Commvault Systems Inc (CVLT) 2019 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Second Quarter 2019 Commvault Earnings Conference Call.

(Operator Instructions) As a reminder, this conference call is being recorded.

I would now like to introduce your host for today's conference Mr. Michael Picariello, Director of Investor Relations.

Sir, you may begin.

Good morning.

Thanks for dialing in today for our fiscal second quarter 2019 earnings call.

With me on the call are Bob Hammer, Chairman, President and Chief Executive Officer; Al Bunte, Chief Operating Officer; and Brian Carolan, Chief Financial Officer.

Before we begin, I'd like to remind everyone that statements made during this call, including in the question-and-answer session at the end of the call, may include forward-looking statements, including statements regarding financial projections and future performance.

All these statements that relate to our beliefs, plans, expectations or intentions regarding the future are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and are based on our current expectations.

Actual results may differ materially due to a number of risks and uncertainties, such as competitive factors, difficulties and delays inherent in the development, manufacturing, marketing and sale of software products and related services and general economic conditions.

For a discussion of these and other risks and uncertainties affecting our business, please see the risk factors contained in our annual report on Form 10-K, and in our most recent quarterly report on Form 10-Q.

And in our other SEC filings and in the cautionary statement contained in our press release and on our website.

The company undertakes no responsibility to update the information in this conference call under any circumstance.

In addition, the development and timing of any product release as well as any of its features or functionality remain at our sole discretion.

Our earnings press release was issued over the wire services earlier today, and it has also been furnished to the SEC as an 8-K filing.

The press release is also available on our Investor Relations website.

On this conference call, we will provide non-GAAP financial results.

The reconciliation between the non-GAAP and GAAP measures can be found on Table IV accompanying the press release and posted on our website.

Commvault adopted the new revenue standard ASC 606 on April 1, 2017.

Our adoption was done on a retrospective basis, so all prior periods in our financial statements have been adjusted to comply with the new rules.

As a result, the results in growth percentages we will discuss today are on a comparable basis using the new rules.

All references to software revenue are inclusive of the dollar amounts or percentages for both software and products revenue as disclosed in our P&L.

Today's live website will also include a slide presentation as part of Commvault's prepared remarks to facilitate updates on our Commvault events initiatives.

These initiatives include an update on our transition to subscription revenue licensing models as well as our recent operational review.

The slides also cover our announcement of new multiyear revenue and operating margin targets.

If you have not done so already I would suggest logging into the webcast now to view or download a copy of the slides.

Please also note that in order to best see the slides we suggest enabling full-screen slide mode within the webcast.

In addition the slides can also be downloaded from the Commvault website under the Investor Relations page.

This conference call is being recorded for replay and is being webcast, an archive of today's webcast will be available on our website following the call.

I will now turn the call over to Bob.

Thank you, Mike, and good morning, everyone.

And thank you for joining our fiscal second quarter FY '19 earnings call.

On today's call we will discuss our fiscal 2019 second quarter results, our multiyear business model transformation to deliver shareholder value called Commvault Advance, including an update on the progress we have made to accelerate our transition to subscription revenue models.

The results of our recent operational review, which includes the announcement of new multiyear revenue and operating margin targets and an update on our share repurchase program.

Let me briefly summarize our Q2 financial results.

Software and products revenues were down 3% year-over-year, total revenues were up 1% year-over-year, EBIT margin was 14.8%, up 550 basis points year-over-year, EPS was $0.40 per share versus $0.21 in the prior fiscal year.

Our EBIT margin improvement was driven by cost efficiencies implemented as part of our Commvault Advance initiatives.

Later in the presentation we will talk about our new revenue metrics that will provide greater clarity to investors on our subscription model transition, which has been accelerating over the last several quarters.

In Q2, our subscription revenue represented the highest proportion of software revenue in our history and subscription annual contract value or ACV, which we will define later in the call, accelerated its year-over-year growth to over 90%.

As a reminder, last quarter we were implementing a major corporate-wide transformation called Commvault Advance.

Please take note that Commvault issued a press release this morning outlining the significant progress we have made since announcing Commvault Advance in May.

The goals of Commvault Advance are to establish a strong foundation to improve revenue growth, while at the same time achieving much improved operating margin leverage.

The implementation was the culmination of a couple years of effort across products pricing, a reorganization of our sales and distribution functions, and the establishment of a much stronger, more efficient routes to market.

We believe that our second quarter software and products revenue reflected the temporary disruption from the significant Commvault Advance related changes we made during the quarter, including reorganization of our sales and distribution organizations, which in part shifted a significant percentage of field resources to support our channel and alliance partners.

And major simplification of both products pricing to make our solutions easier to both sell and buy.

We acted swiftly to implement these changes and while there was a higher level of disruption than we had anticipated, the most significant changes are now largely completed.

And we are focused on go-forward execution throughout the remainder of FY 2019.

Based on the early results of these changes we are already seeing improved momentum and have seen a sharp increase in funnel growth, strong order flow in October and solid forecasts from the field.

However given the early stage of our transformation, we plan to remain conservative with our near-term outlook until we can validate the positive turn in the business with solid quarter-on-quarter revenue growth.

We believe the implementation of Commvault Advance, although challenging in the near-term, puts us in a much stronger position to take advantage of the major shifts to the market and significantly improves our ability to execute our strategy and drive revenue and earnings growth.

Commvault Advance leverages our strengths and shores up our weaknesses.

Specifically we believe Commvault has the leading technology to enable large enterprises to consolidate data management to deal with the critical issues related to cost, cyber, compliance and the cloud which I call the 4 Cs.

As data scale increases we're also well on the path to our exabyte scale in our platform.

We now have simplified software solutions, pricing, packaging and appliances to deal with a shift to simplification at both the enterprise and the mid-market, particularly with our converged appliances and Commvault Complete data management.

While we are the clear technology leader in migrating and managing data in the cloud, with IBM's $35 billion acquisition of Red Hat this weekend there will be additional focus on cloud.

And Commvault is well positioned to take advantage of that with our leading data management platform -- with the leading data management platform in the industry.

We are leading the industry in data analytics with our know your data solutions, with Commvault Activate.

As part of Advance we are laser focused on improving our ability to accelerate revenues through a much stronger sales and distribution.

These efforts have been further bolstered with the recent hiring of several sales leaders with strong distribution focus.

Commvault has been focused on making fundamental changes to our products and our businesses that we believe will deliver sustained revenue growth and profitability over both the near-term and the long-term.

These business model optimization changes that will deliver shareholder value include an enhanced and expanded and simplified product portfolio, improved distribution leverage, a transition to subscription pricing and aligning our cost structure with our revenue growth.

So let me talk about our product portfolio.

As I just mentioned, a key element of Commvault Advance is to create an enhanced, expanded and simplified product portfolio, which includes product innovations that make it easier for customers to install and use our products and changes to packaging and pricing structures to make it dramatically easier for our sales teams and partners to sell and customers to buy our products.

Commvault now has 4 distinct simply powerful offerings.

One, is Commvault Complete backup and recovery, which is the consolidation of what was previously 20 SKUs.

Commvault HyperScale software and appliances, which is converged data management protection combined with scale-out secondary storage.

Thirdly, Commvault Orchestrate, which is fully automated to SaaS recovery, Dev/Test and data migration particularly in the cloud.

And fourth, Commvault Activate which is designed to help customers know their data and then discover and extract new business insights from data under management, whether that data is on-premise or in the cloud.

All these products are built upon a common software and technology platform we call the Commvault Data Platform.

Another key strategy is to drive significantly improved distribution leverage through a combination of products better aligned to routes to market, which include our appliances at Commvault Complete.

Reallocation of sales resources from direct selling to supporting our partners and the expansion of our alliance relationships.

During the first half of fiscal '19, we shifted a material portion of our sales and marketing resources from direct sales to supporting our channel and strategic partners and strengthening our strategic relationship with key partners including HPE, NetApp, Cisco, Microsoft and AWS.

We expanded our partnership with HPE, Commvault backup recovery software will now be fully integrated with the HPE StoreOnce appliances.

The integration will allow backup data to be moved natively to the cloud or back to on-premise.

We expect this integration to be available in November.

In addition, we launched sales programs for Commvault Complete and HyperScale, which are now included in HPE's global price list, which continue to align our field organizations and put structure around our joint pipeline build.

We recently announced an expanded partnership with NetApp, whereby NetApp is now a full reseller partner.

NetApp and NetApp channel partners can now sell the Commvault backup and recovery software directly to its customers.

We have continued to develop our strategic relationships with Hitachi Vantara, Huawei and Fujitsu.

We expect to see significant funnel build and revenue progress, with both HPE and NetApp during Q3.

We remain excited about the business opportunity represented by our alliances, with all of these leading technology vendors, and believe that these relationships will drive significant opportunity for Commvault, going forward.

Let me talk about our transition to subscription pricing.

Beginning in fiscal 2018, we began transitioning a significant portion of our new customer revenue to subscription pricing models.

This transition has benefits to both our customers and Commvault.

Our success with subscription models has been better than we anticipated, and our repeatable revenue streams have been significantly outgrowing our legacy pricing models.

This transition has created some headwind to near-term top line revenue growth as a like-for-like subscription transaction initially generates less revenue than a perpetual sale, but we believe that it's the right long-tem model in order to drive improved and sustainable revenue growth for the future.

Brian will highlight some of these key metrics which show our progress on this transition.

Now let me talk about cost efficiencies.

During fiscal '19, we made excellent progress in adjusting our cost structure, so that we could deliver meaningful improvements to operating margins over the next couple of years.

With the assistance of third-party consultants, we identified areas of operational efficiencies, both in the near- and long-term, which positively impacted the first half of FY '19, and we anticipate will drive higher operating margins for the balance of FY '19 and beyond.

Our progress is evidenced by the 61% year-over-year growth in Q2 non-GAAP operating income.

Brian will address our multiyear operating margin targets later in the call.

While we are making changes to simplify and improve our business, one thing we will not change is our commitment to innovation and delivering world-class solutions and support to our customers.

As we identify economies in our cost structure, we have not decreased our investment in R&D or customer support, since our objective is to maintain our technological leadership position in the industry.

Our commitment to lead the industry in innovation is highlighted by the announcements we made recently at our third annual customer and partner conference Commvault GO.

At the conference we announced more powerful yet simplified oversight of backup and data management operations by using sophisticated machine learning and artificial intelligence to automatically adjust backup schedules, dynamically auto-optimize operations to improve IT resource utilization, take immediate actions to mitigate damage from a cyberattack and provide real-time alerts on critical issues.

We also continue to maintain our leadership position in the cloud.

Commvault solutions seamlessly work with more than 40 cloud offerings, and we continue to be one of the leading data protection offerings to delivering workloads to the cloud in particular AWS, Azure and Google Cloud.

Our ability to enable customers to rapidly move workloads to, from and between clouds or protecting the data is a significant competitive advantage and remains a key driver of the Commvault business.

Now that the foundation of Commvault Advance is in place, we believe we will see increased top line momentum, as our channel strategy, go-to-market initiatives and alliance partnerships have started to show positive traction with growth -- with funnel growth acceleration.

We anticipate sequential revenue improvement, during the second half of fiscal '19 based on the following.

One, the success of Commvault HyperScale Appliance and HyperScale Software Solutions, cloud migration and management.

Success with the Commvault data platform to gain share in large enterprises with the journey to the cloud and solutions to help customers mitigate and recover from a cyberattack with highly automated machine learning and artificial intelligence aided data protection, disaster recovery and intrusion detection and mediation.

Third, becoming a lean foundation for governance, data analytics and as an optimized data source for business analytics.

And finally, dramatically improving our growth in the mid-market by offering much more support to our channel and strategic partners combined with the introduction of new innovative product offerings and pricing.

In summary, the implementation of the Commvault Advance initiatives in Q2, resulted in disruption that we -- that did not allow us to achieve our top line objective.

However, we believe the pieces were now in place for the company to execute and deliver improved financial performance.

I will now turn the call over to Brian.

Brian?

Thank you, Bob and good morning everyone.

In addition to covering the traditional financial highlights for the second quarter of fiscal 2019, I will also spend time updating you on the progress we have made to accelerate our transition to subscription revenue models, including metrics which demonstrate our continued progress towards more repeatable software and products revenue streams.

I will also update you on the results of our recent operational review which includes the announcement of new multiyear revenue and operating margin targets.

And lastly, I will provide you an update on our share repurchase program.

In addition to our earnings release issued earlier this morning, we also have made available a presentation on the Investor Relations section of our website and also included this presentation in our 8-K filing.

If you are on the webcast you can follow along with these slides during my remarks.

Q2 total revenues were $169.1 million, representing an increase of 1% over the prior year period.

On a sequential constant currency basis, total revenue would have been approximately $1.9 million higher using prior quarter FX rates.

We reported Q1 software and products revenue of $69.5 million, which was down 3% year-over-year.

Revenue from enterprise deals which we define as deals over $100,000 in software and product revenue in a given quarter represented 66% of such revenue.

Revenue from these transactions was up 8% year-over-year.

The number of enterprise revenue transaction increased 10% year-over-year.

Our average enterprise deal size was approximately $284,000 during the quarter.

Gross margins were 84.6% for the quarter.

The cost of third-party royalties related to our HyperScale Software Solutions and the cost of hardware related to our HyperScale Appliances is included in the cost of software and products revenue.

Total non-GAAP operating expenses were approximately $115.2 million for the quarter, down approximately 10% year-over-year and 7% sequentially.

We completed phase 1 of Commvault Advance and found significant efficiencies in our cost structure, which included reducing our overall headcount by approximately 7% since the beginning of the fiscal year.

We ended the September quarter with 2,644 employees.

In addition as we go through phase 2 of Commvault Advance, we remain focused on maintaining our technological leadership position in the industry.

We do not expect these operational initiatives to have an adverse impact on our product development strategy.

Operating margins were 14.8% for the quarter, resulting in operating income or EBIT of approximately $25.1 million.

As Bob mentioned, EBIT was up 61% year-over-year.

Net income for the quarter was $19.1 million and EPS was $0.40 based on a diluted weighted average share count of approximately 47.8 million shares.

As a reminder during FY '19 we lowered our pro forma income tax rate from 37% to 27%.

We believe that as a result of U.S. tax reform, 27% will align to our long-term GAAP and cash tax rates.

We anticipate that our diluted weighted average share count for full year FY '19 will be approximately 48 million shares.

Let's now change gears and spend some time on our subscription pricing models and our continued shift to more repeatable revenue.

Our subscription pricing models are continuing to resonate with customers.

We believe our transition to subscription-based pricing models over the last 6 quarters has been very successful.

For the sake of clarity and transparency, we are introducing 2 revenue metrics to help investors track the growth and progress of our subscription revenue transition.

As you will see subscription revenue is becoming a larger portion of the business and we intend on accelerating the pace of this transition over the next several years.

When you combine our subscription-based license sales with our other repeatable services revenue streams such as maintenance, managed services and SaaS, it represents what we call our repeatable revenue.

We are on track to achieve our goal of having 70% plus repeatable revenue in FY '19.

Let me start out by defining the nature of our current revenue streams.

Slide 9 in our presentation includes a chart that summarizes revenue based on how it is recognized and if it is potentially repeatable.

Nearly all of Commvault's software and product revenue is related to solutions that are run in the customer's on-prem environment or cloud infrastructure.

We currently do not have any significant revenue streams related to hosted or SaaS solutions.

As a result as required under ASC 606, the vast majority of Commvault's software and product revenue is recognized at a point in time when it is delivered to the customer and not over the course of a contractual period.

This is true for both perpetual licenses and our software subscription software licenses.

As a reminder our subscription software license agreements generally require a minimum non-cancellable spending commitment and term, which is typically 3 years.

We have intentionally used the word repeatable and not recurring to describe this revenue because it is recognized at a point in time and not ratably over the length of the contract.

Each time a customer renews a subscription arrangement, Commvault will recognize the entire value of the software that was sold in the period of sale.

The only exception to this point in time recognition principle for our software products is sales of our pay-as-you-go utility arrangements.

These utility arrangements are generally structured with no guaranteed minimums, which means they are recognized over time based on product usage.

We measure total repeatable revenue as subscription software and product revenue, utility software revenue and the revenue related to our maintenance and support services.

Note that unlike software, our maintenance and support services on both perpetual and subscription software arrangements are recognized ratably over the contract term.

Slide 10 includes a summary of the benefits of subscription models.

We have heard from many of our enterprise customers that consumption-based pricing such as subscription arrangements is very high on their list of prerequisites for a data management solution.

Customers often prefer a subscription model because it simplifies their procurement process, lowers their upfront commitment and aligns with their move to consumption-based pricing models associated with cloud storage.

Ultimately a subscription license provides the customer with much more flexibility to adapt to changes in our business and technology.

If subscription arrangements make it easier for prospects to become Commvault customers, we are confident that the lifetime value of our customer relationships will increase.

And from a Commvault perspective, we believe these models will drive a more predictable and repeatable revenue stream over time.

Let's now look at a simple representative example of a perpetual license transaction and how it compares with a subscription license arrangement over both a 3 and 6 year period.

In this example on Slide 11 we have compared a like-for-like perpetual license and subscription license arrangement.

As you can see the subscription solution requires less upfront investment by the customer and results in lower initial revenue to Commvault.

In this example, the customer could purchase a perpetual license for our software for $245,000 plus annual customer support and maintenance.

Each year that this customer renews their support and maintenance, Commvault receives $45,000 of revenue.

The total cost over a 3-year period is $380,000 and increases to $515,000 over 6 years.

To purchase the equivalent amount of software under a 3-year subscription model the customer would pay $300,000 either upfront or over the 3-year life of the agreement.

This price is inclusive of both software and maintenance and support.

Over time typically after the first renewal, the cumulative revenue from a subscription model exceeds the perpetual model and related maintenance.

We believe this is a win-win scenario.

By making it easier to initially transition to Commvault, our customers will also realize other financial benefits over time versus a competitor's solution such as more cost-efficient storage, reduced downtime and less administrative costs.

In recognition of our transition to subscription models we believe it is now important to highlight 2 key operating metrics, which demonstrate our continued progress towards more repeatable software and products revenue streams, which we have been discussing for several quarters now.

We believe these metrics show the potential value of the transition to Commvault shareholders.

The first is repeatable revenue and the second is a new metric not previously discussed, but widely used in the industry and that is annual contract value or ACV.

I will walk you through each of these in the next few slides.

I will start with repeatable revenue which is shown on Slide 13.

As noted earlier, our primary repeatable revenue streams are subscription, software and maintenance services.

The amounts included on the subscription and utility software row are inclusive of both software and maintenance and support revenue on these arrangements.

The amounts included on the recurring support and services row is primarily maintenance and support revenue related to existing perpetual software arrangements.

We would consider approximately 71% of our Q2 total revenue to be repeatable in nature.

As you can see our repeatable revenue has been consistently growing in excess of our legacy pricing models and were up 22% year-over-year in Q2.

The recent growth of our repeatable revenue streams has been driven by subscription software and products revenue, which is shown on Slide 14.

Subscription-based pricing represented a record 43% of software and products revenue in Q2, which compares to 17% in Q2 of last year.

Software and products revenue from such subscription-based models are up 136% year-over-year, a significant acceleration from last quarter.

This consists of both committed and often multiyear subscription sales, as well as pay-as-you-go utility type arrangements.

The second metric I would like to discuss is the subscription and utility annual contract value or ACV, which is shown on Slide 16.

As we transition to a mostly subscription or repeatable revenue model, this will provide greater visibility into the increased subscription contracts we sell.

ACV is defined as one, the total active subscription contract's value inclusive of revenue that was recognized as either software or support services annualized for a 12-month equivalent value plus two, the annualized value of active utility or pay-as-you-go usage billings.

We believe this ACV metric normalizes the variations in contractual length along our subscription and utility transactions and will help investors and analysts track Commvault's transition to more potentially repeatable revenue streams.

This metric will be a valuable data point to demonstrate the growth of our subscription and utility-based pricing models that we expect to drive new customer acquisition land and expand growth, as well as upsell opportunities.

As of Q2, ACV has grown to $76 million after only a short period of selling subscription licenses.

Importantly, ACV is accelerating and achieved approximately 90% year-over-year growth this quarter.

As part of our Commvault Advance initiatives our go-to-market model is highly focused on primarily selling these subscription licenses, and we expect subscription ACV to grow significantly over the next several years.

I would now like to spend the next few minutes addressing both our near-term financial outlook and our longer-term operating targets.

As outlined in today's press release, we have been making good progress within our Commvault Advance framework across all aspects of the company by strengthening our competitive technology position, broadening our product line, expanding distribution relationships, reorganizing sales and marketing, and driving cost reductions and efficiencies.

We are on a path to improving the sustainable financial performance of the company.

While we expect that the changes we have made to products pricing, distribution and partnerships will drive future revenues and operating leverage, we also took actions to align our cost structure with a reasonable revenue growth target.

As Bob discussed earlier, the implementation of the Commvault Advance initiatives resulted in near-term disruption that did not allow us to achieve our Q2 and near-term top line objectives.

We are also conservatively planning for modest revenue growth in Q3 and Q4.

We expect third quarter total revenue to be approximately $181 million and fourth quarter revenue of approximately $189 million, resulting in total FY '19 revenues of approximately $715 million.

These expectations are based on Q3 and Q4 software revenue of approximately $82 million and $86.5 million, respectively.

If we achieve our revenue outlook, we will continue to see margin expansion and strong year-over-year earnings growth based on the cost-cutting initiatives we began in early fiscal 2019.

We now expect the Q3 EBIT margin percentage to be approximately 15% and the full year FY '19 EBIT margin percentage to be approximately 14.7%, which is a 380 basis point improvement over the prior year.

While our strategic fundamentals are strong and our ability to execute has improved, we still face critical challenges.

It is important to note that Commvault Advance is a major transformation and restructuring effort.

We're making fundamental changes to the business, which carries risks, tied to disruption, and execution.

While we believe that the majority of the elements of Commvault Advance are in place, there is a certain element of transformational risk associated with the execution of such initiatives particularly in the near-term.

Despite these risks, we are already seeing improvements across numerous KPIs, and October order volume is tracking well.

Secondly, as we have discussed for many quarters, we are currently reliant upon a steady inflow of large 6 and 7 figure deals, which come with additional risks due to their complicity and timing.

While we also need to improve our close rates on these deals, large deal closure rates will likely remain lumpy particularly in the near-term.

And lastly, while we're happy with the progress we're making with subscription pricing models the transition drives a headwind to near-term license revenue growth.

This transition will continue to have a dampening effect on revenue, but we believe will ultimately result in a higher lifetime value.

As previously stated fiscal '19 will be impacted by the near-term disruption of the changes we implemented as part of our Commvault Advance initiatives.

As we enter fiscal '20, our goal is to capitalize on these changes and start to realize leverage from our distribution model, as well as the operational efficiencies we identified and implemented in fiscal 2019.

Turning to the next slide, you can see the detail of our multiyear revenue and operating margin targets.

Our fiscal '20 objective is to grow revenue by at least 9%, while achieving 20% plus operating margins.

Our fiscal '21 target is to continue driving operating leverage and obtain 25% plus operating margins.

Our continued transition to more repeatable revenue will also be a key component of our improved financial performance.

As you can see on Slide 21, our target is to achieve 80% repeatable revenue in fiscal '21.

Given our transition to subscription software licensing began in fiscal '18, fiscal '21 represents the first opportunity for Commvault to significantly benefit from renewals of existing subscription customers.

As we continue driving repeatable revenue, we'll focus on maximizing the value of subscription and utility annual contract value.

As previously discussed, our current ACV is approximately $76 million.

Our goal is to achieve approximately $240 million of subscription and utility annual contract value by the end the fiscal '21.

The $240 million goal is approximately 8x the ACV we started with when we began our move to subscription-based pricing.

In fiscal 2019, we've been focused on targeting areas of cost savings such as reducing headcount by approximately 7% since the start of the year and setting the foundation for Commvault Advance.

One of the core principles of Advance is to drive distribution leverage through a focus on our alliances and partnerships.

If we are successful, this will accelerate operating margin expansion and reduce our sales and marketing expense as a percentage of revenue.

As you can see on this slide, our goal is to reduce sales and marketing expense from 53% of revenue in fiscal 2018 to 40% in fiscal '21.

Let me now shift gears to our balance sheet and cash flows.

As of September 30th, our cash and short-term investments balance was approximately $484 million.

During the quarter, we repatriated $67 million of international cash back to the U.S. and reduced the amount of cash held in foreign locations from $197 million as of June 30th to $130 million as of September 30th.

Our remaining international cash balance is spread across over 35 countries.

While our goal is to continue to return as much cash as possible back to the U.S. we may not be able to do so in an economically efficient manner or may be limited by foreign laws and regulations.

However we do believe that steps we're taking will result in the vast majority of future net cash flow to be concentrated in the U.S.

Free cash flow which we define as cash flow from operations less capital expenditures was approximately $17.3 million, which was up 2x over the prior-year period.

As of September 30, 2018, our deferred revenue balance was approximately $316 million, which was an increase of 7% over the prior-year period.

Nearly all of our deferred revenue is services revenue that has been invoiced to customers.

Lastly, let me update you on our share repurchases.

During fiscal 2019, which includes transactions through yesterday, we've repurchased approximately $47 million or approximately 707,000 shares of our common stock at an average cost of $66.33 per share.

As disclosed in our earnings release issued earlier this morning, our Board of Directors has recently increased the total amount available for share repurchases to $200 million and extended the program for another year through March 2020.

That concludes my prepared remarks, and I will now turn the call back over to Bob.

Bob?

Thank you, Brian.

I would like to spend a few minutes talking about Commvault GO and the new products we announced during the show.

We hosted our annual Commvault GO user conference earlier this month in Nashville.

Registration exceeded last year's total with approximately 2,200 customers, prospects and partners in attendance.

We announced a number of new products and services including an exciting new way for customers to interface with our software called Commvault Command Center, new backup and recovery as a service offerings, and further expanded our portfolio of appliance offerings.

We raised the industry benchmark for software interaction and data management with the announcement of the Commvault Command Center, which provides customers with a single console for managing Commvault's complete portfolio of products across an entire enterprise's on-premise, cloud and endpoint infrastructures.

The Command Center is enhanced with the power of artificial intelligence and machine learning to provide easier to understand dynamic dashboard views of our customer's environments, much more comprehensive real-time reporting and unique learning capabilities including the ability to take corrective actions.

Role-based security enables IT admin and end users to have their own easily customizable dashboards.

The Command Center can be deployed on-premise or in the cloud and is available now.

We announced a new backup and recovery as a service offering, to deliver Commvault's powerful simplicity for customers wishing to consume backup and recovery needs as a service.

We also announced 2 other backup services for virtual machines on AWS and Azure, and a backup service for native cloud applications such as Microsoft Office 365 and Salesforce.

These solutions will be available within cloud marketplaces for ease of acquisition and deployment.

Customers can purchase the services as a pay-as-you-go license or as a fixed-term subscription.

We also expanded the company's family of appliances with the addition of 2 new appliances, the new appliances expand our offerings into a family of small, medium and large appliances that enable our customers to cost effectively scale from 10 terabytes to more than a petabyte or 10s of petabytes.

The new larger appliance is targeted at managed service providers and large enterprises featuring scale-out technology with our Commvault HyperScale software.

The small offering takes the full power of Commvault complete backup recovery into an appliance offering perfect for remote office and branch offices.

All of our appliances can be used to seamlessly back up data on-premise or move it directly to the cloud.

Commvault uses cloud resources natively, which has cost, performance advantages versus competitive offerings which require the customer to install an instance of their appliance in the cloud.

During the show Alan and I also delivered a keynote presentation that outlined new and exciting products and fresh ideas that meet today's unique data management challenges and opportunities with 3 main messages.

One, Commvault complete backup and recovery continues to set the new industry benchmark for what it means to be complete and backup and recovery solutions.

Advances in machine learning and AI will create a self-driving like experience that redefines how customers engage with their software.

This is made possible through the capabilities of the new Commvault Command Center.

Secondly, the simple smart cloud highlighting Commvault's ability to deliver a promise of the cloud faster, through automated and orchestrated resource management and control.

We're now helping customers deliver on a multicloud environment as a true extension of a modern on-premise data center.

And lastly, we continue to improve customers' knowledge of their data with a holistic enterprise-wide view and we are delivering applications that allow them to act upon that knowledge.

This comes to life through Commvault Activate.

Innovation remains the hallmark behind Commvault's product vision and leadership.

Commvault is applying leading edge AI and machine learning to deliver outcomes that customers value most.

Commvault challenges the industry to expect more as we deliver truly complete backup and recovery.

Before we wrap up, let me briefly update you on the search process for a new CEO.

As stated previously the CEO search committee of our board remain -- retained a leading search firm in Maine and has been identifying and actively interviewing candidates.

The search process is well underway and the search committee is making good progress.

In closing, under Commvault Advance we made significant progress in the quarter, establishing a stronger foundation to better enable us to achieve more improved and predictable financial performance both in the short- and long-term.

While we are not satisfied with our Q2 revenue performance, we are seeing strong early momentum from our Commvault Advance initiatives and are excited about our accelerating subscription revenue.

We have made comprehensive operational changes over the last several months and these changes are now behind us.

We're now focused on ongoing forward execution.

The actions we took to align our cost structure at the beginning of the year were evidenced in the 61% year-over-year EBIT improvement.

Now that the foundation of Commvault Advance is in place we believe we will see increased momentum as our channel strategy, go-to-market initiatives, and alliance partnerships start to show positive traction.

As I mentioned earlier we're entering the second half of the year with a much stronger funnel.

We will be focusing our efforts on executing the key elements of Commvault Advance, where we already have a solid -- where we already have solid proof points of success.

Our objective is to make sure we achieve our near-term financial objectives, while solidifying our Commvault Advance foundation for FY '20.

Our immediate focus is to achieve our Q3 revenue and earnings forecast.

Now let me turn the call back to Mike.

Mike?

Operator, can we please open the line for questions.

(Operator Instructions) Our first question comes from the line of Joel Fishbein of BTIG.

I have 1 for Bob and 1 for Brian, I'll start with Brian.

Hey Brian, thanks for the detail on the move to the subscription model.

What I'm just trying to understand is with a lot of these companies, you start this -- you see deferred revenue grow right as you sign these deals particularly larger ones.

And I'm just trying to understand why we're not seeing an uptick in deferred revenue with some of these subscription deals.

And then I'll wait to ask Bob the next question.

So as I described on the call we're a bit unique when it comes to the application of ASC 606.

When we sell our subscription software and license arrangements, we actually recognize that revenue upfront in the period of sale on the software portion.

The only thing that goes into deferred revenue potentially would be the maintenance that's attached to that just like a normal arrangement under a perpetual model.

It's the same type of a carveout for maintenance and support that gets deferred over the contractual term.

So you don't see it show up in deferred, it actually shows up in in-period revenue that's been recognized.

That's why we're going to try to point to other metrics such as ACV and repeatable revenue and try to give you a good visibility into the traction that we're making on more repeatable revenue models.

Would you have a -- like a backlog number then like in terms of total contract backlog or is that not a metric that might be meaningful?

That's really what -- it's almost really if you look at the ACV as a proxy for what the backlog would be essentially.

And then Bob just for you, what gives you confidence that you can grow 9% next year, obviously you are making a lot of changes right now.

And I'm just -- what's giving you the confidence?

Is it something that you're seeing out there specifically that you can point to.

Yes, Joel.

Clearly we're seeing a substantial and I mean substantial uptick in funnel flow in the enterprises.

This started to change, we saw it in the spring.

And it really accelerated through the summer in spite of our disruption and it continued as we entered Q3 in very large deals into the funnel.

And those deals were tied to a trend in the industry for large enterprises to consolidate all their data management functions to deal with cost, cyber, compliance and the cloud.

And I believe our data management platform and the market is recognizing this.

It is in a class by itself in terms of delivering those capabilities.

So that significant increase in large deal inflow also gives us optimism for this current quarter, and it's continued.

And secondly, as I discussed in the -- in my remarks, we now have a much stronger distribution position.

And although that's going to take a little time to impact our earnings, we're starting to see that as well.

So fortunately, we got a massive significant upturn in our core -- I call it core enterprise business.

And also that is also being driven by a much stronger partner and alliance relationships in the enterprise.

And from the mid-market standpoint, we are seeing good traction with our appliances in Commvault Complete and new pricing.

So the whole foundation of Commvault Complete was not try to make band-aid changes here.

That's why it goes back a couple years to make fundamental changes in our products pricing, routes to market, alignment with those routes to market and a much more efficient cost structure.

So internally there's a lot of optimism underneath and I really think we've done this the right way although it had some attended risks as we made these massive changes last quarter.

Our next question comes from the line of Aaron Rakers of Wells Fargo.

I want to go back to that, that last question and just understand the variables at play to underpin what looks to be a 17% plus sequential increase in your implied software license revenue this quarter.

I think with that in mind it would be helpful to understand exactly what degree of funnel pipeline growth that you've been seeing and what assumptions are you making in terms of converting those funnel opportunities into recognized revenue?

I'm just trying to understand the basis for that increase conservatism wise or what you see to drive that level of sequential growth?

So the funnel growth, Aaron is, is material and significant.

I mean it's, we're talking about a very major increase in the growth of funnel particularly in large enterprises and particularly in the Americas.

And the assumptions we're making on funnel flows are what I call reasonable and, Brian can answer that question.

So we're not putting big close rates on these areas of the funnel.

And the other thing that goes along with this is our -- we've had predictive models here on our -- that are quite sophisticated and they've been quite accurate.

And our predictive analytics also look really good relative to the guidance we just provided.

Yes.

I think just to follow on with Bob's point, I mean, we are using fairly typical and average close rates and applying that to the current quarter funnel.

Again we see a healthy uptick in our enterprise deal funnel heading into this quarter, which we are pleased with.

Although I did say that could be lumpy at times.

We're still -- we're pleased with that number and available funnel.

I think, Aaron, you saw a lot of it and this kind of validates what you saw at GO, since you were there, and what you heard on the floor.

And just a quick follow-up.

I'm just curious.

I think last quarter, Bob, in response to a question you said that basically 98%, I think was the number, that the total sales force realignment efforts have been completed.

As we look at the leverage that you're presenting to us going forward, I'm curious of what else is there in terms of sales realignment or for that matter, sales headcount reduction efforts that should be anticipated in front of us if there are any?

I would say it's -- the bulk of this is behind us, but as we go forward and bring new leadership in, which we're -- which we've done, I think over time we will continue to refine that model.

So I think there are additional benefits to be gained on efficiency, but those are incremental relative to what we just went through.

Our next question comes from the line of Jason Ader of William Blair.

Bob, thank you for the CEO search update.

I guess my question on that is, it's 5 months into when you announced it and we haven't seen any announcements yet.

So I guess why is it taking so long?

Is there anything you can give us some more color on that?

I'll just make the comment that the search committee is making very good progress on the CEO search.

And then over the last few years we've seen a series of restructuring and pricing and packaging changes.

I know that you guys are optimistic on the things that you're implementing right now, but why should investors believe that this time is going to be different?

Well, the only validation of that is for us to hit the numbers.

That's the only real validation.

All I can say is the funnel growth and the types of deals we're seeing now are in a different category than we've seen in our history.

So a lot of the deals -- there is a lot of deals that are in the multiples of millions of dollars.

And it's both in, mainly in the Americas and EMEA, but I mean multiple millions this now -- these are, call it, $3 million, $4 million, $5 million, $6 million kind of deals and they are accelerating.

So we've got that, that's real.

And these deals are well scrubbed and are moving through the funnel well.

And in addition we've never had the strength of our product line for the mid-market with our appliances and complete and really getting our prices in line.

And now we're -- we've beefed that up with a lot more resources and focus.

So I think fundamentally we didn't try to do a quick fix here.

We try to really understand the market dynamics and address it.

In addition, and let me be clear about this, if you look at our platform for the cloud, I mean a real cloud platform to manage data and migrate it to the cloud and manage it in, as a scale-out platform and with Linux functionality I don't think there's a stronger platform in the industry than what we have here at Commvault.

And we've been able to take the next step and enhancing that platform for, let's call it, multiple exabyte scale, which will -- we anticipate will be in the market sometime early next fiscal year, it's not that far away.

So I think technically we're in a really good position.

I think we're seeing the real traction from the consolidation taking place in the enterprise on across the board for data management functions.

I think cyber is a big driver of that and we've had a really good success in taking major customers and enabling them to recover from major cyberattacks.

We had Maersk present at our GO conference, as a good example of that.

Clearly things like GDPR compliance are playing a role of that.

And the cloud is becoming increasingly important.

And I don't think there is any platform on the planet that allows customers to natively use the cloud and all its aspects like we have.

So in spite of the changes and things we've made I think the company is fundamentally, in an extremely strong strategic position to accelerate growth.

And we have established a much more efficient cost structure to drive the bottom line.

Our next question comes from the line of Andrew Nowinski of Piper Jaffray.

So looking at Slide 21, your assumptions for repeatable revenue growth suggest growth of just 17% in fiscal '19.

I think that decelerates down to about 16% by fiscal '21, despite the mix continuing to increase.

Is that factoring in price declines or why should we expect repeatable growth to basically top out at the fiscal '19 level if we're just at the start of the transition?

And we haven't seen an impact from renewals yet?

Well again, we're trying to be a little bit conservative with our guidance out there, Andy so I think that we'll see an acceleration.

By FY '21 will be the first meaningful year where we see renewals start to happen.

But we want to be reasonable with our expectations until we actually see that happen.

And then in Europe if I look there the software revenue actually did decline about 17% this quarter despite the GDPR tailwinds.

So can you just give us an update on what's going on in Europe and other competitors such as Veeam perhaps putting any pressure on your ability to grow revenue in Europe there?

No.

I mean the EMEA team has consistently either met their number or beat it.

And last quarter we basically took the field out for about 6 weeks as we're going through this whole transition.

So in some sense the quarter really didn't start till the 1st of August.

So as far as we know because their expectations for Q3 are for us very, very significant quarter-on-quarter growth.

So I think what we stated is accurate that there you can't draw any long-term conclusion from what happened last quarter.

We really believe that majority of that was disruption.

Our next question comes from the line of John DiFucci of Jefferies.

I have a question for Brian and maybe a follow up for Bob.

So Brian thanks again for all that information on the transition to subscription model, it's all really helpful.

But when we look at that the utility revenue, I think that's one piece that's going to cause some questions.

So I just want to make sure we understand that.

Can you tell us about what the size or the percentage of that revenue is like on an annual basis?

And if you can, what the annual retention of that utility revenue is, even if it's on a customer basis that way there, we can sort of ascertain how repeatable that is?

So the utility portion of the subscription revenue, repeatable revenue is actually, it's relatively small in the grand scheme of the total.

I would say that our retention rate is extremely high on that.

This is often a pay as you go model based on usage.

It's a quite sticky revenue stream that repeats cyclically every quarter.

And what we are trying to do with the ACV metric is trying to annualize that as well, because it is on a run rate that is somewhat predictable for us.

And it's not the majority of the revenue, it's not even close to that.

We didn't say what the number is, but it is the small portion of that total.

Okay.

Well that's it, that's a start.

So thanks, it's small but it does have a pretty high retention rate.

So that is good to hear.

It does.

And Bob, listen so I -- just to go on some of the questioning here.

Commvaults always had strong vision and products sometimes getting to market has been a challenge.

Getting the products to market.

But both -- in both of those points, it's always been strong vision and compelling in product.

But go-to-market execution seems to have been spotty over history, and you said this -- in this quarter the disruption was greater than you expected.

And so we've heard like in the field of -- like higher than normal voluntary sales personnel attrition.

And it -- so that seems like the disruption is going to be, it's going to persist here.

And I guess how do you recover from that?

I know you are trying to shift more to partners, but that also increases some risk too, any kind of shift does, right.

So I guess to some of those questions around like how do you feel confident about 9% growth next year?

I mean, is it the fact that you just don't need sales as much as you did before with the shift to more -- to more of a product a partner-driven go-to-market strategy, because it -- because even in that case, I don't know, it just still seems pretty important here?

Now let's be clear.

Sales is still really critical.

And the surprise, if you want to call it a surprise is, we've always been strong in the enterprise and it drove a lot of our growth in our early years.

And enterprise for a couple of years shifted to buying point products.

The next shiny box or whatever, and that began shifting probably about 6 months ago or maybe a little longer, so a consolidated holistic play in the enterprise, and that's really accelerated.

And it's -- those -- that hold a series of variables I just went through on consolidation, costs, cyber, compliance.

And I'll just mention outline here that and we've automated so much of the processes within data management now.

So we have taken a lead in automation both on-premise and the cloud.

So you've got this massive shift in the enterprise that is more holistic enterprise-wide solutions, that requires a really strong enterprise sales force.

And I mentioned earlier, when we started Advance but we wanted more leverage with distribution partners in the enterprise, and we've -- now we've got the combination of the two.

And then the mid-market even though we shifted more resources to partners, that's a process, that is not going to happen in a day.

It's happening as we speak we are seeing it but that engine will gain momentum quarter-on-quarter.

So the answer is sales for our business is still extremely important.

And yes I mean there's no doubt when you make major changes like this, and these were fundamental.

And we didn't try to band-aid it and we did it quickly.

You're going to see some disruption because it's not only structure that we change, it's comp and a lot of other things on pricing.

So I believe that the plusses well outweigh the risk and the bottom.

But I don't want to minimize that we won't see some attrition.

Disruption as we manage our way through that, but I think it will be manageable because we've got so many strengths now for our salespeople to work -- hit their quotas and make a lot of money.

So it sounds like sales or voluntary sales attrition from what we're hearing in the field is -- it sounds like it's accurate but there's so many things going on here that you think you'd be able to offset that?

Yes.

And -- well some of that goes on when you make major change.

Our next question comes from the line of Alex Kurtz of KeyBanc Capital Markets.

Are you taking any specific actions with your top reps to incentivize them specifically to stay on for the next couple of quarters as you go through this transition.

Is there any specific actions you're taking?

I know there is a lot of organizational changes here.

I was wondering if there was a program around the sales force around retention?

The answer is just in general, we are taking specific action in specific cases, and trying to make it easier for our sales teams to earn their quarters.

But there is not a general corporate-wide action, there are specific actions in the field.

And Bob just competitively in the U.S., especially I know there's been a lot of discussion last couple of earnings calls around a couple of emerging platforms that are competing in the channel, just any kind of update on what you are seeing quarter-to-date, year-to-date any changes, sequentially?

Well in the enterprise we're seeing a significant resurgence against all the competitors legacy and the new competitors in the mid-market, and certain -- I call lower-scale deployments in enterprise.

We clearly see the new converge guys in the market, and they have a lot of momentum.

But now you've got a combo with a full product line and much stronger distribution.

To deal with that I can say when we get into head to head competition now, when we are there, we have a really high win rate because it's just the breadth and depth of what we are doing in terms of -- and having products that are not only competitive with what they have but way beyond them in capability.

Now particularly in our ability to move data into the cloud, to manage it in the cloud and manage it back for data protection that all the automated and orchestration capability we have for depth tests and DRS are in a class by itself now.

So I think we're now in a really solid position technically.

And I think we've done a lot to fundamentally change our -- and strengthen our go-to-market.

So I think internally we feel really good about all this although it was painful in the near term.

And Brian just last question from me.

I think historically you've called out the subscription headwind and put the dollars I think you've kind of projected what the delta would have been.

Sorry if I missed it at this earnings call but have you called that out yet?

No, we didn't put a number on that.

I'd say it was fairly consistent with what we did in prior quarters.

It's probably in that $3 million to $4 million range the headwind.

Our next question comes from the line of Eric Martinuzzi of Lake Street.

Yes.

My question has to do with a couple of your key channel partners.

Just wondering sometimes I grow numb to the HP, the annual HP announcement or the annual NetApp announcement, obviously given the shift to channel dependency here and away from the direct side.

But what have we done differently this year versus past year?

I feel like you've always had products that play well with them, but what are the one or two significant changes with those 2 key partners?

I'll take HP and I'll let Al take the NetApp.

The difference is that we have -- what I call fully integrated online place with HP.

So when they go to market they go to market with a solution that includes Commvault as part of the solution.

And that's brand new -- that agreement was a completely new agreement that was executed this summer.

And basically went into market over the last couple of months.

We have significant deals in the funnel with them that are real -- that will -- most likely close this quarter.

In addition to that for example, HP had 30 people at our partner conference this year and their head of storage was working with us and outlined globally all their major accounts are with Commvault so there's really good -- on the ground integration with HP.

So they put their resources.

We have the aligned plays.

We've got pricing.

So we've got a -- I would say extremely good alignment with them and they're putting a lot of resources behind our partnerships.

So I'm really confident about kind of where we are with them and we're also seeing it in our funnel growth.

So it's radically different from anything we've had in the past with HP and its brand new and I will let Al take NetApp.

I think NetApp is similar to what Bob just said on HP, lots of programs, lots of campaigns, lots of sales initiatives.

But I think overall, one that Bob didn't talk about it's applicable across all of our major -- particularly storage or infrastructure partners, is our ability to deal with software-defined secondary storage.

Notably it came out with our HyperScale both appliance and reference architecture programs.

And I think Eric and you would know this, we are seeing a major battleground developing for secondary storage.

It's all predicted that there's going to be a huge amount of movement in this direction.

We also think in the current market that there's lot of vulnerability from older technologies, expensive technologies and again the modern scale out -- HyperScale environment is extremely compelling.

So we see a number of -- again what I call historic storage suppliers wanting to participate in this kind of trend.

And Al just made a really good point and HyperScale in HP's case they drive that on their Apollo -- with their Apollo servers.

So it's not just our appliances its -- on their own server infrastructure for secondary storage.

And concurrent with that there is no doubt that our platform and its ability to have seamlessly manage data on-premise and in the cloud across an enterprise is a major strategic advantage versus anybody out there.

Okay, because that's -- they don't lack for people looking -- your competitors also have programs with them so I am glad to hear there's higher level of executive commitment for you guys.

Higher level of integration...

And to be clear in HPE's case and they do have a competitor -- in the enterprise they are focused with Commvault and the enterprise, the HP play is mainly at the large enterprise -- global large enterprise play.

Thank you.

And I'm showing no further questions at this time.

Ladies and gentlemen thank you for participating in today's conference.

This concludes today's program.

You may all disconnect.

Everyone have a great day.