAX event, and you will see there's still very significant opportunity in both migration as well as market and value expansion.

And I think those numbers still show significant head room relative to where we are today.

So, I think that's a good metric for you to look at.

I think with enterprise ETLAs, three years ago when we started this move of having enterprise customers license our software rather than buy it outright, we were just starting on this journey.

And it was nice, as those three-year terms are coming up, to see that there's actually fairly nice upsell associated with that.

People are now adopting the entire Creative Cloud.

They may have only had single applications there and are adopting services.

So, we certainly will continue to focus on that trend of driving significant upsell as people come up for retention and demonstrating the value.

We're pleased with it and certainly from an execution point of view we're going to focus on continuing to drive that over the next few years.

And could you talk about the pricing dynamics on those renewals?

I think the pricing dynamic has such a different range associated with it.

It's very large ranges as a result of the size of the installed base.

But as we look at it, we'd like that to be greater than either the individual or the team for a number of our customers.

And so it's driving overall ARR and ARPU up from what other customers might pay.

Thanks for taking my questions.

Our last question comes from the line of Ross MacMillan with RBC Capital Markets.

Your line is open.

Thank you.

I just had one follow-up.

Mark, obviously on operating expense your growth rates here have been running at around headcount growth levels.

And I just wondered, as we think about going forward, should that still continue to be the case or could there be any material diversion from headcount growth and OpEx growth in the future?

Thanks so much.

As a software company, we're going to be tied pretty tightly to headcount.

OpEx is going to be tied pretty tightly to headcount, so I think you'd see them track pretty closely together.

Ross, thanks for asking that question.

I think from my point of view as well as the management team, 2016 is shaping up to be a great year.

As you know, we raised our annual revenue target at the end of Q1, as well as our Digital Media annualized recurring revenue target.

It was good to confirm that we're on track to meet or exceed these financial targets.

I'm particularly pleased with the Digital Media ARR, where three years into the transition we continue to expect to add record bookings that exceed the $1 billion that we added last year.

And in Digital Marketing, we continue to be the leader in this explosive customer experience category.

I think most important, though, for me, we continue to innovate in our major businesses.

If you saw the announcements we made, both at Digital Marketing Summit in terms of the additions to the marketing platform road map, as well as what we've announced both for Document Cloud and today for Creative Cloud, I think that positions us incredibly well for FY17 and beyond.

And from all of the questions that were asked, we certainly believe that we have leverage in our model.

And we continue to demonstrate tremendous financial discipline on the expense front and we will continue to do that.

So, thank you for joining us today.

This concludes our call.

Thanks, everyone.

You may now disconnect.