Box Inc (BOX) 2017 Q1 法說會逐字稿

Good day, and welcome to the Box first-quarter FY17 earnings conference call. This call is being recorded today, Wednesday, June 1, 2016.

(Operator instructions)

It's now my pleasure to turn the floor over to Alice Lopatto, of Investor Relations. Please go ahead.

Good afternoon, everyone, and welcome to Box's first-quarter FY17 earnings conference call. On the call today, we have Aaron Levie, our CEO, and Dylan Smith, our CFO. Following our prepared remarks, we will take questions. Our press release was issued after close of market and is posted on our website where this call is being simultaneously webcast.

The webcast replay of this call will be available for the next 90 days on our Company website under the Investor Relations link www.box.com/investors. During portions of today's call, we will be referring to presentation materials posted on our Investor Relations website. We will also post highlights of today's call on twitter at the handle @boxincir.

On this call, we will be making forward-looking statements including our Q2 and FY17 financial guidance and our expectations regarding our financial results, our market adoption of our solutions, our market size, our operating leverage, our expectations regarding achieving positive cash flow and future profitability, our planned investments and growth strategies and expected benefits from our new products and partnerships. These statements reflect our best judgments based on factors currently known to us and actual events or results may differ materially.

Please refer to the press release and the risk factors and documents we file with the Securities and Exchange Commission, including our most recent quarterly report on form 10-Q, for information on risks and uncertainties that may cause actual results to differ materially from those set forth in such statements. These forward-looking statements are being made as of today, June 1, 2016, and we disclaim any obligation to update or revise these statements. If this call is reviewed after today, the information presented during this call may not contain current or accurate information.

In addition, during today's call, we will discuss non-GAAP financial measures. These non-GAAP financial measures should be considered in addition to, not as a substitute for or an isolation from, our GAAP results. You can find additional disclosures regarding these non-GAAP measures, including reconciliations with comparable GAAP results in our earnings press release and in the related PowerPoint presentation, which can be found on the Investor Relations page of our website. Unless otherwise indicated, all references to financial measures are on a non-GAAP basis.

With that, let me hand it over to Aaron.

Thanks, Alice, and thanks, everyone, for joining our Q1 FY17 earnings call.

We had a solid start to FY17. We had strong customer momentum, adding more than 5,000 new customers in Q1, our largest number of new customers in a quarter. We also had wins and expansions with leading companies like Airbnb, Geico, Whirlpool and Wyndham Hotels & Resorts. We now have more than 62,000 total paying customers.

In addition, we continue to improve our already best-in-class customer retention with our customer return rate improving to just below 3%. These metrics showcase how valuable and essential Box is to our growing global customer base.

In Q1, we achieved record revenue of $90 million, up 37% year over year. We also continued to gain operational efficiency and demonstrate leverage in our business model as we move towards our commitment to achieve positive free cash flow in the fourth quarter, ending January 2017.

Cash flow from operations in Q1, improved to negative $500,000 in the quarter, excluding a one-time litigation settlement. This represents an improvement of roughly $7 million year over year, and non-GAAP EPS was negative $0.18, a $0.10 improvement from last year, well ahead of our guidance.

Q1 billings came in at $76 million. As we noted in our last earnings call, we anticipated Q1 billings to be impacted by a few early renewals last quarter, and our focus on annual payment durations versus multi-year prepayments. Last week, as we were becoming a more strategic investment for our customers, larger transactions are shifting towards later in the year. Looking ahead, underlying demand for Box remains very strong and our competitive position in the market has never been better.

Coming off of Box World Tour, where we engaged with thousands of customers and prospective clients, we created record sales pipeline in the quarter, with several seven-figure deals in the mix. This has been driven by a growing demand for a modern approach to enterprise content management, our differentiated product offerings and our maturing partnerships that are becoming an integral part of our go-to-market strategy. To further execute on these go-to-market efforts, we are bringing on board a Chief Marketing Officer with 20 years of enterprise technology experience, who will be joining us shortly.

Further, given the continued strength in demand that we are seeing and the growing market opportunity, we are also increasing this year's sales rep hiring targets. This momentum, coupled with our focus on improved operational efficiencies, underscores our confidence and our position as the modern content management platform.

At Box, our mission is to enable people and organizations to work collaboratively and have secure access to the information they need from anywhere. Today, we live this purpose by helping scientists at MD Anderson Cancer Center share research results to discover life-saving treatments, engineers at GE collaborate on new designs and filmmakers at Pixar create their best work.

To address the needs of every organization and to go after the tens of billions of dollars that is spent every single year on content management and storage, we laid up three key strategic goals for this year. The first is to grow as a multi-product company, allowing us to deliver more innovation for current customers and penetrate new markets and industries.

The number two goal is to expand our adjustable market to include hundreds of millions of more users to the Box Platform. And thirdly, build a world-class partner ecosystem that extends the capabilities of Box and increase their distribution. In Q1, we made significant progress against all three objectives.

On our multi-product strategy, we made several announcements in Q1 that removed the barriers to cloud adoption and make Box more valuable to our customers. In April, we launched Box Zones, which, for the first time, will enable our customers to store their Box data in regions outside of the US, beginning with Europe and Asia. We have been working on the architecture for Box Zones for over two years, which allows us to leverage public cloud providers like IBM cloud and Amazon Web Services to meet our international customer's data residency requirements while minimizing CapEx investments.

Storing data in region addresses many data residency and compliance concerns for global companies, enabling Box to serve previously unreachable enterprises for the very first time. We also expect existing customers to leverage Box Zones to implement Box across more parts of their organization. For example, Royal HaskoningDHV, an international engineering consultancy with 6,500 employees and a large Box deployment today, is now looking to leverage Zones to standardize all of their content on Box. Box Zones follows other leading-edge products like Box Governance and Box KeySafe that also unlock new use cases for customers and further position Box as the leading content management platform.

Box Governance continues to gain strong momentum with new and existing customers. As just one example, in Q1, a Fortune 500 company that offers financial planning services, deployed Box Governance to retain more than 500 million regulated documents. By switching to Box from a legacy content management system, the company is saving millions of dollars in infrastructure costs. With these new products, customers are able to leverage Box to both transform their business and retire legacy storage and content management software. A new extensive research report by Forrester has found that customer's scale are saving millions of dollars, driving their productivity and improving their security with Box.

Finally, in early May, we launched Box for Government and announced that Box achieved FedRAMP certification from the US Department of Defense. Because of our FedRAMP authorization, government agencies can more easily deploy Box at scale.

Box for Government joins other key industry initiatives like healthcare and financial services and allows us to accelerate our traction in the government, where we have already have great customers like the US Department of Justice, the State of New York, California and Washington, and the United Nations. Achieving FedRAMP was a long multi-year process and I am proud to say that Box is the only cloud content management platform to secure the certification.

We also continued to make significant progress to the Box Platform in Q1. Today, 75,000 developers are building on Box's APIs, using over six billion third-party API calls every single month.

To make it easier for enterprises to build client-facing digital experiences that levers our content management and collaboration capabilities, we launched Box Platform this fall. Overall demand for Box Platform is growing with everything from apparel companies to banks beginning to build their applications on Box.

To further drive growth and utilization of Box Platform, in Q1, we announced a partnership with Cognizant, naming them as a preferred systems integrator. Cognizant's expertise in key verticals will provide an opportunity to develop and deliver more industry solutions for healthcare, life sciences, financial services and retail. We also worked with IBM as they launched their IBM MobileFirst for iOS Expert Seller app built on the Box platform.

IBM Expert Seller, is both used and sold by the IBM global sales force, offering seamless management of sales and marketing collateral to help sales teams securely access their content and make the most of every interaction they have with clients and prospects. Given our partnerships with both IBM and Apple, we expect their joint MobileFirst program to be a strong user of Box Platform moving forward, with several other apps in the pipeline.

Our third strategic objective is building an unparalleled partner ecosystem. As more and more software moves to the cloud, enterprises are looking for a single repository to secure and manage their critical content. By creating seamless integrations with leading technology partners, we are able to provide customers with a centralized content management platform that lets them secure, govern and collaborate on files no matter what application they are using.

At the end of Q1, we announced a new strategic relationship with Adobe. To make it easier for customers to work with Box and Adobe's Acrobat e-signature and Document Cloud experiences. For instance, customers of Adobe Document Cloud can now access their files stored in Box and Box users are able to edit and sign documents with Adobe Sign directly from box on both mobile and desktop.

And nowhere is our ecosystem strategy more relevant than our partnership with Microsoft, which continues to yield significant dividends. For the first time ever, customers can now collaboratively edit their Office documents that are stored in Box or edit them on their iPad or iPhone. Adoption of Office 365 continues to be a key driver for new customers to invest in Box, as well as allow existing customers to expand their usage of Box.

For example, a Fortune 500 commercial real estate company recently expanded with us, increasing their deployment to 10,000 seats while rolling out Office 365. And Autotrader, another significant Box customer, has seen major productivity and adoption gains since rolling out a Box with Office 365. We will continue to work with Microsoft on further integrations with Office 365 and their other platforms to drive more valuable experiences for our customers.

Additionally, we have a comprehensive slate of partners that we're working with to create enhanced experiences and ensure customers can get access to their Box content from just about every application they work in. Overall, Q1 was a solid start to FY17, as we continue to make strong progress on our strategic objectives while continuing to drive operational efficiency.

Before I finish, I want to take a brief moment to emphasize Box's unique proposition and why we continue to lead in the enterprise content management and collaboration markets. First, we built the only enterprise content management platform that is 100% cloud-based. With Box, enterprises get a modern architecture that sells everything from end-user file sharing and collaboration to more mission critical content management use cases. And because of our cloud architecture, we deliver new product innovations rapidly that meet the evolving needs of our customer base faster than any legacy competitor.

Second, Box is a platform agnostic solution with an open architecture. With Box, content can be centralized and we can serve as a single source of truth for our companies' information. Our apps on iOS, Android, Windows and the web, as well as integration with partners like Adobe, DocuSign, IBM, Microsoft, salesforce, Slack and others, allow customers to minimize their cost and confusion of spreading content across multiple solutions.

Finally, we are the uncontested leader in security. We provide robust administrative controls, watermarking, data loss prevention, customer managed encryption keys, document retention and compliance.

Because of these unmatched capabilities, we are uniquely positioned to work with the world's leading financial institutions, engineering companies, life sciences firms, healthcare providers and governments. Our differentiation continues to increase and we are proud to be recognized by Forrester as the leader in enterprise file sync and share, beating out competitors like Microsoft, Google and Dropbox.

Going forward, we have an ambitious and extremely exciting road map of innovation that we are thrilled to be announcing over the next several months, including at Box Works in September, which is shaping up to be another incredible event for Box and our customers. We already have Diane Greene of Google; Peggy Johnson, Executive VP at Microsoft; and the CIOs of Walmart, Dow Chemical, and many other speaking at the event, with many other announcements to come this summer.

Now, I will hand it over to Dylan to review the financial results in more detail.

Thanks, Aaron.

Good afternoon, everyone, and thank you, for joining us today. As Alice noted, you will find GAAP to non-GAAP reconciliations in the slides that are available on our website. The financial measures I will be discussing on this call are non-GAAP, unless otherwise noted.

We had a solid start to FY17, with both revenue and non-GAAP EPS coming in at well ahead of our guidance as we continue to converge on becoming free cash flow positive in the fourth quarter of this fiscal year, roughly nine months from now. As Aaron noted, this quarter we drove record revenue of $90 million, up 37% year over year, while adding more than 5,000 new customers.

Billings came in at $76 million, reflecting a number of factors that we discussed on our last earnings call and which I will revisit in further detail later on this call. Deferred revenue grew to $172 million, up 39% from a year ago, demonstrating strong visibility and health in our future revenue. We achieved these top line results while driving significant leverage in our bottom line metrics.

We delivered non-GAAP EPS of negative $0.18, an improvement of $0.10 from year ago, and well ahead of the high-end of our guidance range. Our cash flow from operations was another highlight, improving by roughly $7 million from Q1 of last year, to approximately negative $500,000, excluding $3.8 million in settlement costs associated with our previously announced OpenText litigation. These results demonstrate solid progress toward becoming free cash flow positive as well as the inherent leverage in our business model.

Our best-in-class churn rate is now slightly below 3% annualized, an improvement of more than 100 basis points year over year. This reflects our increasing focus on enterprise customers who tend to have lower churn rates, as well as the increasingly mission critical nature of how Box is being used by many of the world's largest enterprises.

Our expansion rate was 19%, primarily driven by strong seat growth in existing customers. This rate is now stabilizing and, as we benefit from cross-sell opportunities with our new products, we expect this will offset the natural pressure from our expanding and maturing customer base over time. As a result, we ended the quarter with the retention rate of 116%, which includes churn and expansion. Our ability to achieve strong revenue and customer growth, while delivering meaningful improvement on our bottom line, reaffirms that we are well-positioned to grow quickly and sustainably as we scale toward profitability.

Now, let me begin with some highlights from our fiscal Q1. We generated record revenue of $90.2 million in Q1, above our guidance and up 37% year over year, driven by a our expanding enterprise customer base and our best-in-class retention rate.

As you will recall, this quarter we faced three factors that combined to create a tough comparison for Q1 billings. First, we began to standardize customers paying for multiple years upfront to annual billing terms in order to maximize long-term contract value, shortening our average payment durations as a result.

Second, in Q4, we renewed $4 million of customer contracts that would have normally been billed in Q1. Finally, we had a particularly strong Q1 last year, when we grew billings by 58% year over year. As we mentioned previously, we do not expect billings to be a meaningful indicator of the significant growth we expect this year.

First quarter billings came in at $75.9 million, representing 9% calculated billings growth and 13% adjusted billings growth year over year. If we normalize for payment durations and those early renewals, which creates the most accurate year-over-year comparison, our billings growth rate would have been 19% year over year, which is still clearly impacted by our strong Q1 last year.

As we noted on our last earnings call, we fully expected Q1 billings growth to be well below Q1 revenue growth and we would expect billings growth to trend below revenue growth for the remainder of FY17 due to the aforementioned shift in payment durations. As we enter FY18, and these payment durations normalize, we would expect billings growth and revenue growth to track roughly in line going forward.

As we shift further into an enterprise driven business model, we continue to see our business becoming more back-end loaded from a quarterly billings perspective. As we're becoming a more strategic investment for our customers, we are experiencing additional seasonality with Q1 typically being slower for larger transactions and more of these transactions shifting to later in the year.

We saw this trend materialize with a significant increase in large deals closed this past Q4 and fewer large deals in this most recent Q1. This past quarter, we closed 17 deals over $100,000, versus 20 a year ago, and no deals over $500,000 versus 4 a year ago. As Aaron mentioned, in Q1, we generated record pipeline, which includes a healthy number of seven-figure deals that we're working on closing later this year.

Turning to deferred revenue, we ended the first quarter with $172.2 million in deferred revenue, up a solid 39% year over year, providing us with strong revenue visibility going forward.

Now, let's take a look at non-GAAP gross margin. Non-GAAP gross margin came in as expected at 72.4%. As you will remember from our last earnings call, we highlighted that we expected gross margin to decrease slightly in the short-term.

In anticipation of strong customer demand, which drives greater data center capacity needs, we plan to make continued infrastructure investments over the course of this fiscal year. These investments will allow us to extend our best-in-class service quality, security and reliability. As such, we continue to expect gross margin to stabilize near these levels for the remainder of this fiscal year.

Sometime in FY18, as we grow into our expanded data center footprint and achieve greater infrastructure efficiencies and economies of scale, we expect non-GAAP gross margin to trend back upward. For example, we recently moved infrequently accessed files to a lower-cost storage tier with Amazon, reducing our cost to store those files by more than 30%.

In Q1, we had another successful quarter of gaining greater operational efficiency with reduced total operating expenses in dollar terms for the second quarter in a row. Sales and marketing expenses during the quarter were $54.2 million, representing 60% of revenue, a notable improvement sequentially and from 80% in the prior year. This includes a year-over-year decrease in the cost to support our free user base at 8% of revenue in the first quarter, an improvement from 14% in the same quarter a year ago.

We remain very focused on improving sales and marketing efficiency, which is a key driver of leverage in our business model. For example, this quarter we saw particular strength in the deals we closed through our online sales channel, which contributed to the number of new customer wins this quarter and reduced our cost to acquire new customers. And as our customer base grows, we will naturally benefit from more efficient expansion of renewal sales.

As Aaron mentioned, while we remain focused on driving operational excellence and managing expense growth across all areas of our business, we will be increasing our target of field-based sales rep hires based on the growing demand and opportunity we're seeing in our market, both from the US and internationally.

Next, research and development expenses were $20.4 million, or 23% of revenue, an improvement from 27% of revenue a year ago, as we made significant investments in our new products. Box Zones became generally available just last week and we continue to build out our enterprise content management capabilities to further expand our total addressable market. While we expect leverage in research and development, we are also committed to furthering our leadership position with the most innovative offerings and best-in-class product development and thus expect continued investment here.

Our general and administrative costs were $13.3 million, or 15% of revenue, a significant improvement from 20% in the prior-year quarter and was lower sequentially in absolute dollars. On a year-over-year basis, 2 points of this improvement was associated with higher legal costs one year ago, primarily associated with the OpenText litigation, which is now behind us. As a reminder, we have now completed our headquarters' move and our Q1 results reflect a lower rent expense that we expect to see going forward. We will continue to drive leverage from greater operational efficiencies and scale in G&A.

We are extremely pleased that our improvements in operational efficiency drove our Q1 non-GAAP operating margin to a significant 25 percentage point improvement year over year, coming in at negative 25% versus negative 50% a year ago. In addition to cutting our losses in half in percentage terms, on a dollar basis, non-GAAP operating loss has narrowed, both year over year and sequentially, for the second quarter in a row. These strong trends demonstrate our improved operational discipline and focus on operational efficiency.

Let me now move on to our cash balances and cash flow. We ended the quarter with $211.4 million in cash, equivalents, short-term marketable securities and restricted cash, of which roughly $28 million was restricted. We delivered cash flow from operations at a near breakeven rate for the second consecutive quarter at approximately negative $500,000, excluding the payment related to our OpenText settlement. This represents an improvement of 93% year over year.

In Q1, total CapEx was $11 million. Of this, approximately $9 million was the final spend on pending improvements related to our new Redwood City headquarters and the remaining $2 million was related primarily to data center investments. Having now completed our headquarters' move, we would expect CapEx to be materially lower for the foreseeable future relative to our past four quarters. We are committed to becoming free cash flow positive in our fourth quarter ending January 2017, and to remain free cash flow positive on an annual basis thereafter.

Now, let's turn to our guidance. For the second quarter of FY17, we expect revenue to be in the range of $94 million to $95 million. We expect our non-GAAP EPS to be in the range of negative $0.19 to negative $0.20, and for our GAAP EPS to be in the range of negative $0.36 to negative $0.37 on approximately 127 million shares.

For the full year of FY17, we expect revenue to be in the range of $391 million to $395 million, which represents roughly 30% growth at the midpoint of this range. We expect our non-GAAP EPS to be in the range of negative $0.75 to negative $0.78, and for our GAAP EPS to be in the range of negative $1.40 to negative $1.43 on approximately 128 million shares.

In closing, we are proud of achieving strong customer adds in the quarter, solid revenue growth and significant leverage in our business model. Our product differentiation continues to expand with the launch of Box Zones and Box for Government and traction with Governance, KeySafe and Box Platform.

We continue to expand our partner ecosystem with new partners, including Adobe and Cognizant, and existing partners, such as IBM and Microsoft. Alongside our growth, we remain committed to driving efficiencies on our path toward profitability, which we demonstrated again this quarter.

What that, I would like to open it up for questions. Operator?

(Operator instructions)

We will take our first question from Phil Winslow with Credit Suisse.

Thanks, guys, for taking my question. I just wanted drill into the deal size metrics that you talked about. Obviously, the customer adds at 5,000 is particularly strong for Q1, but then you talk about the deal metrics year-over-year, $100,000 deals, et cetera, coming down. I understand there was a strong Q1. But maybe just some more color on what you are seeing?

And then the context of the full-year outlook, any change on these larger deals, which I'm assuming are more upsell deals than net new versus what you're expecting three months ago?

This is Aaron. I think as you saw in the performance of Q4 in terms of the big deal metrics that we provided, certainly the business is becoming a little bit more seasonal for our larger transactions. Q1 was much more of building period for us in terms of building pipeline across all segments of the business and all regions. We did build very strong record pipeline in the quarter, including many large deals that are in that mix that are -- that seven-figure level.

And in terms of the 5,000 new logos, a lot of this has been driven by innovations we have been working on for our online sales segment. So getting much more efficient about how we go out and acquire and bring on customers in the S&B segment, but also giving us a lot of future upsell customers in the mid-market segments and beyond. I think you will see certainly bigger numbers be put up in terms of our larger deal sizes in Q2 and beyond.

Got it. Then just one quick follow-up. I think you guys talked about exiting last (inaudible) you're worth 44 million users and I think it was 12% paid. I'm just wondering if we get a sense of where that was exiting Q1?

So we have 46 million users and about 13% of those users are now paid.

Great. Thanks, guys.

The next question from Rob Owens with Pacific Crest.

Good afternoon and thanks for taking my question. A couple things. First off, just around strategic partnerships. Can you talk about how much of your business is partner influence at this point? Maybe share how IBM is ramping as well?

Yes. About 20% of our business is partner influenced and that is through a mix of partners including AT&T and IBM. With IBM, we saw again, record pipeline get created in the quarter. Because of IBM's customer base obviously, large enterprises and governments, a lot of those deals are much larger, which means that the deal cycles do take a bit more time and we do not close those transactions within the quarter of the pipeline being generated.

But we are seeing a tremendous amount of pipeline being built up with them, especially in international markets where we do not have as much of a presence on the ground, so we are seeing significant traction throughout Europe. And that was also one of the big drivers for our Box Zones partnership with them. So, the ability to use the IBM cloud for storing data in places like Germany, Ireland and other key markets that they operate in.

I think you're going to see pretty significant and healthy traction in a lot of international segments as well as larger businesses in the US as well throughout this year.

On the product front, realizing Box Zones is probably too new to really talk about. Some of the other capabilities you've had in the market for a while, whether it be Box KeySafe or some of the different Governance capabilities, can you talk about your success with those? What attach might look like at this point? And then, is pricing still holding for these upsells? Thanks.

Yes. Pricing is still holding for the upsales. We are still seeing about a 15% to 20% uplift in the ASP when the product gets attached or more. And we have nearly 300 customers that are on Governance right now. We are still seeing pretty strong growth with customers adopting Governance.

On the sales cycle for our add-on products is still something that we are figuring out. For each individual product, there is a slightly different sales dimension that Zones versus Governance versus KeySafe experiences. Overall, that mix of products is creating an incredible amount of differentiation against our competitors and providing significant uplift in the customers that elect to purchase those products.

This is Dylan, as a note, in Q1, both of the products Aaron mentioned, KeySafe and Governance, provided an uplift of more than 30% in the customers who deployed those products in the quarter. So we have been really pleased at the value that those products continue to provide to our customers and the uplift we're seeing as it relates to price per seat.

Great. Thanks guys.

Our next question comes from Mark Murphy with JPMorgan.

Thank you very much. Aaron, I wanted to ask you about the attainment of the FedRAMP certification. What do you think it means for your business prospects with the federal government? I am wondering if you see potential for a blanket purchase agreement? Do you see indications of interest or engagement from any of the agencies that are outside of the DOJ? And then I have a couple of follow-ups.

Yes, so one of the key elements of our certification is that it came from the Department of Defense, which obviously has some of the highest degree of scrutiny around cloud platforms and technology that they use. So this is specifically from their information services organization. So we are very happy that who actually did the certification and who did the sponsorship, that is creating a strong ripple through at least the US government, federal government agencies. But other state and local government agencies look toward the federal government standards for adopting cloud technology. So the pipeline has been growing.

We actually are working on building the pipeline even in advance of getting FedRAMP certification. FedRAMP certification is the actual now ability to go transact with those agencies in a compliant way. So we are seeing really strong traction in both civilian and defense agencies in the US government, as well as international agencies. So in the UK and beyond, we are continuing to see strong traction.

We think this will be a key vertical for us and we will certainly be sharing some of the results of this in future quarters once we get some of these bigger deals closed.

Great, Aaron, to what do you attribute the record pipeline growth that you mentioned in Q1? I'm just curious if there was something unusual about it? And does it include seven-figure deals that you think would be likely to close in Q2? Do you think we will see some resumption there?

We can't give any specifics around on seven-figure deals, on when they close. But the reason and the cause for the growth in Q1, we've been doing a lot of rebuilding on our marketing engine throughout Q4 last year and throughout Q1 of this year. So a lot of that execution is starting to fire on all cylinders.

In terms of sales, the sales team was out in the field really generating a lot of pipeline. This is a building quarter for us in many respects. We had our Box World Tour, which interacted with thousands of prospective customers and existing customers from upsell. And as I mentioned around IBM, we are just seeing now a lot of that execution start to come to play.

So being in the field with IBM, with AT&T and others and starting to generate a lot of demand in those conversations. I think when you put together all of the major drivers of our go-to-market strategy, we were executing we think in a very strong way throughout the quarter. It was very much a building quarter for us.

Okay, great. And then Dylan, I had two quick ones for you. The first, I think you ended FY16 with 1,370 heads. Can you give us any thoughts on the headcount plan for this year where you think you would exit the year?

Sure. We still expect to grow headcount, although at a more metered rate than what we have seen in the past. What I would say and we are talking to the specifics a bit more, is from a quota carrying AE headcount perspective, before we had talked about similar growth rates of what we have seen last year, which was 13% year-over-year with the majority of that growth being in the field.

As Aaron and I mentioned recently on the call, we expect that to be higher than our original target. So that would be an area for growth really building out our field sales organization both in the US and internationally and many of the teams that support that.

Similarly, there are a lot of really interesting and exciting things we're doing from an infrastructure standpoint. So making some investments in our technical operations team as well as continuing to invest in our engineering organization.

Overall, we would expect our headcount to grow year-over-year, although at a more measured rate than what we have seen over the past couple of years. Really making those big investments in the most mission critical areas. As many parts of investments, many parts of the business, we've done a pretty nice job building a solid foundation and do not expect to see significant increases in headcount or cost in many areas of our business.

Okay, great. The final one, I did want to try and dig into the billings a bit. Did you think, Dylan, would it be reasonable to expect that this 19% normalized billings growth rate in Q1 could create a low watermark for the year in terms of that growth rate? And/or any thoughts on just how we should construct our models in terms of deferred revenue in billings for the rest of the year?

I do not think you have been -- you have not issued real granular guidance on that in the past. I am just wondering if it is warranted given some of the unusual optics here?

What I would say is that because of the relative strength of Q1, as I mentioned last year, really what is by far the strongest adjusted billings outcome that we have ever had as a public company coming in at 53% and calculated billings of 58%.

We do think that this was the toughest comparison from a year-over-year standpoint. And while that 19% does factor in the renewal, that would be other one-time nuance in Q1 that we would not expect to see in other quarters.

While we would expect there to be lower billing and growth versus revenue growth for the remainder of the year, we would also expect that spread to be less significant than what we saw in Q1. And I really refer to the revenue guidance that we gave to get an overall sense of on how we are thinking about the growth going forward. And that on a quarterly basis, we will continue to give additional color into payment durations and how the different billings metrics are tracking.

Thank you very much.

We'll take our next question from George Iwanyc with Oppenheimer.

Thank you for taking my question. Just digging into the pipeline again. Can you give us a sense of how you look at your visibility through the end of the calendar year and given the larger deals that you are seeing at this point, what a normal seasonality rate would be for the first quarter versus the fourth quarter?

I would say that as we mentioned, we would expect it to be more back heavy than what we have seen in the past. As a reminder, over the last couple of years, we have seen an average of 18% and 34% of our total annual billings fall into Q1 and Q4, respectively. We would expect that to be lighter in Q1 and stronger in Q4, just given the nature of what some of our biggest growth drivers are.

The other thing I would note on visibility is in terms of new sales that we make, about 60% of those tend to be upsells from existing customers. And we have a pretty good sense of not just when those renewals are up, but also what the usage is in those customers and tend to have a lot more visibility and predictability into when those deals will close.

So, we're still going to see the quarter-to-quarter variation that you would expect to see as an enterprise software company, but have a pretty high degree of confidence in that pipeline visibility as we talk through the seasonality.

Okay. Following up on the sales cycles here. You talked about the larger deals taking a bit longer to get done just naturally. When you look at your overall sales cycles, are there any macro factors? Are they getting longer? Are they staying about the same? Are you seeing any competitive impact from prices that Microsoft's made for OneDrive? Any price sensitivity?

We're not seeing any changes in terms of the overall length of certain types of deals. Certainly, we think about larger deployments, especially when they are really focused on security, compliance use cases where Governance might be involved. Or similarly, we would expect as we start selling more into the federal government, we might see longer deal cycles there. But on a like-for-like basis, we are seeing pretty consistent deal cycles year-over-year. And really, it is just a function of the mix shift is why we tend to see longer deal cycles overall versus where we were a year or two ago.

And just finally on the competitive factor, are you seeing anything different with the Microsoft relationship?

We're not, no. Not only has that not shown up in any of the deal metrics that we are looking at, but I would also highlight that we continue to see very stable pricing in that $9 to $10 per user per month range, which continues to be stable and we have pretty strong performance there in Q1 as well.

Thank you.

Go next to Melissa Gorham with Morgan Stanley.

Great. Thanks for taking my question. I just wanted to get into the billing dynamics just a little bit more and then specifically related to the duration comments. I'm just wondering if you could give us some sort of guidance on what percentage of your base is currently on annual versus multi-years? And then, how you expect that to ramp over the next year and over the next few years?

The combination of customers in dollar terms who are billed for a year or longer is about 70% of our current customer base. The biggest shift and the biggest driver in the payment durations mix that I mentioned, is really that shift from standardizing the customers are paying for multiple years onto a one-year payment terms.

As I mentioned on the last call, we have tended in the past to see somewhere in the mid to high single-digit range in terms of the percentage of customers prepaying for multiple years in advance. Whereas in Q1, we saw that at about 2% and would expect to see that type of shift going forward as being the biggest driver of that.

As a reminder, the reason for that shift is given the strong top line performance that we saw last year and our strong visibility into becoming free cash flow positive, we really wanted to focus our sales team on securing annual billings terms to really avoid giving discounts associated with multiple year prepayments. As we're really building a business for the long-term and I think this is not just the right thing to do to maximize the long-term contract value in revenue from our customers, but also the right time to do so given our line of sight into becoming free cash flow positive.

Okay. That's really helpful. I just want to follow up on the comments on increasing the quota carrying sales heads. I'm just wondering if you can provide a little bit more detail on what the driver of that increase in hiring is related to? Maybe you could just reconcile that guidance or that commentary with the outlook for operating margins to improve? Where are you seeing improved sales productivity?

Quickly on the context. As we're selling more and more into larger enterprises, we are finding that productivity, certainly goes up for sales reps when they can put more focus on a smaller number of accounts or named accounts in their territory.

As we are developing a much more consistent and predictable rhythm for selling larger transactions as we have seen in Q4, we want to make sure that we have the right number of people in the field that can go work on the next set of customers, the next set of transactions, given the consistency of what that sales cycle looks like.

It is mostly a reflection of how we are seeing the market opportunity, the fact that our deals are getting much larger and that we see productivity going up and we can put more focus for our sales reps while still making sure we capture that opportunity.

With respect to the metrics, I would add we are very focused on improving sales rep productivity. As a reminder, last year, we grew that by nearly 10% from FY15 to FY16. And we really hire and make these decisions in line with the demand we're seeing and based on the productivity outcomes we're seeing. And we don't expect our increased hiring targets have much of an impact on our rep productivity outcomes which is different from the overall sales and marketing leverage that we're driving the business.

So some of the more major factors that are allowing us to both increase our sales headcount and drive leverage over time is the online sales initiative that we mentioned. We've been able to take a significant amount of cost out of the business as we focus reps further up markets. The pipeline we are seeing and the lift that we are seeing and expect to continue seeing out of many of our channel partners, with IBM in particular, provide another area of just way to drive more sales and marketing efficiency.

And then finally, I would highlight the free user marketing expense. We have really been focused on streamlining those costs as we continue to double down and become more enterprise focused. We have seen that spend as a percentage of revenue drop by 6 point year-on-year from 14% to 8%. And there are a number of other things we are doing in order to continue improving our operational efficiency.

Okay, great. Thanks.

Next question comes Aaron Rakers with Stifel. Aaron, please check the mute button on your phone.

Sorry about that. Thanks for the questions. A couple if I can? First of all, would you mind talking about the gross margin trajectory? I think last quarter, you had talked about the expectation of finding stabilization at current levels, but yet, we're still down about 90 basis points sequentially. Can you talk a little bit about how we should model that line item through the course of this fiscal year?

So, we think about and many of the puts and takes we have talked about balancing the continued data center investments with a lot of the operational efficiency improvements and scale that we're seeing in the model, I think net out to being roughly stable for the remainder of this year.

We'd expect this Q1 outcome to be pretty much what you could expect to see for the rest of FY17. And then over time, as we scale and we expect to hit a point where we can mitigate those incremental investments and gain leverage in this line as well by driving efficiencies both in the data center spend as well as the headcount, we would expect our gross margin to begin trending back upwards sometime in the FY18 year and then to remain in the 75% to 80% range longer term.

Okay. I'm curious of what a materially lower CapEx trend looks like over the next couple of quarters?

There was largely speaking to the impact of the Redwood City CapEx, which was about a $35 million net outlay that we saw over the trailing four quarters. And we would not expect to see that going forward as in Q1 was really the last part of that outlay. So that would be the biggest driver driving that material change.

And then for an overall data center driven CapEx, we would expect that for the year for that CapEx, including capital leases, to be in the 3% to 5% range of revenue, which is a little bit lower than the outlook that we had given a few months ago in the 4% to 6% range. And that is largely due to some of the efficiencies that we're finding as we continue to scale and build out our infrastructure.

And then real quick, final question is on again, the quota bearing headcount expansion. You talked about 13% last year, I apologize if I'm a little bit confused. Are you saying that rate of growth accelerates this year from the 192 that you had -- or 192 total quota bearing heads that you had exiting FY16?

That is right. Earlier we said you could expect to see that headcount growth for easing roughly in line with that 13% and now, we're expecting to see it a little bit higher than 13%. Just to give a bit more color to break it down, last year, we saw about 20% growth in our field-based quota carrying AEs and single-digit growth in our inside sales force and that averaged out to 13%. This year, just as last year, we'd expect the most significant investments as it relates to our quota bearing headcount to be in the field.

Thank you.

Our next question from Joyce Yang with BofA.

Hello. Thank you for taking my question. Aaron, I would like -- if I heard you correctly, you mentioned that there was a Fortune 500 customer that increased the profit of a 10,000 seat while rolling out Office 365. Can you talk about how the customer came to make that purchasing decision and which departments were those seats deployed?

Yes. That example is actually much more indicative of a broader trend where what we're seeing is Office 365 is incredible for doing things like online office document editing, mobile device security, moving your email to the cloud. But fundamentally, customers still need a best-in-class content management and collaboration platform when using Office 365.

What we're finding is because of our integrations with Office 365 across Outlook and Office on the Web or on mobile, customers are actually increasing their utilization of both Office 365 and Box because of that connectivity. With customers like the commercial real estate company that I mentioned, but also many others at this point, what is happening is Box is now being used for more of the daily collaboration, more of the daily document editing, as well as becoming the secure repository for more and more cloud platforms that our customers are adopting.

We believe this is going to be really the start of a much broader trend. Obviously, you can imagine many of the use cases that come with Office 365 and Box, but more importantly, being that center of how content management is managed -- content is managed in an enterprise across Slack, across salesforce, across Office 365, any of the applications that our customers are using. So that is really the value add that we are offering with Office 365 deployments.

So areas in the companies where they are going to the cloud with --

Yes, completely horizontal. So across every job function within the organization.

Got it. That's great. Just to follow-up on that, the 5,000 customer adds were very impressive. I am curious to learn more about what drove that strength versus last year in Q1, you've added a lot less customers.

Do you see a change in environment and which these small medium businesses are approaching cloud and cloud storage? And also on top of that, what were the catalysts for companies that added or expanded deployments like Airbnb and Whirlpool?

Actually, last year is probably where we laid the foundation for this new customer win where we have been doing a lot of improvements on our online sales and online customer acquisition transaction technology. So it has been about making it more efficient for customers to come on board on Box with being able to do that completely online in a much higher volume way. So that's what's driven a lot of the volume.

And then of course, our continued investments in sales and marketing are just bringing on more and more customer logos. So, that's the difference over Q1 a year ago.

In terms of what's catalyzing customers to expand their adoption of Box, we see a natural rate of the users in these organizations virally adopting the technology. So in many cases we will deploy to an organization maybe 5,000 or 10,000 seats, but then Box will spread virally throughout that organization, which allows us to go do an upsell just in terms of the number of seats that that customer has.

But there are many other cases where at a juncture of the partnership, oftentimes at renewal, the customer will decide to deploy Box in a more sophisticated way across their organization. And that is where things like Governance, or KeySafe or Zones might come into play because that allows customers to move more of their strategic or mission critical business processes and content to Box.

So it is both seat-based driven reasons for the customer expansion as well as enabling them to adopt Box for more use cases because of our new product innovation. Both of those are driving the upsells of our customers.

Got it. Great. Thank you.

We'll take our next question from Richard Davis with Canaccord.

Two quick questions. You've been talking about hiring new reps and things like that. Where are you getting them from and what is their experience level?

The second question that you could answer because it would help me explain to people as well, is there any scenario when you're costs go down and you get lower pricing because there is still an urban myth out there that if your cost of storage goes down, this is actually a negative, which in my opinion is probably a positive. But those two topics would be great. Thanks.

The first thing on our sales rep backgrounds. We are obviously -- we're evangelizing a new market that is disrupting a legacy set of investments. So we look for sales reps that have that kind of capability. Often they have worked at other cloud companies and other SaaS providers. We have found success in people that have worked with a history in document management technology as well.

We have been successful with a very wide array of sales reps. We are certainly targeting a number of profiles. It really comes down a lot of times to personality, how successful they have been at their prior companies as well as the past that they have worked in. Those are the factors that tend to driver our sales rep hiring decisions.

And then in terms of the cost of storage going down, that is unequivocally remained a positive for our business. When Dylan mentioned our move to lower cost Amazon storage, that shows up directly in our lower infrastructure cost from a store standpoint and that has been helping improve the efficiency of the platform.

The only thing I'd add there is that we've been giving unlimited storage to our customers for several years now. Really the value proposition, how people think about Box, is really disconnected from the underlying cost of storage that we see or are seeing in the market. And it's, as Aaron mentioned, absolutely a good thing for us. With that, it allows us to invest in performance, security and all the other functionality that allows us to differentiate ourselves from the competition and certainly the platforms and companies are focused more on a storage-based proposition. So that is just one of those trends that has been very positive for us as a business.

And if I could just add one more quick thought. The Box Zones architecture was very fundamental to this trend. We basically determined that the competitiveness of underlying public cloud providers was going to help us drive up our efficiency and allow us to focus on more and more technology above the layer of infrastructure. Whether it's being able to deploy in international data centers or being able to benefit from the lower cost of storage that those public cloud providers are creating, all of that is both going to drive more innovation from Box as well as lower cost footprints for our underlying infrastructure over time.

Thank you very much.

We'll take our next question from Greg McDowell with JMP Securities.

Thank you very much. I wanted specifically to ask about cash flow from operations. As you mentioned, it was almost breakeven on an adjusted basis. As I look at the model from last year, it actually improved from Q1 to Q2. I was wondering how we should think about cash flow from ops in Q2 and whether or not that number could be positive? Thanks

So we actually tend to see cash from ops seasonality really mapping to a trailing our building seasonality. We typically see the strongest billings outcomes in Q3 and Q4, and to see the strongest seasonal cash from ops outcomes in Q4 and Q1.

If you are looking at the cash flow results from last year and that sequential improvement from Q1 to Q2, I think that might be largely related. If you are looking at a $32 million number in Q1, that included a $25 million outlay associated with our move and a letter of credit with our Redwood City headquarters. So while it was $32 million in reported cash from ops, we tend to talk about that and speak to it as $7 million negative, which is really the underlying business cash from ops outcome.

We saw an improvement from, again, on an adjusted basis, negative $7 million to nearly breakeven. And just as we saw last year and have seen in years historically, we expect to be slightly weaker Q2 and Q3 cash seasonality and stronger in Q4 and Q1.

That's helpful, thank you. Maybe one for you, Aaron. You mentioned bringing on a new Chief Marketing Officer. I was wondering just what the marching orders are going to be for that new Chief Marketing Officer.

When we attended the Box World Tour, certainly Box Platform was a key theme and I know that might be one area of increased marketing. But I was just wondering how you are thinking about the role of that new person?

It's certainly to build on and continue a lot of the efforts that you have seen recently. We are certainly expanding our footprint and our story globally. We're going into new markets. We serve everything from small business to the largest enterprises on the planet. There is a mix of field marketing as well as digital marketing that gets combined in there.

I think we are representing what a modern enterprise marketing machine looks like in terms of digital marketing capabilities, making sure we can reach customers directly in their region, as well as be able to expand our marketing leverage through partners, channel resellers, et cetera. That is really the job of the CMOs to take that work and continue to extend it in the future and do it in the best-in-class way.

Great. Thanks.

Our next question comes from Brian White with Drexel Hamilton.

Dylan, I'm wondering if you could just comment on the shorter payment duration? Is this something that is proactive that you are driving or is it something that your customers are driving?

It is absolutely a proactive measure driven by us in order to maximize contract value as well as normalize the billings terms. Most importantly, to make sure that we're really getting as much in annual contract value versus having to discount those contracts as is typically the case when securing multi-year prepayments.

Aaron, when we look at Box Platform, could you give us a little color of what you saw in the quarter in terms of wins or interest levels that customers obviously this is huge opportunity for Box. So any color would be appreciated.

Q1 was the first time that we were on out in this field with the Platform story. We attach it to our Box World Tour. We are now doing a lot of in region customer marketing. This is the first few months where we are really driving that message directly to existing customers and working with their development teams, their technology organizations. So the pipeline is building in a very healthy way.

The use cases are representing nearly every single industry but with a key concentration in markets like financial services, healthcare, life sciences, where you have a lot of regulated business processes with a deep need for secure and compliant content management and storage. Those customers are building new digital experiences to go work with their customers and their clients.

I mentioned one example of a bank that is going out and digitizing their customer interactions around how they share documents and how they share files with their clients. Those are the kinds of use cases that will be built on the Box Platform and how we can expand both our revenue opportunity but as well as strategic footprint within those customer environments.

Thank you.

Next question is from Terry Tillman with Raymond James.

Hello, this is Brian Peterson in for Terry. Just one quick one from me. Dylan, just wanted to understand the mechanics on the full-year revenue outlook. It looks like you beat by close to $2 million this quarter and your full-year guidance is going up by $1 million. So just wanted to understand what assumptions were baked into that? Thanks.

As we have talked about, our pipeline for larger deals is healthy but given our more back end loaded business model, we are pretty conservative in terms of setting the expectations around the revenue impact of those deals this year. I know that, and as you mentioned, the guidance in that range is slightly higher, closer in line to what we had guided to before.

And so, we will continue to give color into the bookings and the business as it is developing. I would say there is nothing materially different about our assumptions that go into the guidance we gave beyond the increasing seasonality that we see in the business that we highlighted as we continue to move further up market.

Got it. Thank you.

It appears we have no further questions. I will return the floor to our speakers for closing comments.

Thank you, everyone for joining us today. We look forward to speaking with you next quarter. Have a great day.

This does conclude today's teleconference. Thanks for your participation. You may now disconnect. Have a great day.