Pegasystems Inc (PEGA) 2017 Q2 法說會逐字稿

Greetings, and welcome to the Pegasystems Second Quarter 2017 Earnings Conference Call.

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

I would now like to turn the conference over to your host, Mr. Kenneth Stillwell, the CFO.

Please proceed, sir.

Thank you.

Good evening, ladies and gentlemen, and welcome to Pegasystems Q2 2017 Earnings Call.

Before I begin, I'd like to read our safe harbor statement.

Certain statements contained in this presentation, including, but not limited to, statements related to future earnings, bookings, revenue and mix of license revenue may be construed as forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995.

The words expects, anticipates, intends, plans, believes, could, should, estimates, may, targets, strategies, intends to, projects, forecasts, guidance, likely and usually or variations of such words or other similar expressions identify forward-looking statements, which speak only as of the date of the statement was made and are based on current expectations and assumptions.

Because such statements deal with future events, they are subject to various risks and uncertainties.

Actual results for the fiscal year 2017 and beyond could differ materially from the company's current expectations.

Factors that could cause the company's results to differ materially from those expressed in forward-looking statements are contained in the company's press release announcing its Q2 2017 earnings and in the company's filings with the Securities and Exchange Commission, including its quarterly report on Form 10-Q for the quarter ended June 30, 2017, its annual report on Form 10-K for the year ended December 31, 2016 and other recent filings with the SEC.

Although subsequent events may cause the company's view to change, the company undertakes no obligation to revise or update forward-looking statements, whether as a result of new information, future events or otherwise as these statements may no longer be accurate or timely.

And with that, I will turn the call over to Alan Trefler, Founder and CEO of Pegasystems.

Thanks a lot, Ken.

I'm pretty happy with where we are at this point of the year.

We continue to see solid performance as well as a good mix of business between our apps and our platform.

We opened our last call with a comment about the quarter-to-quarter lumpiness of our business, as we believe the longer-term trends are a more accurate and appropriate way to view how we're doing.

As such, as I always do, I'll focus on our year-to-date results.

Now in midyear, we're about 49% of our full year revenue guidance, which is higher than in the past and I think reflects our moving to an increased contribution from recurring revenue.

Ken will provide additional financial details later.

Let's talk a little bit about how we're doing in differentiating ourselves in the market.

As we discussed last quarter, foundational to our success is our ability to outpace the competition and have chosen to focus on firms like Salesforce.com by focusing our technology and our go to market on a couple of key areas: first, we are the leader in real-time AI for customer engagement; secondly, we offer the only software platform that automates work across all customer channels through all corners of an enterprise's operations, including customer engagement, acquisitions, sales, onboarding, servicing and fulfillment; and we're the only CRM provider that offers true cloud choice.

Our unique capabilities allow us to build software that avoids the pitfalls many organizations face as they try to solve their customer engagement issues and work through the complexity of today's enterprises, many mistakenly focused on making individual channels smarter or dropping the newest technologies into their contact centers, thinking that will make their reps more productive.

But instead, it routinely just adds complexity and confusion.

Instead, our approach is to help clients think about the outcomes that matter and then through these systems, starting from the middle out and work their way to provide a coherent customer journey that allows organizations to be fluid, agile, smart and responsive, to be able to bring the customer journey across the channels and support end-to-end automation.

Now this all works better if you put a centralized brain in the middle that can make decisions that's connected to the muscles that can do the work.

Now the highlight of, I'd say, the month of June at least, was PegaWorld.

And we had some unbelievably great examples from clients that I would like to talk about a little bit.

And actually bring their own words into play here.

Now each year, PegaWorld has gotten bigger and better.

This year was no exception, we had over 4,000 attendees, 49 countries, more than 560 companies attend.

And it brought together prospects and clients and partners and media and analysts and lots of influencers.

We had over 100 customer presentations that were in-depth, and many of which are recorded and available on the site in video.

And our technical boot camps were sold out, an indication of how interested people are in Pega training and certification.

The keynotes were outstanding and the customer breakouts were terrific.

For example, The Hanover Insurance company, a $5 billion insurance holding firm, has been working with us on a multiyear initiative to improve customer service.

This year, they presented at PegaWorld the latest in this journey using our Pega Customer Service application to provide an end-to-end fully integrated view of driving service excellence to the next level.

One of my favorite quotes from their presentation, "When it comes to implementing Pega, you aren't talking years.

You can see results in 2 weeks and are allowed to course correct."

And Optus, the second-largest telecom in Australia, reported, "The way the customer journeys work as viewed in Salesforce is quite linear.

That's just not how customers think of work.

Pega's quite different in that it starts with the customer and runs every single proposition across every strategy and splits out the best offers for you.

It's absolutely the way the customers work."

Even if you attended the event, I recommend you take a look at some of the other customer breakouts you might've missed because, frankly, they are really, really terrific.

In addition, through our customer engagement summits, we've reached over 3,000 prospects and customers across the year in a variety of cities.

And we're going to be doing a number of additional events in the second half as we continue to work to ramp up our visibility in our marketing.

Now a real highlight at PegaWorld was this real-time AI that we've made some very significant advancements in.

We announced a number of important things.

For example, integration with Merkle to leverage AI in ad tech to make it possible to bring together more effective digital marketing campaigns, including the launch of something called the Pega Paid Media Manager, which enables organizations to be able to bring to their paid media decisions the same intelligence that they are bringing to their contact centers or their websites or their mobile apps.

We actually released the Pega Retail Advisor to specifically bring AI to retail agents so they can better serve clients in stores.

And we launched Pega Sales Automation for financial services earlier in the year which empower banks with AI for more collaborative actions.

And at PegaWorld, we are able to show real advances in this that are absolutely state-of-the-art.

We're relatively newer to the sales automation segment.

Several years ago, we weren't really in that space.

But part of our commitment to CRM is to make sure we're world class in all of sales, service and marketing.

And so we were thrilled last month to be recognized by Forrester, one of the 2 industry analyst firms that are at the top of the heap there, as the top-ranked offering Salesforce automation among 10 vendors evaluated against 35 criteria.

We received very high marks from customers that they've interviewed, "The platform's ability to adapt to the most complex business needs," and we're recognizing for having smart AI and analytics.

So we believe that we've got a tremendous presence in real-time decisioning, artificial intelligence, driven by what we call the Customer Decision Hub, which really brings together the channels, the sources of data and enables our customers to reap the benefits.

One final thing here is I'd like to highlight how this is especially true in some brutal, brutal competitive markets like telcos.

For example, in keynoting at PegaWorld, Sprint reported that customers who have "been exposed to Next-Best-Action versus a control group showed a 50% increase in Net Promoter Score and a 14% churn reduction." And Vodafone, a longtime client, has chosen Pega as their global standard for real-time decisioning and are in the process of rolling out Pega across individual countries in which they automate -- operate.

Now having made the right decisions, having used AI, what's really key here is to have end-to-end automation.

And this is where we feel we have unique capabilities in CRM.

Because we continue to enhance our platform, our heritage to extend that advantage and to understand and make sure people understand that all Pega applications, whether built by us or a client or a partner, obtain the powerful benefits of this market-leading platform.

Now in June, we launched the latest version of the Pega platform which delivers the enhanced intelligence, the agility, the control, that really can once again accelerate application development, enable customers to help their customers empower digital transformation.

We improved collaboration to allow internal and external users to stay informed on project activity and engage their entire teams that are building new capabilities and built the AI out into what we call an AI studio that really tremendously eases the ability to control predictive and adaptive models.

We expanded our robotics, which I'll talk about in a moment, versus with a new robotic automation console and really improved customer e-mail processing by applying AI to understand the customer intent from inbound e-mails and automatically create and process new cases.

So many of the customer presentations at PegaWorld touched on our end-to-end automation capabilities.

For example, The Commonwealth Bank of Australia has adopted Pega as a central platform, discussed the role Pega is playing in achieving their vision to be exceptional in customer service.

CBA is putting customers at the heart of the business and making them the focus of everything they do, increasing the depth and breadth of every interaction between CBA and their customers.

They reported, "Pega was the only choice in terms of someone who unifies all those channels, inbound, outbound, all the different things you want to use to talk to customers when they're connected -- and are connected to the system." The leads were 3x better than anything we've ever given to the front line.

I'd also like to talk about robotics.

Now you may remember that over a year ago, we acquired a company called OpenSpan.

And we've now taken OpenSpan and really been unifying it in to our core platform.

Now this gives us another tremendous, truly unique advantage over other players in the CRM space.

Because what robotics do is they enable you to be able to enter and get data from other systems and actually control other systems that may not have the latest in application programming interfaces.

And it's a terrific way to improve productivity and move things that otherwise would have to be manual into automated control.

We do this by putting it as a core element of our platform.

So this isn't some add on, this is something that's really part of the rhythm with which our clients can digitize.

There are 3 flavors to robotics.

There's what's called desktop automation, which works in conjunction with people.

There's what's called process automation, which works in the background to automate processes that otherwise people would have to do.

And then the third part is really exciting, it's called workforce intelligence.

And what this does is it sits on the desks of workers, observes what they do, brings information about what they're actually doing in real life up to the cloud, does machine learning and applied intelligence to it to make active recommendations about how to be more effective and to let managers know what's really, really going live or what's going on in their operation.

And so being able to bring these sorts of projects live is something that is tremendous.

We had some of our clients talk about, "a process for account setup that took 35 minutes to complete manually.

By using robotics, we reduced that down to 14 minutes." And those sorts of massive doubling of productivity savings are routine and plug now directly into all of the applications that we offer.

So I think this architecture is something that clients are increasingly understanding.

And your secret sauce is the idea that there is a single comprehensive model that links the business needs to a system that is actually written by our software.

The idea that software that writes software is powerful and not just because it's more effective and reliable, but because it allows us to support whole new technology stacks by simply enhancing what we generate.

It means that as we move to the cloud, as we move to other places and capabilities, we can make sure that the software that's running in those environments represents the customer's objectives and the customer's model, but is always fresh and state-of-the-art technologically.

CSAA, a AAA insurance company in California, is leveraging Pega to support their continuous improvement effort to enhance their CRM.

And quoting them, they said, "software that writes software is pretty cool.

You can focus on outcomes instead of semicolons." And this also facilitates one of the really other, I think, important differentiators that's key to the dynamic cloud market that we're in.

Being able to offer cloud choice, I think, continues to be an advantage and will be even more so of one as we go forward.

An outgrowth of the future-proof architecture is we can add new platforms and offer new capabilities by releveraging what the customers have already defined about how they want to engage with their customers, how they want to make decisions, how they want to automate their work.

And this quarter, this last quarter, we signed a number of new agreements to enhance our offerings, including extended or new partnerships with Pivotal, Microsoft Azure and Amazon Web Services.

No other CRM provider allows their customers to choose what cloud to run on, whether it's the Pega Cloud, which from our delivery point of view, is a completely managed service that requires no technical acumen on the part of our clients, to being able to use a private cloud, like customers like Cisco do, to be able to have both control and flexibility and really have it their way.

One of the largest utilities in Australia was a great example, where they said that cloud choice was a clear differentiator in winning against all the usual CRM suspects.

Now in addition to growing adoption and successful go-lives with our customers, I would also say that our software continues to be recognized by industry analysts as really best-in-class.

I mentioned the sales automation Forrester Wave earlier, but we're now recognized as leading in many key areas in which we operate, with a number of new important reports out since the last call.

And this includes, in artificial intelligence, we were named a leader in real-time interaction management by Forrester.

They evaluated 12 vendors and scored 32 separate criteria and we received the highest scores possible in vision, supporting services, solution packaging and delivery and we're among the highest in the integration criteria element, which is also we think very important.

Forrester noted, "Pega's value lies in consistent decision-making across business roles." And we spoke with customer references, we're using it to fuel cross-functional real-time interaction management within marketing, sales and service for tens to hundreds of millions of customer records.

Now in the end-to-end automation space, we love the accolades and successes in CRM.

But remember that Pega's history really comes and originated in the notion of bringing intelligence and automation to business processes.

Recently, Forrester came out with a whole brand-new category, which we're very, very excited about.

They call it Digital Process Automation, or DPA, because we just don't have enough acronyms, so we need some more.

And this is their effort, I think, to move beyond the sort of old world of business process management.

And it represents an evolution that emphasizes what it takes to really drive digital at scale for organizations.

It emphasizes aspects of low-code development, top-notch user experiences and AI-based innovation.

And Forrester evaluated Pega against 12 other significant offerings and gave us the top ranking for our current offering as well as the highest possible scores in 20 out of 30 criteria.

And I think the same capabilities that differentiated us in BPM combined with our enhanced AI capabilities will continue to give us a strong showing here.

And I will tell you, if you download the report from our website, which you're welcome to, I think you'll be thrilled at how high and to the right we are in that picture.

In mobile, being able to have this future-proof architecture means that you can build a system designed for a contact center or for a website and we can generate mobility capabilities that allow you to embed it in an existing mobile app or actually create a full mobile app for itself.

One of the things that I was very excited about is that Gartner actually just concluded a rating of Pega that put us among the highest.

Out of 4 categories they rated, we were the highest in 2, second in the next 2. And the competitors there don't have a fraction of the other capabilities that are part of this future-proof architecture.

I think it's really, really interesting to be able to see an example of how future proof facilitates not just web, not just contact center, not just mobile but also as we demonstrated at PegaWorld, the ability to bring this into chatbots and other state-of-the-art robotics capabilities that are very trending and very key.

And finally, in terms of product and accolades, just last week, Chartis, which is the leading risk and financial crime analyst firm, named Pega Know Your Customer and Customer Lifecycle Management as category leaders in their RiskTech Quadrant, beating out nearly 20 other players in the market.

Now we're excited about our products.

We're excited about our customer engagement.

But we know we still have a lot to do to improve our go to market.

As we've discussed over the last couple of quarters, we've been introducing a new go-to-market approach that is generally referred to as what's called a challenger method, which uses a deep understanding of our customers' businesses to influence their thinking and teach them something new about how the company -- their company, can compete more effectively.

Though often thought of as a sales methodology, it's really quite significant.

It's a fundamental shift that affects both sales and marketing and influence all -- influences all aspects of the business.

For our Salesforce, it means some retooling and a more provocative approach about how to discuss the challenges and opportunities a customer faces, bringing new perspective to the conversation.

For marketing, it means a more assertive approach to what we talk about, how we do it and what sorts of things are on our website.

We need to be more forceful to how we engage about the things we can do for clients.

You're going to see that increasingly reflected on our website in how we tell our customer stories in our events and in our advertising.

And we're committed to really raising the bar on how we go to market.

Success will be seen through sales, better visibility and our ability to really, well, frankly, be more effective as we grow.

So the last topic I'm going to touch on is the ecosystem because there's a huge demand for Pega in the market.

And we need to make sure that our partners and our customers all have the staff they need to continue to be successful.

Last quarter, I mentioned the launch of the Pega Service Ventures to invest in the next generation of digital transformation firms.

We had more than 50 companies apply, and have chosen to fund 6 firms that have a proven ability to execute, leadership in digital transformation and various industry focuses.

We're excited to have them on our extended team and adding to our client success.

In addition to PegaWorld, we announced that all online training on Pega Academy would be free for the remainder of the year and we've seen about 20,000 students enroll in an average of 2 classes per student since then.

Tremendous demand and tremendous interest.

And finally, the University program we launched in 2016 now has over 25 universities signed up, graduating Pega Certified Software team members.

So in summary, we're pleased with where we are for the first half, our strongest first half ever.

We continue to focus on building and enhancing the capabilities that we believe are our strongest differentiators.

And we're very optimistic about how our business is evolving to serve the needs of our clients.

To provide more color on the financial results, I will now turn this over to our CFO, Ken Stillwell.

Thanks, Alan.

I'm really pleased with our year-to-date performance.

For the first half of 2017, we experienced a solid increase in new licensing cloud commitments, revenue, we had great operating margin improvement and significant operating cash flow.

Year-to-date top line revenue grew by 15%, consistent with our long-term guidance.

As most investors know, we look at our business over the long term.

So year-to-date, or even trailing 4 quarters is the most relevant measure for management.

You'll note that we achieved approximately 49% of our full year revenue guidance through the first half, as Alan mentioned, which is fantastic and really a sign of more balance of revenue between the first and the second half of 2017 under the current accounting standards.

Our growth in new licensing cloud commitments were achieved with just 1 whale in the first half of 2017.

To remind everyone, our definition of a whale is a client software commitment of greater than $10 million.

Whale-sized arrangements, which just exaggerate the lumpiness and cause lower predictability, are still likely in our business going forward.

In fact, we're chasing lots of whales in the second half of 2017 and into '18.

Another factor that contributes to quarter-to-quarter variability is the timing of perpetual deals.

For example, remember that we talked in Q1 about a $7 million perpetual deal move into Q1 from Q2.

But even given this, we still grew backlog in Q2 by $5 million when it's much more common to consume backlog in the second quarter of a year.

Our first half services revenue growth at 24% year-over-year exceeded our long-term growth expectations of 10% to 15%.

We have a very small number of consulting services engagements where we're playing a bigger role than originally anticipated.

This is especially true in engagements that are central to their mission and deemed strategic by clients.

This increase in consulting revenue does not affect our efforts in building out our ecosystem and having partners perform an increasing amount of Pega services.

Sometimes, as has been the case in the first half of 2017, customers want us more directly involved.

Despite this near-term trend, we continue to anticipate that our partners will play an expanding role in services engagements.

Our year-to-date mix of new license and cloud commitments were approximately 54% recurring, compared with our anticipated 50-50 split.

One up-to-date observation.

We have the strongest month of July in our history.

In fact, it was the second best first month of a quarter ever for Pega.

So a good start to Q3.

Another interesting point is that well over 50% of our July deals were recurring versus perpetual.

That can always change through a quarter and a year, but it does highlight customer's acceptance of moving to predictable and recurring investments in our technology versus significant upfront license purchases.

I won't speculate where Q3 or the full year of 2017 will land.

But it's certainly an interesting note to share.

Our full year guidance was developed using a 50-50 split between recurring and onetime commitments from our customers.

Although we're pretty close to this mix year-to-date, as I mentioned 54% recurring, when we look at the remainder of 2017, factoring what we've seen so far in Q3, we see more recurring deals in our late-stage pipeline than nonrecurring.

Each 1% shift away from 50-50 mix has the potential to affect full year 2017 revenue by approximately $3 million.

The long-term value of recurring contracts is well worth the short-term impact, as you're all aware.

But it's, once again, worth highlighting.

As an additional piece of information, we began disclosing annual contract value a few quarters ago.

With the impact of implementing the new revenue standard in 2018, growth in recurring revenue will become a less useful metric.

We believe annual recurring contract value is highly correlated to recurring and predictable cash flows.

This quarter, we added maintenance to the ACV view to give a more complete perspective of all recurring contracts and cash flows.

Our term and cloud ACV, annual contract value, grew by 26% year-over-year, which highlights the growth in predictable future cash flows from term and cloud arrangements.

Our embracing of financial awareness continues to positively impact our performance.

Our year-to-date costs have increased at reasonable and sustainable levels.

We're doing a really great job of managing the business for balanced growth and margin.

In fact, our revenue has grown by 3 percentage points higher than total cost in the first half, which then expands our margins.

We anticipate full year margin improvement to be approximately 150 to 175 basis points as we continue to make investments in the second half to support growth in 2018.

Although we haven't consummated an acquisition since OpenSpan, supplementing our organic growth with inorganic growth may be prudent given the massive opportunity in front of us.

So we continue to look at ways to accelerate our growth.

For example, our Services Ventures concept is another mechanism for supporting our growth by expanding our ecosystem.

For the first half of 2017, we have reported both GAAP and non-GAAP results.

A full reconciliation of all GAAP to non-GAAP measures is provided in the financial tables of the press release issued earlier today and is available on the Investors section of the website.

We are very pleased to report that year-to-date total revenue was $420 million -- $421 million, up 15% year-over-year.

On a year-to-date basis, our non-GAAP fully diluted net income was $0.54 per share compared to $0.41 per share in 2016.

This increase was driven through great execution of our strategy to increase revenue at a faster pace than cost while continuing to strive for 15% plus top line growth.

We're especially pleased with this result given we had 54% year-to-date recurring arrangements, which created a slight negative impact to revenue and margin.

Moving on to backlog and the balance sheet.

We compute license and cloud backlog by totaling 2 components, deferred license and cloud revenue as posted on our balance sheet and license and cloud contractual commitments that are signed but have not yet been billed nor revenue recognized yet.

As a reminder, you can find details of both components in our 10-Q and a summary table in our press release, both of which were filed earlier today.

We finished Q2 with $518 million in backlog, more than $0.5 billion.

Backlog grew over $100 million or 32% from the end of Q2 of 2016.

Our average contract commitment terms continue to average approximately 4 years, which is not a material change from previous periods.

From a cash flow perspective, we're really pleased to announce that we produced an amazing $86 million of operating cash flow for the first half compared to $12 million for the first half of 2016.

That helped us finish the period with total cash and marketable securities of over $180 million, an increase of over $46 million from the end of 2016.

On headcount, we finished the period with a little over 4,000 employees, up 8% from June 30, 2016.

The growth in headcount is disproportionately concentrated as we grow resources -- or as we hire resources in lower-cost territories and expand our global client base and enter these new markets.

In summary, we're very pleased with our midyear progress toward our full year financial goal.

As is typical in enterprise software, we have a lot of activity brewing as we approach the last 5 months of our fiscal year.

And with that, operator, we'll open the call to questions.

(Operator Instructions) Our first question comes from Steve Koenig with Wedbush Securities

Hopefully, you can hear me okay.

I got one for Ken and then I have one for Alan...

You're coming through loud and clear.

Great, okay.

Starting with Ken.

So Ken, I realize you don't guide to backlog or to bookings, but can you give us maybe some interpretation or color on both the Q2 results -- I calculate maybe bookings down about mid-single digits year-on-year from a year ago.

We know you pulled in that large deal into Q1.

But maybe some commentary on that bookings result.

We know you're lumpy, but we'd love to understand a little bit about the quarter in that respect.

And then thinking on the year, you've got some really tough comps coming up in Q3 and Q4 because you had such a strong second half of last year.

With -- should we be surprised that bookings are flattish for the remainder of the year because of those comps?

Or how should we think about that?

Well, so let me touch on Q2.

So once again, I think we really need to look at the nature of our business when we think about any discrete quarter.

And we've talked about this over the last year.

We're -- we have deals that are big and, actually, can move from perpetual to term, they can also move from one quarter to another.

We have one example of that, that moved into Q1.

So we kind of always want to measure ourselves on a year-to-date and even a trailing 12 months.

That's what we look at.

Naturally, Q2 was, if you look at year-over-year, you're right, we didn't have significant growth if you just look at a discrete quarter of Q2 in bookings because you guys can engineer that number.

But when you look at our year-to-date, if you look at the 2 quarters, which is really a better measure, you'll see that our, what you might call, bookings growth is in excess of 20%.

And that's really the way we think about it.

With respect to the second question that you asked about the back end of the year.

Yes, we do have 2 strong quarters in Q3 and Q4 from a bookings standpoint that we had last year.

However, our pipeline has grown nicely.

We have a lot of deals in flight and we feel really good about our position in the market.

So although the comps are good in Q3 and Q4, we're not backing down from our plan to grow this business.

Terrific, terrific.

That's very helpful.

And then if I can turn to you, Alan.

With Pega's broad range of capabilities, I think the challenge from a marketing perspective has always been to grow the market awareness and focus markets about what Pega can do.

And you certainly have been making a big push in CRM.

Can you share with us how has your -- do you have any metrics or any indications of how your market awareness has grown, either as it relates to lead generation or sales cycle times?

And then, related to that, how do you drive more awareness when it comes to back-office initiatives as well?

Yes, so anecdotally, the awareness is much, much higher.

And you're absolutely right, a lot of folks that we now talk to have said, boy, we didn't realize that Pega could do these things.

And so the types of things I see that tell me that awareness is up is, for example, I look at the amount of press we're getting, which is up very, very dramatically.

I'm actually pretty pleased.

You can see a lot of it by going onto our website, we have links to it.

And it's up, I would say, meaningfully year-over-year, the number of press interviews I'm doing, the types of things that are indicative that those organizations think that their customers will be interested in what we do.

And I think that's really quite meaningful.

Our community, which is one of the things we also look at to give us a feel -- a sense of awareness, which consists of our followers on Twitter and LinkedIn, is also up very, very significantly.

And we're continuing to push on that.

So I don't have a formal estimate and, frankly, I'm not hugely a fan of paying some ad agency to go and do one of those awareness surveys, which I think are often a little self-serving and unpredictable.

But it's pretty clear to me that our awareness is meaningfully up.

And we have a relatively new Chief Marketing Officer who I know has a lot of plans for the coming quarters.

Our next question comes from Greg McDowell with JMP Securities.

I just hit the Follow button on LinkedIn, so count me as one more follower on LinkedIn.

Love it.

I wanted to ask, I guess, first for you, Ken, the year-to-date recurring arrangements set at 54%.

And just doing the math of $3 million for every 1%.

If I multiply 4 times 3, I get to $12 million.

And I wonder if what you're saying is that we should think about taking our full year numbers down slightly to account for, not the 50-50 mix, but what may be closer to a 54-46 mix for the full year.

So I'm going to draw a parallel to something that happened last year, which was currency.

And I think it's always risky for a company to guess where you're going to land at the end of the year when you have something like currency that you can't control.

And unfortunately, we don't force customers to buy a certain way.

So there is some level of variability to that.

So given your -- I mean, your assumption that if we had, say, a 55% or 60% mix to recurring, you're absolutely right that the impact to that would be headwind to revenue.

There's no doubt about it.

We don't know where we're going to land.

We actually kind of hope that we get more recurring arrangements, to be completely honest with you.

But I think it's really hard for us to say anything about the previous guidance given that the fact that we could be guessing one way or the other and then end up with egg on our face.

And I think I draw that correlation to currency as well last year.

So I think all your assumptions are right.

I just don't think we're at a point in July or early August, I should say, to make a really big peg on what -- how mix is going to land.

And I know that makes -- some of this is perhaps a little more challenging for some of the analysts, though.

I mean, it does require some analysis.

That's why we think that looking at the revenue number in concert with the changes in backlog, which we disclosed in such agonizing detail, I mean, we have the most detailed disclosures I know of, by year of what the license and cloud backlog is.

I think when you look at those in concert, the business is doing well and we expect it to continue to do well.

If a little more comes in to term, then -- or subscription or cloud, what's coming from subscription, as Ken said, we think that's all good and will be good for future years.

But I'm not expecting any massive swings.

That seems to be trending a little bit more towards recurring this year though.

And by the way, just one follow-up to that point, Greg.

That's why we show the ACV metric, right?

Because you can actually not only see the backlog change but you can also see the ACV so that you can see how that part of the business, the recurring part, is growing.

And hopefully, that's helpful to kind of connect the dots on the mix issue.

No -- absolutely.

And as you pointed out, term and cloud ACV is up 26% year-over-year so we're -- that's the number we're tracking very closely here.

I just want to be prudent with my full year numbers.

And hopefully, the rest of the community can be prudent with their full year revenue numbers, accounting for the year-to-date recurring arrangements.

One follow-up question.

I guess, Alan, this is specifically for you.

I think whenever the analyst community hears words like -- or terms like retooling of the sales force, it makes our ears -- our hearing improves when we hear those words.

So I was hoping you can expand a little bit on what exactly you mean by that.

Yes, so part of the shift to challenger really involves finding folks who have the ability to expand their skill sets, of which we have many; or being able to bring people on with a different skill set.

One of the things that I'm really excited about is that we are -- and this actually relates to the previous visibility question.

We are seeing -- since the beginning of this year, we have been seeing streams of incredibly talented people from a sales and marketing perspective coming through our doors wanting to work here.

I've actually never seen anything remotely close to that.

I think some of that is actually, frankly, evidence of our improved visibility, just more good salespeople have heard of us but also, frankly, to the fact that we're beating some pretty meaningful players in the field.

We had one Senior Manager for a CRM cloud company, I won't mention the name to be polite, and he said, you're the only guys who beat me.

And he's really interested.

We're seeing a lot of that.

And I don't think it would be correct to take a retooling to comment up in the sort of negative vein.

I think it's really making sure that we're optimizing the team and growing the team and addressing places, and there will be places when you change your methodology, where some folks will find that transition difficult but also bringing in a lot of talent.

And you're going to see us working very hard on that for the remainder of this year.

So it's -- we wouldn't have an ACV that went up like you just noted if we weren't actually being successful selling.

That's great.

And if I can have just one more follow-up for you, Ken.

One thing that really stood out to me is just the cash generation in the quarter and I mean, if you look at first half 2017 compared to first half 2016, meaningful, meaningful improvement in cash flow from operations.

Can you just touch on maybe what specifically happened in Q2?

I think there was a big change in AR.

I would just love some more detail on that.

Well, so, we -- you may remember last year, we talked about we were not happy with where our DSO was in our AR balances last year and we just really have put a full-court press on really trying to manage that in a more active way.

And quite frankly, it may be interesting for the audience to know that we actually implemented a Pega tool in-house to actually help with our collection process.

And so we're just more on top of it.

By the way, I don't think our AR number, where it is now, is actually a number I'm happy with.

So I think there's even more room to try to squeeze out some cash out of our working capital.

So that's kind of my goal.

So that AR number is not where I want it to be, so I think there's even more opportunity to increase some additional operating cash flows through better use -- better leverage of working capital.

So -- but we are happy with where we are, but there's still work to do.

(Operator Instructions) Our next question comes from Mark Schappel with The Benchmark Company.

Ken or Alan, I'll leave this up to either one of you to answer.

But on the professional services front, professional services growth remains exceptionally strong here, it's actually outpacing license growth over the last several quarters.

And I was wondering if one of you could address why that is.

I know you addressed or touched on an initiative that you have going forward to kind of even move that needle a little bit further.

But why are we seeing such good professional services growth over the last couple of quarters here?

Well, our customer base has expanded a lot.

And that creates demand in the market.

And we really are working hard to not compete with our partners.

We really want a vibrant partner ecosystem.

But there are times when a customer really, really wants Pega to be involved and to deliver it.

We've got a couple of very large projects where they really wanted us.

And I'm not thrilled, frankly, with the rate of professional services growth.

I would not expect that as we go forward into additional years, that we would necessarily want to continue at that pace.

But given the importance of some of these clients and the enormously strategic things we're doing, I can actually appreciate why they want to make sure that certain parts of the project are actually delivered by us.

Hopefully, the Pega Service Ventures will create a whole cadre of additional services firms that can either fulfill this need and allow us to grow at a different rate going forward or, frankly, be bought by larger firms as it happened a couple of times.

We've seen Accenture and Ernst & Young buy companies that had 100, 200 person Pega practices and used that to kind of see more of their depth.

So I -- that's not something I think you should view as a long-term trend.

But we decided we were going to support a few clients and I don't regret it.

Great.

And then, Alan, it's been several quarters since you've made an acquisition.

And I know you touched on this a little bit in your prepared remarks.

I have to believe that you continue to be on the lookout for just interesting capabilities and companies.

And with that said, maybe you could just touch on some of the technologies that are grabbing your attention these days that may be of interest to you.

We do look at a number of firms on an ongoing basis.

And we do have an active Corporate Development function.

We're pretty happy with where we are in AI but we're always taking a look at new approaches to machine learning, both because -- to make sure that we know what's going on in the market and it would also potentially leads to us -- being able to bring in some technologies that would be faster.

I think the whole AI space continues to be one where we're going to see a lot of change and a lot of evolution.

So I would say that's kind of higher on the list.

At this time, I would like to turn the call back over to management for closing comments.

So let me thank all the listeners, especially any of you who came to PegaWorld, double the thank you, and to let you guys know that we're doing well and we are excited about what we're going to be able to accomplish this year.

Thank you very much.

Thank you.

This does conclude today's teleconference.

You may disconnect your lines at this time, and thank you for your participation.