ServiceNow Inc (NOW) 2018 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to ServiceNow first quarter earnings conference call.

(Operator Instructions) As a reminder, today's conference is being recorded.

I'd now like to introduce your host for today's conference, Mr. Michael Scarpelli, Chief Financial Officer.

Sir, please go ahead.

Good afternoon, and thank you for joining us.

On the call with me today is John Donahoe, our President and Chief Executive Officer.

During today's call, we will review our first quarter financial results, and we'll discuss our financial guidance for Q2 and full year 2018.

We'd like to point out that the company reports non-GAAP results in addition to and not as a substitute for or superior to financial measures calculated in accordance with GAAP.

All financial figures we will discuss today are non-GAAP except for revenues and revenue growth.

To see the reconciliation between these non-GAAP and GAAP results, please refer to our press release filed earlier today and for prior quarters' previously filed press releases, all of which are posted at investors.servicenow.com.

We may make forward-looking statements on this conference call, such as those using the words may, will, expects, believes or similar phrases to convey that information is not historical fact.

These statements are subject to risks, uncertainties and assumptions.

Please refer to the press release and risk factors and documents filed with the Securities and Exchange Commission, including our most recent annual report on Form 10-K for information on risks and uncertainties that may cause actual results to differ materially from those set forth in such forward-looking statements.

I would now like to turn the call over to John.

Thanks, Mike.

Good afternoon, everyone, and thank you for joining us on today's call.

The year's off to a great start, continuing the strong momentum from our record-breaking finish to 2017.

Our teams keep executing with strong focus and commitment to customer success.

We closed 21 deals in the first quarter with ACV greater than $1 million.

The 536 customers now doing more than $1 million in business with us represent year-over-year growth of 43%, and we saw a strong expansion with existing customers.

Our opportunity to be a strategic technology partner, enabling digital transformation and driving great employee and customer experiences continues to grow.

Our performance was strong worldwide with particular strength in EMEA.

Nearly half of our top 20 new deals came from outside North America in the quarter, and our renewal rate remained consistently strong at above 98%.

Increasingly, our pipeline of new customer deals is diversifying, coming from large public and private companies as well as government agencies.

We see significant growth and opportunities worldwide.

For example, one of our largest deals in Q1 was with a $20 billion private company that has over 50,000 employees.

And we landed 2 deals, one at $1.8 million and one at $2.2 million in Q1 with U.S. federal agencies.

Our consistent performance underscores our strong product portfolio.

We're focused on making work, work better for people.

We believe that technology should enable people by creating simpler, faster, easier ways to get work done.

That, in turn, creates great experiences for employees and customers and drives better business outcomes.

Driving digital transformation and delivering a great employee and customer experience continues to be at the forefront of practically every customer conversation that I have worldwide, and ServiceNow has become a core strategic partner for CIOs and other C-suite executives on their transformation journey.

We are uniquely positioned to be the connective tissue that streamlines and simplifies workflows across the enterprise, eliminating silos and creating more seamless interactions.

Simply put, we make work, work better.

For example, one of our large HR service delivery deals in Q1 was with a Global 100 company with 145,000 employees.

This is a great example of how companies are looking to partner with us to transform their end-to-end employee experience across their entire enterprise.

Customer success is an important priority for us, and we're making great progress.

As I've shared before, we have aligned all of our customer success teams, including customer success management, professional services, training and certification and our partner ecosystem team into one group under the leadership of our Chief Revenue Officer, Dave Schneider.

This integration will ensure that we optimize value for our customers.

We're driving customer success to be a natural extension of our sales motion, and our focus is to continue to land new customers and expand existing customer relationships in a healthy and sustainable manner.

Delivering world-class product experiences is also a priority for us, and we continue to invest in this area.

For example, I'm pleased to share today our acquisition of Seattle-based VendorHawk, a leader in SaaS subscription management.

This acquisition further strengthens our software asset management offering, giving customers a comprehensive view of all of their software assets on our single platform.

That's critical to managing digital transformation.

The all-cash transaction is expected to close this month.

Before I close, I want to take a moment to acknowledge Frank Slootman's tremendous contributions to ServiceNow.

As you know, Frank has decided to step down from our board and his role as chairman.

I am personally deeply grateful for Frank's partnership and support during my first year at ServiceNow, and I know that everyone here will always appreciate his great leadership.

As much as Frank will be missed, I'm also thrilled to announce that our Founder, Fred Luddy, will become our next board chair.

Fred has also been a tremendous partner since I joined ServiceNow, and I look forward to working with him in this role.

Finally, I'm delighted to announce a new board member, Dennis Woodside, Chief Operating Officer at Dropbox.

Dennis' experience in scaling global technology companies and his focus on creating great customer and consumer experiences will be incredibly valuable for us in the months and years ahead.

In closing, I'm very pleased with the strong start to 2018 and the progress we're making against our strategic priorities.

We're focused on our purpose to make the world of work, work better for people.

That was Fred's founding vision and it's our future aspiration.

I'm also excited about sharing more of our journey at our upcoming Knowledge18 event in Las Vegas, the week of May 7. We expect over 18,000 registered attendees, our biggest Knowledge yet.

I hope to see all of you there.

And with that, I'll turn the call back over to Mike.

Thanks, John.

In Q1, we delivered another quarter of outstanding performance, including strong top line growth combined with margin expansion.

After ending 2017 with our strongest quarter ever, it was very important that we started 2018 off on the right foot, and I'm pleased we exceeded our internal expectations.

Let's dive into the highlights from the quarter.

Subscription revenues for the first quarter were $543 million, representing year-over-year growth of 40% and adjusted growth of 34%; and subscription billings were $638 million, representing year-over-year growth of 33% and adjusted growth of 28%.

The subscription billings strength was driven by strong net new ACV performance, favorable foreign exchange gain fluctuations and a handful of unexpected multiyear billings.

Sometimes, customers do ask them to bill them for the entire contract upfront to utilize excess cash balances.

While we will likely see more of this going forward, we don't expect it to be meaningful in future quarters.

We saw strength across all of our products in the quarter with 16 of our top 20 deals including 3 or more products.

In the quarter, we booked 3 new Customer Service Management deals with more than $1 million of net new ACV and a record 6 new deals with more than $1 million of net new ACV with our HR Service Delivery product.

Strong performance from our emerging products legitimizes the market opportunity in front of us and supports our need to further invest in these areas.

Our continued strength in IT, coupled with the success of our emerging products, are yielding more strategic relationships with our customer base.

Of the 21 net new deals with more than $1 million in ACV that John mentioned, 20 were upsells.

Additionally, 52 customers now pay us more than $5 million per year, which is an increase of 108% year-over-year.

Moving on to profitability.

Our Q1 operating margin was 18%, the strength of which was driven by our revenue performance, foreign exchange fluctuations and timing of expenses.

Our free cash flow margin was 38% and benefit from a seasonally high amount of collections from our strong Q4 bookings.

This quarter also represented the first time we were GAAP EPS profitable driven by the adoption of 2 new accounting standards.

The first now requires us to record the change in unrealized gains or losses from equity investments during the period on the income statement instead of the balance sheet.

The second is related to the indirect tax effect related to the adoption of 606.

The total impact of both accounting changes was $41.5 million, and we don't expect to be GAAP EPS profitable in Q2 as these aren't recurring gains.

Now let's turn to guidance for the second quarter and full year 2018.

For Q2, we expect subscription revenues between $568 million and $573 million, representing 41% to 42% year-over-year growth and 36% to 37% adjusted growth.

We expect subscription billings between $608 million and $612 million, representing 34% to 35% year-over-year growth and 28% to 29% adjusted growth.

And lastly, for Q2 we expect a 16% operating margin, which is impacted by expenses related to our annual users conference, Knowledge18, and 188 million diluted weighted average shares outstanding.

Coming off our strong Q1, we are raising our full year 2018 subscription revenue guidance to between $2.4 billion and $2.415 billion, representing 38% to 39% year-over-year growth and 34% to 35% adjusted growth.

We are also raising our full year 2018 subscription billings guidance to between $2.83 billion and $2.845 billion, representing 33% to 34% year-over-year growth and 30% adjusted growth.

While we are increasing our top line guidance, we are also increasing our investments and maintaining full year 2018 margin guidance as follows: subscription gross margin of 85%; operating margin of 20%, which includes record hiring in Q1; and free cash flow margin of 27%, which includes the opening of a new pair of data centers in Germany later this year.

For the year, we expect diluted weighted average shares outstanding of 187 million.

Before closing, please note, our Financial Analyst Day will be held on Monday, May 7, in Las Vegas at 1:00 p.m.

local time.

We will also hold a webcast to the event accessible on our IR website.

We plan on updating our financial model beyond 2018 at such time.

With that, operator, you can now open up the line for questions.

(Operator Instructions) Our first question comes from the line of Alex Zukin of Piper Jaffray.

Maybe the first question just around the incremental focus on customer success, for John.

Can you point to kind of what impact it's having on the upsell motion or the retention dynamics or the customer upgrade cycles?

And maybe, Mike, if you can comment what impact, if any, that's having on kind of the way you think about leverage in the model, how big of an initiative multiyear is this program.

Yes, sure, Alex.

So I'd say we're still relatively early in this customer success journey.

So the areas we first started on is just capturing best practices.

This is one of the most requested perspectives from both new and existing customers, which goes something like this.

You guys now are a 4,000 or 5,000 and growing customers, Tell us best practice about how we implement the ServiceNow platform.

And so you'll see at Knowledge, we're rolling out our entire customer success center, which is just -- has more best practices that both prospective, new and existing customers can use.

And I think one of the ways we're seeing that is in some of the newer customers, as they implement, they're implementing in a more out-of-the-box way focused on getting the CMDB robust and correct upfront, which makes expansion to existing products down the road a lot easier.

Another area we're focusing on early on is taking some of our customers that run older versions or older instances and working with them, in many cases, our PS organization and the third-party ecosystem, to help them get on a more contemporary version of ServiceNow with less customization and more out-of-the-box functionality.

So I think just the dialogue itself is fulfilling part of what customers are looking for, is they think of us increasingly as a technology partner, which is how do they get best value from our platform and where can they use our platform to drive even greater value going forward.

So I think that's partly reflective in the expansion we're seeing, but I think the opportunity is even greater to have that kind of positive impact.

On the financial side, Alex, as we had said going into 2018, it was one of our key investment initiatives, customer success.

We had planned on $25 million in incremental spending and customer success, and that's all factored into the operating margin guidance for 2018.

And based upon the results of that, that we see in 2018, we'll make a decision going beyond '18 as to what we're going to invest in that organization.

Our next question come from the line of Keith Weiss with Morgan Stanley.

A question on new customer adds.

New G2K customers, you added 12 in the quarter.

That's basically the lowest number I had in my model since 2012.

I was wondering if there's any kind of extenuating circumstances that made it a lower new customer quarter add in terms of maybe there's sales changes or stuff that we should be aware of, number one.

Number two, are you guys still comfortable with sort of the pace of new G2K customers that we've seen in historical periods continuing into FY '18?

Are we going to bounce back from these levels?

Sure.

So it's really just timing.

As you saw, we've been exceeding our G2K adds for quite a few years now, and that was purely timing.

The latter half of the year looks very good.

But I can't stress enough, and as John was mentioning, G2K was really just a proxy that we gave everyone back in 2015 for how we get to the $4 billion, and we've kind of showed that G2K continues to be north of 50% of our business.

But large private companies and public sector are becoming more and more important to us.

They're now roughly 38% of our customers paying us more than $1 million per year, and that we see that as a number that will continue to grow.

So I think you'll see us kind of moving away from G2K after 2018 because that was really just to prove to people how we can get to that $4 billion, which we feel very comfortable with.

Our next question comes from the line of Kirk Materne with Evercore ISI.

John, I was wondering if you could just talk about how some of your discussions with customers are changing just in terms of now being viewed as an enterprise platform.

Are you speaking to more people in the C-suite?

And when you're able to have those discussions that go beyond just the IT department, what kind of impact can that have on the scope and size of those type of deals?

Yes, Kirk, it's -- I spent a lot of time in Q1, as with last year, out with customers.

And I must say, there is remarkable consistency in what I'm seeing and hearing.

The first thing I'd note is I don't think I've visited -- I probably had 600, 700 customer meetings.

I don't think I've had one yet where the company is not doing a digital transformation of some form or the other.

And as part of that, there's no doubt that the role of IT is shifting and expanding.

I've said this before, it reminds me of the role of finance over the last 20 years ago.

20 years ago, the CFO was sort of a green eyeshade person.

Finance was kind of an internal function that didn't have maybe all the respect in the world that kind of kept track of costs.

And over the last 20 years, finance and the CFO are increasingly playing a cross-organization role focused on business value, not just costs, and are far more strategic.

And the more I engage with CIOs and see these digital transformations where CEOs need their most technically literate leader to help lead the digital transformation, I think the CIO and IT are right on the cusp of being the same place as the CFO and finance were 20 years ago where they're being asked to drive cross-functional change.

And as part of that, the CIO has to partner with the other C-suite executives.

So if you're going to drive end-to-end employee experience, that's not just an HR issue, any more than it's just an IT issue, any more than it's just a legal or facilities issue.

Employees just want a great experience, and they want all the functions inside the company to work effectively together.

So I'm seeing more and more examples of CIOs partnering effectively with CHROs, with Chief Marketing Officers, with CSOs.

Obviously, some CSOs report to CIOs.

And so I think that cross functional where IT is at the table, not just for vertical functions but for cross functional or horizontal functions, is very clear.

And that has a very positive impact for us because CIOs see the power of our platform and see how it can help automate, transform not just IT processes, but processes that kind of cross other functions, whether it's customer support, whether it's HR, whether it's security.

And so I think that trend is increasing, and I think it's going to continue.

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

Looking at the guidance for the year, it looks like you raised billings by kind of the magnitude of the beat normalizing for FX and duration.

Given the momentum you had in the quarter, the number of million-dollar deals and the further penetration in G2K, why not take that up at least a little bit to reflect the momentum you have going?

We're still very early on in the year, and a lot of those deals were a function of deals we were thinking were going to happen later in the deal that happened in Q1.

That really doesn't change our billings guidance for the full year, and we'll see as we exit the second -- or exit the first half of the year what it looks like this second half and we'll look at it that time.

And I'd say our confidence in our momentum is not any different than it was.

Correct.

The momentum is fairly consistent, I would say, over the last several quarters as we see the opportunities and some of the, frankly, the underlying tailwinds I was talking about in the previous answer, just as there's increasing pull and demand for our platform and our products.

That's fair enough.

And then just maybe one follow-up on the security side.

We're seeing Splunk buying Phantom, et cetera.

Just kind of curious what you think the road map from here around cybersecurity for the platform looks like for ServiceNow.

Well, we're going to do where we're world-class at, which is workflow.

And so we're focused on the workflow around security, security operations, right, which is there's an explosion of inbound signals, inbound context, inbound incidents and CSOs are struggling with how to vet all that inbound data and identify which ones are most important and need human attention, which ones can be dealt with in an automated function or an automated way.

And that's exactly what our workflow engine does.

And so we'll continue to make sure that we are best-in-class at the portion of security we do, and we're going to continue to be Switzerland in the sense that our advantage is we partner with many endpoint detection vendors.

And so we'll never be in the business of actually identifying the threats or vulnerabilities.

That's for others to do.

But the workflow around it to help remediate those threats, we believe we're best-in-class and we'll continue to be best-in-class.

And I think CSOs can increasingly count on us to connect in and integrate with multiple endpoint solutions that they're using.

Our next question comes from the line of Adam Holt with MoffettNathanson.

My first question is around upsell and product detach.

You had a really nice quarter-on-quarter increase in upsell.

You're obviously doing well in diversity of product areas.

Do you have any way of measuring your penetration for your larger customers or what the white space opportunity is now that you're in so many different markets at your installed base?

It's a great question, Adam, and it's one we talk about internally in the following sense.

The aspiration we have is to be, as I've said repeatedly, a trusted strategic technology partner to companies.

And every company has a few top of the house trusted strategic partners.

And my customer interactions indicate that increasingly, CIOs are looking to us to be one of those strategic platforms that's a trusted technology partner.

That's kind of step 1. Our land motions often with ITSM, and it's great to get a robust ITSM implementation with a strong CMDB.

And then it's a matter of just expanding out to the other use cases, and that path of expansion differs by customer.

In some customers, it starts with ITSM and includes ITOM early on.

In others, employee experience is narrowed.

It's getting a lot of focus and attention.

And so what we're very focused on, if there's been an evolution over the last year, is what's the quality of our customer relationships from both qualitative and quantitative standpoint?

Are we delivering good value for them?

Do we have access to the right decision-makers?

Are they aware of what our products and platform can do?

Do we have a shared perspective on the value creation that's occurring with it?

And then second, how do we, in a healthy and sustainable way, expand those customer relationships?

In terms of the upside, what's interesting is an awful lot of our growth comes from situations where they're using software that software has not been used before, right?

So it's often an unstructured workflow we're replacing.

So in HR, it's onboarding is an unstructured workflow.

Software is not being used today.

In most cases, HR case management, software is not being used today.

The security use case I talked about in my previous answer, software is not being used today.

And so in many ways, as we look at what's the full potential of our platform inside of a company or an organization or more beyond, we think it's an enormous opportunity because there is a huge opportunity to automate unstructured workflows and have software drive better experiences and greater productivity.

So it's less about -- or we're less focused on measuring up pure TAM or pure maximum potential of each customer because we think that's huge.

We're more focused on are we building quality implementations, quality relationships which leads to a healthy and natural and, I believe, very sustainable expansion.

That's super helpful.

If I could just get a quick clarification from Mike.

On the quarter-on-quarter margin guidance for Q2, it's obviously down quarter-on-quarter.

You've mentioned the user conference.

Is that the entire reason that margins are down quarter-on-quarter?

Or is there any impact from VendorHawk in that number or anything else we should be thinking about?

So the users conference is one of those.

That adds roughly a net $21 million in expenses to the quarter.

The other thing is Q1, we -- even though we overachieved in bottom line, we did have a record quarter because we're investing a little heavier in the year, and the full impact of that is going to flow through.

The VendorHawk is immaterial from a P&L perspective, from an expense, for the balance of this year.

Our next question comes from the line of Jennifer Lowe with UBS.

Maybe going back a bit to just sort of the digital transformation discussions that you've been having, John.

Do you find that customers have a very firm sense of what the ROI they expect from these types of transactions is?

Or is it more sort of big picture, seems like a good idea type thing but less specific on the ROI?

And how does the perception of that ROI influence the amount that they're willing to spend with ServiceNow?

Jennifer, I think it's in transition, to be honest.

So I would say that -- and the state of play varies today.

But in general, the sort of the evolution has been, "Oh my goodness.

Software is disrupting my industry, my company.

We've got to fight back." Digital, we've got to digitally connect with our customers, be they consumer customers or business customers.

We've got to provide a better digital experience for our employees and a recognition that digital technology can help drive productivity.

And so sort of across the board, people are embracing digital transformation.

I'd say currently, maybe 1/4 of them have tied that to clear cost and productivity goals.

Most start with some customer goals and some employee goals and I think are getting to the cost and productivity goals third.

But that number is growing, and frankly, we're encouraging that to grow because I think the best transformations come when you reengineer your processes, right?

If you just take your old processes, put them on our platform, it's better than it used to be but you're only scratching the surface of the value.

It's only when you redesign or reengineer or streamline a process and then automate it that you not only get leapfrogged improvements in user experience, but you also get significant productivity savings.

And so we are very clear with our customers that what our platform does is automate workflow, which by definition drives productivity.

So you'll see in our website, we put an economic value creator where we're trying to help train and encourage CIOs to be able to have that dialogue with CFOs.

And increasingly, we're trying to ensure that we have an economic value statement with every customer because it's not only good for the customer, but we think it's good for us because we think our platform has a very strong positive return on investment.

Our next question comes from the line of Sarah Hindlian with Macquarie.

John, a question for you and one for Mike.

John, as you're going to market with customer service, HR and more services really outside of the core products, how are you seeing your sales process evolve in terms of cross-sell potential?

And I'm wondering how much capacity your sales people have for incremental solutions.

And then Mike, could you -- usually Q1, I guess, is a slow point in the year in software.

This was a good quarter, but it did seem a little bit seasonal to me.

And G2K, that's a little bit lighter than I've seen in quite a long time.

Your Q2, your guide implies reacceleration and you sound very confident about the business momentum.

So I just want to make sure I'm not missing anything here.

Is that a fair way to classify the financial momentum in period?

Yes, Sarah, what we're seeing inside of customers, the way this demand evolves is what -- the frequent -- every case is a little bit different.

But on average, people are using ServiceNow initially for an ITSM or an ITOM integration, and then the CIO's talking with the CHRO or the CSO or the Head of Customer Service and then we get an opportunity with one of them.

In some cases, those opportunities start with customer support or customer service.

I think we had several deals in the first quarter that our first sale to them was customer service.

Same thing with HR.

But usually, it's in partnership with the CIO.

Now the sales motion that you see is we have added product line specialists, which are -- we're finding to be highly effective.

And so you may have an account rep for a large global multinational combined with a solutions consultant.

But for the dialogue with the CHRO, they may bring in a product line specialist around HR Service Delivery; or for the dialogue with the head of customer support or customer service, will bring in a product line specialist with Customer Service Management.

And so having that credibility on the product and credibility with that decision maker we find to be very effective.

But we're not trying to freeze IT out, which I think is a really important point.

As IT is playing a growing cross-functional role and a more important role, a growing number of CIOs are now direct reports to CEOs and are at the C-suite table.

The best solutions come when IT partners with their functional counterparts.

And so we're trying to make sure that our coverage model covers both, and so far so good.

I think the area we probably grew our sales force the most this year is in the product line, I noticed, in the product line specialist area.

And that's where we see -- continue to see really strong demand.

The last thing I'll say is we're also, in some certain verticals, in government a little bit, in Med/SLED, we're also augmenting that with more vertically focused sales teams.

And where vertical expertise is more important than product expertise, we're trying to make sure we have that available as well.

And then, Sarah, on your question for me, yes, Q1 is typically one of the slowest quarters of the year coming off our best quarter, Q4, from a bookings perspective and net new business.

But Q1 is also the quarter where we typically do most of our hiring in Q1.

We like to get everyone in front of our sales kickoff.

It's also our quarter when we're rolling out commissions and whatnot.

So it is a tough quarter.

We did exceed our plan, very pleased with that.

And our pipeline going to Q2 is very strong, and we gave you guidance for what we see for Q2 and the balance of the year right now and we'll be -- I look forward to discussing it more at our actual results next quarter.

And Sarah, you mentioned G2K.

I'll just say this.

Our sales team doesn't incent on new G2Ks.

So Dave Schneider, Kevin Haverty, we're not -- that's not a top priority incentive for them because they want to ensure we're expanding our relationships as well as adding new ones.

And so as Mike said, quarter-to-quarter, how many G2Ks happen to land in the quarter is a little bit.

It's not a goal we manage to.

Correct.

We're managing to healthy expanding relationships.

We want to be adding a lot of new ones.

We're adding government ones.

We're adding large private companies.

Increasingly, smaller companies, we're adding more.

So it's a little bit of a lumpy figure that doesn't necessarily indicate.

Our next question comes from the line of Abhey Lamba with Mizuho Securities.

So Mike, as you move towards the Service Management around more automated workloads and some of the other areas outside of IT, can you speak to the evolution of your pricing model as you're moving some of the things towards transaction-based pricing?

What's that transaction-based pricing mix today?

And how should we expect it to trend?

So pricing is something where we're having a lot of discussions internally.

And by the way, we've been having a lot of discussions around pricing for the 7 years I've been with the company.

So this is nothing new.

Ultimately, we do believe that the pricing model has to be based on a transaction model especially when you have -- when AI and machine learning is doing more and more because theoretically, you should reduce the number of users.

I think that's still a little too early and very, very little of our business today is on a transaction level.

I think that will be very different in 3 or 4 years from now though, but we're still working on that.

One of the interesting things that make this not just a simple decision is on one hand, it's very compelling to say I want to buy by the drink, I want to buy by transactions.

But to be honest, the higher priority that we hear from customers today is predictability because they get an annual budget and they've got to live within that annual budget.

And so given the choice of a volume-based pricing mechanism that they could -- they're only paying for what's being used versus predictability, at least today, they're choosing predictability.

Now that will, we think, will evolve over time, but it does make it an interesting dilemma.

Yes.

Our next question comes from the line of Karl Keirstead with Deutsche Bank.

Question for Mike.

Mike, the guide for 30% adjusted subscription billings growth for 2018 implies at least a modest second half growth acceleration.

I'm just curious what you're seeing in the pipeline that would cause that, and as you look at the pipeline, whether you think 2018 might have a little bit more of a second half SKU on subscription billings relative to prior years.

So one of the things you need to remember is most of our billings actually comes from contracted backlog and not from net new business.

Q4 is always our biggest year.

Q4 of 2017 was such a big year, and we have the second year billings that flow through in Q4 that gives us the confidence as well as the pipeline that we see for our net new business.

But I can't stress enough, the majority of our billings is really coming from our backlog and renewals that we're doing versus net new business with customers.

Net new is still very strong, but that contracted backlog is really what's driving that and skewing it to Q4 and I think you'll continue to see that skewing in future years.

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

A question, I guess, for either of you.

On the platform business with respect to ISVs driving -- starting to drive traction there, can you update us on where that is and in what areas you see the most promising ISV efforts?

And when do you think that will become a more meaningful driver of the platform business?

Well, Walter, it was a record quarter for our ISV business.

Now I would still say it's a record quarter and I still consider it a relatively small part of our business today.

So -- but we had 56 new applications and integrations that were launched in the store in Q1.

We had a great example of where Nuvolo, who's a pure play ServiceNow ISV Enterprise Software Asset Management vendor, actually closed the largest deal in our program's history with a $1.8 million deal to a Global 2000 customer.

And it was a great example where they had built what I'm going to characterize as a tailored vertical solution to a vertical use case on top of our platform, something that we never would have built out of the box because it -- and it was very effective.

And so I'd still characterize our ISV efforts as in the reasonably early days.

I think we have a good leadership there.

We have increased focus.

At Knowledge, we'll be having our CreatorCon day, which we're reaching out more to developers both inside and outside the enterprise, reaching out more to third parties, making it easier for them to build applications on the -- on top of our platform.

And to be honest, as we become more widespread, more global, I think you're going to see increased growth in this because they're the ones that can provide -- I learned this in my prior life, in my eBay days.

It was a very specific use case.

It's a vertical use case.

Sometimes, a geographic specific use case that you can get a third-party partner built on our platform and deliver a great solution.

So we're going to continue to grow it, continue to focus on it.

And I think it'll be an increasingly important part of our ability to both expand and to deliver great value for our customers.

Our next question comes from the line of Matt Hedberg with RBC Capital Markets.

John, when we talk to some of your biggest GSI partners, we continue to hear a lot of excitement, I guess, in terms of the momentum within their ServiceNow practices that they're building.

I was wondering if you can give us an example maybe on how some of these GSIs are influencing deals today and kind of how do you think about that.

I know you've talked about that from a services perspective, but how should that impact your growth longer term?

Well, I think it's a really important partnership for 2 reasons, Matt.

One is to ensure that the product and platform get implemented effectively, which that then tees up.

The more effective and better implemented the ServiceNow platform is, the more expansion happens quickly, easily and effectively.

And so there's a shared incentive to ensure we're getting it right, and that's sort of been the starting point.

I've had top-to-top meetings in the first quarter, top-to-top meetings with Accenture, DXC, Deloitte, KPMG, IBM, all of them, and we start with saying how we're ensure that collectively, we're driving highly successful outcomes, highly successful results at our shared customers.

And that -- because I think everyone's clear.

When that happens, expansion happens more -- in a more fast and robust manner and a healthy manner.

And then in terms of going to market together, again, for the first time really ever, we have shared account plans with each of those 5 strategic accounts.

And so we're talking about what industry verticals or what geographies, how do our -- how do the right people in our sales team talk to the right people in the GSI organizations so that we can go to market together in a way that's good for customers.

And so again, I'd put this as one of these initiatives, that it's -- I think we're ahead of where we were 12 months ago.

And I think we can take a big step going forward.

And over time, there's no doubt that our partner ecosystem plays an incredibly important role to our growth and to our customer success.

And so I think we'll continue to see focus on that.

The other thing we're doing that I think the more successful partners appreciate us for raising the bar where if you don't have current certification on ServiceNow, we've gone from a very open partner ecosystem to one that's more if you're not trained and certified, then you're not part of our partner ecosystem.

And so the ones that are trained and certified, we're working with them to how to increase the number of ServiceNow trained consultants that they have.

So important and I think it will grow in its importance over time.

Our next question comes from the line of Derrick Wood with Cowen.

John, as you expand the product portfolio and see more multiproduct engagements touching different constituents, different price structures, I suspect ultimately, sales cycles could get a little longer.

I mean, you guys have done a great job managing that so far.

But how are you ensuring that sales cycles, close rates, don't get too long?

And do you envision -- do you see linearity changing at all as you do more strategic engagements?

Derrick, I think this is -- I can't say I have a deep understanding of other -- the sales cycles of other enterprise software use cases.

Although in many cases, those are major fundamental decisions to take out one existing software and put in another.

As I've said earlier, what -- and this happens, once we're in a customer with our platform, that decision is not so much to rip out an old software and put in ServiceNow.

It's, "Do I use ServiceNow where software is not being used today?" And so as a result, I think the decision cycles are not these big broad bake-off questions.

They're, "Hey, on facilities management, should we be using ServiceNow to help extend automate this workflow?" Or on -- should we add ServiceNow's Security Operations capability to automate the incident response in CSO and security in addition to the other use cases or in addition to the other software endpoint solutions we're using?

And so the -- if you look at how we grow our relationships, it's often, I would say, a lot of little pieces rather than one great big fundamental decision.

Often, the first decision of whether do you use us for ITSM is are they going to upgrade over a long-term remedy or a long-term HP or a long-term CA solution.

But the expansion tends to be almost workflow by workflow.

And that's, I think, one of the things that allows us to have a little bit more consistency and predictability around the expansion at a macro level.

Would you agree with that, Mike, though?

I would agree.

And Derrick, in 7 years, I really haven't seen a material change in the initial sales cycle.

It is still very much, on average, a 9-plus month sales cycle for an enterprise customer.

G2Ks on average are, believe it or not, 2 years.

We gave examples a couple quarters ago where it's a 5 year.

But once we're in, there tends to be more of a repeat buying pattern.

And as John said, it tends to be workflow by workflow, and we're really not replacing software beyond that initial ITSM implementation.

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

First off, congrats on hiring Dennis Woodside to your board.

Dennis, in case you're listening on the call, congrats on joining the ServiceNow board.

A couple questions for you guys.

One, with respect to the margin guidance being a little bit lower, is it fair to read into the tremendous outperformance in billings since you're raising the billings guidance that obviously it comes at the expense of operating leverage but it's all good because the faster the billings grow, you'll ultimately recover the profitability.

So we shouldn't be -- it's a tradeoff between outperforming and billings versus giving up some margins, right?

Is that the right way to look at the tradeoff?

And then my follow-up...

Yes, allow me to answer that before you ask your next question.

We kept our margin guidance at 20% for the full year.

We have not lowered it, and we're giving you higher revenue and that margin is [up] that we are contributing more on an operating profit basis.

And we did mention Q1 was a record hiring quarter.

A lot of the quarter -- hiring was at the end of the year, and the full impact of that is flowing through for the rest of the year and we're still keeping our margin at 20% for the year.

Great.

That sounds fantastic.

All the things that growth companies do.

A rather philosophical question.

If you look at successful SaaS companies, and the largest -- one of the largest being Salesforce.com, there've got a lot of adjacencies, app scale besides sales force automations.

In your case, you've got ITSM.

As you look at the company business 5, 6 years out, how does the company look like?

Your best estimate as to what those multiple adjacencies that are potentially multibillion businesses so the growth doesn't have to necessarily slow down because you're uncovering your TAMs.

Philosophically, how does the company look like with respect to adjacencies in addition to ITSM at scale 5, 6 years out?

That's it for me.

Yes, Kash, again, I'll just echo what I've touched on a couple times before.

I think the reason software industry is growing so much and the reason SaaS is growing so much is software is now being used in areas that it wasn't being used previously inside the enterprise, right?

So it's -- there's -- when I talk about a strong cloud tailwind, what I'm talking about is the need to do digital transformation is causing people to embrace cloud aggressively, and that's causing what I would call structural growth in software.

And so in our particular case, given our focus on workflow, we've done a couple analyses of, well, what's the workflow TAM inside of a company.

And if you were to take all of the unstructured workflows or all the nonautomated workflows.

Well, we said to Mike, we got to trillions of dollars.

And then we just said, did you know what?

Actually, when you get to that, it -- the point is we have a big opportunity.

And so I think what we're now focused on doing -- and I'd say one of the things that I just love about our platform that is very reminiscent of what I experienced at eBay, which was we follow our customers.

Our growth is following our customers.

So at eBay, when Pierre Omidyar created eBay and he created it for, initially, collectibles, Beanie Babies and collectibles in an auction format, he never envisioned there will be 3 million cars sold on the eBay platform or hundreds of billions of consumer electronics in a fixed-price format.

Customers just started using the platform for multiple buying and selling.

And so the expansion happened following the customers.

That's very much consistent with what we see here where customers are using our platform and they start using it in these use cases.

It's not us saying, "Oh, well, we're going to create an HR Service Delivery use case." It was actually, no, they started saying, "You know this thing we're doing with IT's IT help desk?

We can do it with HR help desk." And so they started building their own solutions on our platform around HR help desk and they said, "Hey, could you build that out of the box?" And we said, yes, we can.

And so literally, we have -- one of our biggest challenges right now is the number of requests where our customers want us to build out-of-the-box applications for workflows that they currently had built their own use cases on our platform.

And so our [NowX], which you've heard us talk about before, what that is focused on is taking all those ideas from our customers, from our employees, from third-party developers and saying how do we prioritize what our next applications are, and that we're going to try to address in a very systematic way.

But medium to longer term, we see just significant upside, significant expansion potential as we increasingly automate workflows inside an enterprise that deliver higher productivity, better employee experiences and better customer experiences.

And we think we're the best-positioned company to do that given that we have everything on one platform, one code base, one set of user profile, very easy to deploy these workflows around and across the entire organization.

And I can't stress enough.

We are not a system of record.

We're not trying to replace HCM.

We're not trying to replace ERP.

It's all around the work around these systems that we're doing to help people.

John and Mike, I feel 20 years younger.

Good.

Tell me what you're doing because I'd like to feel 20 years younger, too.

Just listening to you.

I just listen to you, that's it.

The last 2 minutes.

That changes everything.

And to be clear, and I've said this since I've joined this company, guys, I'm reflecting what I'm hearing from customers.

That's what's so exciting.

I come back from these customer visits just seeing the potential to transform how work is done.

And not many companies of your size have grown 40%, very few in history.

So congrats.

Thank you.

Our next question comes from the line of Justin Furby with William Blair.

Mike, when you look at the 30% of ACV that's coming from the emerging products, I think the assumption is that the vast majority of that is selling back to your installed base.

I guess, is that the right assumption?

And maybe for John, the customer success side of things seems like it's going incredibly well early on.

I guess, where are some of the areas you're seeing the most success, whether it's verticals, customer sizes, et cetera?

Yes, I will say a big percentage of the emerging products is sold into our installed base of customers.

But I can't stress enough.

As we've said before, we have done many large transactions with new customers with CSM and our HR Service Delivery product.

And so they can open the door up for opportunities that will then, in the future, lead to ITSM and other products being sold.

Justin, on the customer success, the way I'd characterize it is this: We're a company in evolution.

To be honest, we're a company that 5 years ago started selling probably 3, 4 levels beneath the CIO and we were selling a part of a single solution or a single product.

So we were kind of a vendor selling deepened IT.

And what's happened because of our strong platform, because of the good delivery of our products is we're clearly moving up the organization.

So increasingly, our dialogues with the CIO and where the dialogue is increasing, moving from being a vendor to a partner.

And I view customer success is simply something that reinforces that trend, that momentum.

And to be honest, some of the earliest successes we've had with customer success to date is actually having tough, honest conversations with customers because what can so often happen is they buy ServiceNow and it gets -- implementation gets delegated down.

And when it gets delegated down, it ends up being slower, getting more customized so they don't redesign the processes.

So by having the capabilities and the people that can have that discussion upfront that says, hey, here's best practice.

I was with a customer last week who was extremely excited by our portfolio.

This particular CIO was in an EVC visit.

And we were talking about 4 or 5, 6 different applications, and I was in with one of our customer success people saying, "Let me tell you best practice.

Best practice is you start off with ITSM, get that implemented really well and get a great CMDB implemented well then sequentially add the next application," right?

Now it would've been real easy to say I'll do everything at once, but that wouldn't have led to as good an outcome 12, 18 months down the road.

And I can tell you, that customer very much appreciated the fact that we had a point of view, the fact that we were putting their interest before ours in the short term and I actually believe that customer will implement more effectively and over a 3- to 5-year period, that will be a larger, happier customer.

And so it's no one thing, but it is a bit of an attitude that says how do we live up to what they're looking to us to do, which is to be a strategic partner that shares our best practice, shares our own experience and puts their interests first.

And that's what we're -- the manufacturing process to do that is still early days as we build the muscle to do that.

It's part of our routine account coverage muscle.

But I'm -- the feedback has been very positive thus far.

Our next question comes from the line of Greg McDowell with JMP Securities.

Mike, just one quick one for you.

I wanted to ask about the average contract terms for new customers, that 37.3 months.

It looks like the highest ever, and I was just hoping you could elaborate a bit on what's driving such a big jump in the duration of new customer contracts.

Yes, we had one large private company that John mentioned was one of our biggest deals in the quarter.

That customer wanted a 5-year contract, and we had a couple of other relatively large deals where customers, there's one that had a 7-year contract.

In general, nothing has changed in our business.

I think that was really skewed this quarter.

I think it will go back to being around between 34 and 36 months because we just incent our sales force to sell a 3-year contract.

There's no additional incentive for our salespeople to sell beyond 3 years, and these are just really customers pushing those.

Our next question comes from the line of Jesse Hulsing with Goldman Sachs.

John, in your prepared remarks you noted a number of large CSM deals.

Can you give us a sense of what verticals those were in or maybe the use cases?

And were those deals competitive versus Salesforce or Service Cloud?

The use case, Jesse, the power to describe that, where our target segment is in customer service, it tends to be industries or companies that have a high number of inbound contacts where the goal is to get to the root cause and address the root cause so that you reduce contacts in the future.

That's contrasted with the goal being spending a lot of time on the phone with them.

And if you want to spend a lot of time on the phone with them, you probably want more of a CRM-based customer support or customer service technology.

However, if your goal, and increasingly, technology companies, financial services companies, services businesses, the goal is to actually use the inbound customer contact channel not just to resolve a customer's problem but actually to get to the root cause.

And so you need a cross-functional workflow, a cross-functional platform.

And that's where we shine, right?

That's where we shine.

And so on average, telecom, software, technology, services businesses, financial services are some of the industries where we tend to do well.

And there's no one competitor that we're replacing.

To be honest, I think increasingly, customer service is such a large market that the leading-edge customer service decision-makers are realizing that different platforms optimize for different things.

And so our goal is to, frankly, be spending more time in the circumstances and situations where our capability fits what they need and less time in bake-offs where we aren't the best solution.

And so I think we're doing a pretty good job at that.

We're definitely more focused in our targeting today than we were a year ago, and that's why I think you see a little bit of that success I described in my remarks.

Let me just give you a quick example just to wrap up.

Telstra is one of our customer service customers and they wanted, Telstra, as a financial services company -- or I'm sorry, telecom in Australia and they wanted to reduce the number of time of their calls.

And using the ServiceNow platform, they've gone from 15 minutes to 6. They want to spend -- they found that they were sending technicians out, in many cases, where a technician was not needed.

So they've been able to reduce unnecessary technician visits by 55%.

And they have a real focus.

And how do they use the data?

This isn't a world of machine learning and data.

All the data they get from one of the calls, the inbound context, what are they calling about and how do we get to the root cause so that we can fix it within our network so that those calls don't happen in the future and we get more satisfied customers?

And so a nice example of our customer service product with one of the leading telecom providers in the world.

I think that's it.

Yes, so thank you, everyone.

With that, operator, we're going to end the call.

And as a reminder, a replay of this call will be available as a webcast in the Investors section of our website.

Thank you for joining us today.

Ladies and gentlemen, thank you for your participation in today's conference.

This concludes the program, and you may now disconnect.

Everyone, have a great day.