Commvault Systems, Inc. (CVLT) Q1 2019 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Q1 2019 Commvault Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference maybe recorded. I would now like to introduce your host for today's conference, Michael Picariello, Director of Investor Relations. Sir, you may begin.

Good morning. Thanks for dialing in today for our fiscal first quarter 2019 earnings call. With me on the call are Bob Hammer, Chairman, President and Chief Executive Officer; Al Bunte, Chief Operating Officer; and Brian Carolan, Chief Financial Officer. Before we begin, I'd like to remind everyone that statements made during this call, including in the question-and-answer session at the end of the call, may include forward-looking statements, including statements regarding financial projections and future performance. All of these statements that relate to our beliefs, plans, expectations or intentions regarding the future are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and are based on our current expectations. Actual results may differ materially due to a number of risks and uncertainties, such as competitive factors, difficulties and delays inherent in the development, manufacturing, marketing and sale of software products and related services and general economic conditions. For a discussion of these and other risks and uncertainties affecting our business, please see the risk factors contained in our annual report on Form 10-K and in our most recent quarterly report in Form 10-Q and in our other SEC filings and in the cautionary statement contained in our press release and on our website. The company undertakes no responsibility to update the information in this conference call under any circumstance. In addition, the development and timing of any product release as well as any of its features or functionality remain at our sole discretion. Our earnings press release was issued over the wire services earlier today and it also has been furnished to the SEC as an 8-K filing. The press release is also available on our Investor Relations website. On this conference call, we will provide non-GAAP financial results. The reconciliation between the non-GAAP and GAAP measures can be found in Table IV accompanying the press release and posted on our website. Commvault adopted the new revenue standard ASC 606 in April 1, 2017. Our adoption was done on a retrospective basis, so all prior periods in our financial statements have been adjusted to comply with the new rules. As a result, the results in growth percentages we will discuss today are on a comparable basis using the new rules. All references to software revenues are inclusive of the dollar amounts or percentages for both software and products revenue as disclosed in our P&L. This conference call is also being recorded for replay and is being webcast. An archive of today's webcast will be available on our website following the call. I will now turn the call over to our CEO and President, Bob Hammer.

Thanks, Mike. Good morning everyone. On today’s call, we will discuss our fiscal first quarter results and provide updates on our operational initiatives called Commvault Advance, our new simplified product offerings, our two new recent board appointments and comments on our ongoing CEO search. Let me now briefly summarize our Q1 financial results. Software and product revenues were flat year-over-year. Total revenues were up 6% year-over-year, EBIT margin was 12.9%, up 338 basis points year-over-year. EBIT or operating income was up 44% year-over-year. EPS was $0.36 per share versus $0.21 in the prior year. We had several highlights in the quarter including we were able to overachieve our Q1 2019 operating margin objectives due to a reduction in costs across all functional areas that we implemented within the framework of our Commvault Advance initiative. We continue to make excellent progress with a subscription based pricing models, which represented approximately 34% of our Q1 software and products revenues, up 44% of the prior year Q1. For the quarter we had an all time number of subscription deals. We had good services revenues growth of 11% year-over-year. We had continuing good momentum and managing data in the cloud with customers putting over 280 terabytes into the cloud which is approximately 2.5x over the prior year. Operating cash flows to $24.8 million, up 24% year-over-year. During the quarter, we repurchased approximately $25 million or approximately 366,000 shares of our common stock. We currently have approximately 88 million authorized and available for ongoing repurchases through the end of our FY 2019 fiscal year. During the quarter, we announced a new global partnership with IBM Resiliency Services. IBM Resiliency Services will offer software both as a solution and as a managed service. Let me now update you on Commvault Advance. As a reminder, Commvault Advance is a company-wide transformational game plan that was developed last fiscal year. Commvault Advance covers three primary objectives: simplifying the business, driving improved more consistent revenue growth and improving profitability. We have executed Phase I of Commvault Advance making substantial changes to products, messaging, pricing and distribution as well as making substantial cost reductions. Let's review the progress we made with Commvault Advance in Q1 2019. One, we overachieved our Q1 2019 operating margin objectives due to a reduction in costs across all functional areas including a major restructuring of our sales and distribution functions. And as mentioned earlier, operating margins were up 330 basis points year-over-year. We completed a major overhaul of our core data protection solutions through simplification of our products, pricing and messaging under the Commvault Complete brand. Commvault Complete is a convergence an upgrade of 20 separate SKUs reduced to six. Commvault Complete is the most powerful, simplified solution in the industry. I'll talk more about Commvault Complete later on in the call including new enhancements aided by artificial intelligence and machine learning. We dramatically simplified our quoting and ordering processes. We improved sales and distribution, organizational structures and partner led routes to market turn Q1 2019 and early Q2 2019. And we shifted a material portion of our sales and marketing resources to supporting our channel and strategic partners from direct sales. This effort is specifically targeted to improve our position in the midmarket while it'll also enhance our position in the enterprise. We are strengthening our position with key partners and strategic alliance partners with addition of IBM Resiliency Services and in addition to bolstering our partnerships with Cisco, HP, Microsoft and AWS. We expect by the end of the quarter to announce some additional broadening of our existing alliances. Under the direction of our board's operating committee, we engaged a leading third-party consulting firm and we have made substantial progress in implementing our Commvault Advance initiatives. The entire executive team is engaged and aligned with these initiatives. We still have much work to do to translate what we have done into better, more predictable revenue growth and in addition, we are now working to deliver additional improvements in operating margins with Phase II cost reductions and pricing enhancements. Let me briefly update you on the search for our new CEO. The CEO search committee of our board has retained a leading search firm in May who have been identifying and actively interviewing candidates. We have no further updates at this time nor a timetable of an announcement. Together with the executive team, I am personally involved with this process and I am fully supportive of finding a leader to ensure a smooth transition and make sure we continue to drive Commvault's future success Let me also update you on recent changes to the Board of Directors. We announced last week, the appointment of Martha Bejar and Charles "Chuck" Moran to the company's Board of Directors. Martha and Chuck will succeed Bob Kurimsky and Armando Geday. Martha and Chuck bring strong operational skills, deep technology industry expertise and significant leadership experience to the board. With addition of Martha and Chuck we are confident our board will be well positioned to oversee the company's ongoing initiatives and strategic transformation plan to accelerate growth and profitability as we continue to drive shareholder value. I would like to thank Bob and Armando for the years of service and many contributions to Commvault. I will now address our FY’19 outlook. We expect second quarter total revenue to be approximately $179 million or up 6% year-over-year. Total FY’19 revenues are expected to be in the range of $745 million to $750 million or up 7% year-over-year. These updated revenue estimates for a total revenue are the result of current FX headwinds as well as being more prudent with our revenue outlook as we continue to transform the business with our Commvault Advance initiatives. We expect Q2 EBIT margin percentage to be approximately 13.4 % and the full year FY’19 EBIT margin percentage to be approximately 14.7%, which is 380 basis point improvement over the prior year. Brian will provide detailed color on the Q2 2019 and FY’19 outlook. Our growth for FY’19 is primarily based upon the success of our Commvault HyperScale Appliance and HyperScale Software Solutions, cloud migration and management. Success for the Commvault Data Platform to gain share and large enterprise, accounts for the journey to the cloud and solutions to help customers mitigate and recover from cyberattack with highly automated artificial intelligence and machine learning aided data protection, disaster recovery and intrusion detection and mediation. Three, becoming a leading foundation for governance, data analytics and as an optimized data source for business analytics. And finally, dramatically improving our growth in the midmarket by offering much more support to our channel and strategic partners, implying with the introduction of new simplified product offerings and pricing including our appliances in Commvault Complete, which was released earlier this month and as we see very positive initial feedback. I'll talk more about the simplified offerings later on in the call. While our strategic fundamentals are strong and our ability to execute has improved, we still face critical challenges. It is important to note that Commvault Advance is a major transformation and restructuring effort. We are making fundamental changes to the business, which carries risk tide to its disruption and execution. As we have discussed for many quarters, we are currently reliant upon a steady inflow of large six and seven figure deals, which come with additional risk due to their complexity and timing. While we also need to improve our close rates on these deals, large deal closure rates will likely remain lumpy, particularly in the near term. While we are happy with the progress we are making with subscription pricing, it has negatively impacted near-term license revenue growth. This transition will continue to have a dampening effect on revenue. We are on the path to improving the sustainable financial performance on the company. We have been making good progress with our Commvault Advance framework across all aspects of the company by strengthening our competitive technology position, broadening our product line, expanding distribution relationships, reorganizing sales and marketing and driving cost reduction and efficiencies. As we go through Phase I to Phase II at Commvault Advance, we remain focused on maintaining our technological leadership position in the industry. We do not expect these operational initiatives to have an adverse impact on our product development strategy. We are focused on making the necessary adjustments to our business and with the intent of achieving our 20% margin objective while also putting us on a path to sustainable long-term revenue growth. I will now turn the call over to Brian. Brian?

Thanks, Bob and good morning, everyone. I will now cover some financial highlights for the first quarter of fiscal 2019. Q1 total revenues were $176.2 million, representing an increase of 6% over the prior-year period. On a sequential constant currency basis, total revenue would have been approximately $1.9 million higher using prior quarter FX rates. We reported Q1 software and products revenue of $75.1 million, which was flat year-over-year. On a sequential constant currency basis, software and products revenue would have been approximately $1.4 million higher using prior quarter FX rates. Our subscription pricing models are continuing to resonate with customers. Subscription-based pricing represented approximately 34% of software and products revenue in Q1. Software and products revenue from such subscription-based models are up 44% year-over-year. This consists of both committed and often multi-year subscription sales as well as pay-as-you-go utility type arrangements. As a reminder, under ASC 606, we are generally required to recognize the full amount of the software and products revenue from a committed subscription arrangement in a period of sale and not over time as was generally the case under legacy revenue recognition rules. Utility arrangements, on the other hand, generally continued to be recognized over time as they are not committed. We expect our subscription pricing models as a percentage of total full year software and products revenue to increase from 25% in FY2018 to approximately 35% in FY2019. This is up from our prior estimate of 30% that we communicated on our last earnings call. When you combine our subscription-based license sales with our other repeatable services revenue streams such as maintenance, managed services and SaaS, we would consider approximately 66% of our Q1 total revenue to be repeatable in nature. Our repeatable revenue was up 17% year-over-year. We are on track to achieve our goal of 70-plus percent repeatable revenue within the next one to two years. Revenue from enterprise deals, which we defined as deals over $100,000 in software and product revenue in a given quarter, represented 59% of such revenue. Revenue from these transactions was down 6% year-over-year. The number of enterprise revenue transactions increased 46% year-over-year. Our average enterprise deal size was approximately $243,000 during the quarter. Deals with less than $100,000 in software and product revenue were up 11% over the prior year. From a geographic perspective, Americas, EMEA and APAC represented 56%, 29% and 15% of software revenue respectively for the quarter. On a year-over-year growth basis, the Americas was up 5% and EMEA and APAC were down 7% and 1% respectively. The revenue mix for the quarter was split 43% software and products and 57% services. Total services revenue for Q1 was approximately $101 million, an increase of 11% year-over-year and flat sequentially. On a sequential constant currency basis, services revenue would have been approximately $500,000 higher using prior quarter FX rates. Maintenance revenue, which is the vast majority of our services revenue, is being impacted by some existing customers transitioning to subscription licensing models. In certain situations, we have offered existing customers an opportunity to transition their legacy perpetual licenses and related annual maintenance support renewal to a new multi-year committed subscription agreement. In these particular subscription transition agreements, it does result in software and products revenue being recognized in period versus being allocated entirely to maintenance and recognized over time. We've heard from many of our enterprise customers that consumption-based pricing such as a subscription arrangement is very high on their list of prerequisites for a data management solution. The initial customer reception to these subscription transitions was better than we originally anticipated during fiscal Q1. However, it is our expectation that such transitions will decline sequentially during the remainder of the fiscal year. We are being thoughtful and strategic in determining, which existing customers should be eligible for transition to subscription-based models. And we will only do so when we think the transition makes sense for both the customer and Commvault. We believe that over the long term, transitioning our existing customers to subscription-licensing models aligns with current market demands and also makes it easier for customers to get more value from their Commvault solutions. This also supports our continued move to more repeatable software and products revenue streams, which we've been discussing for several quarters now. Now moving on to gross margins, operating expenses and EBIT margin. Gross margins were 84.8% for the quarter. The cost of third-party royalties related to our HyperScale software solutions and the cost of hardware related to our HyperScale appliances is included in the cost of software and products revenue. As sales of these solutions and appliances continue to ramp, our gross margin percentage will decline. Total non-GAAP operating expenses were approximately $124 million for the quarter, down approximately 2% year-over-year and 6% sequentially. We ended the quarter with 2,679 employees, down 6% or 160 employees from the beginning of the quarter. As noted on our last earnings call in April, during fiscal Q1, FY 2019, we initiated a restructuring plan to increase efficiency in our sales, marketing and distribution functions as well as to reduce cost across all functional areas. In connection with this restructuring, we incurred $7.9 million of charges related to severance and related costs associated with headcount reductions. We also incurred $3.5 million of costs related to non-routine shareholder matters. These costs are for professional fees related to the settlement agreement with Elliott Management and third-party operational consultant fees associated with the same such settlement agreement. We have excluded these costs from our non-GAAP results. Operating margins were 12.9% for the quarter resulting in operating income or EBIT of approximately $22.8 million. Net income for the quarter was $17.3 million and EPS was $0.36 based on a diluted, weighted average share count of approximately 47.7 million shares. As a reminder, during the quarter, we lowered our pro forma income tax rate from 37% to 27%. We believe that as a result of U.S. tax reform, 27% will align to our long-term GAAP and cash tax rates. We anticipate that we will use a 27% pro forma income tax rate for FY 2019 and beyond. Let me now talk about the Q2 2019 and full year FY 2019 outlook. As Bob previously stated, we expect second quarter total revenue to be approximately $179 million or up 6% year-over-year. Total FY 2019 revenues are expected to be in the range of $745 million to $750 million, or up 7% year-over-year. While the vast majority of the elements of Commvault Advance are in place, there is a certain element of transformational risk associated with the execution of such initiatives, particularly in the near term. We expect acceleration of top line software revenues in the second half of FY 2019, driven by our key initiatives such as HyperScale or Appliance, our alliance partnerships, advanced DR and simpler packaging and pricing like Commvault Complete. These top line drivers combined with improved distribution efficiency and leverage with channel partners and service providers will help drive EBIT margin expansion particularly in the second half of the fiscal year. We've also made excellent progress with right sizing our cost structure and are actively working with our third-party operational consultants to identify additional areas of operational efficiencies both in the near and long-term, which we believe will drive higher operating margins for FY 2019 and beyond. I will address our operating margin expectations in a few moments. We expect that Q2 software and products revenue will be approximately $78 million, up 8% over the prior year. This is slightly above current street consensus estimates despite the recent strengthening of the U.S. dollar. We expect services revenue will be flat sequentially in Q2. As previously stated, near-term sequential services revenue growth is being impacted by some existing customers transitioning their annual maintenance support cost to new committed subscription software licensing arrangements at a better than anticipated rate. As communicated on our last earnings call, we are implementing our Commvault Advance initiatives to position the company for long-term sustainable growth with improved operating margins. Our stated objective was to achieve Q4 2019 EBIT margin of approximately 16% to 17% and to achieve sustainable 20-plus percent operating margin in the second half of FY 2020. We believe that we are still on a trajectory to achieve or surpass these goals. We’ve made good progress on the first phase of rightsizing our cost structure in Q1, tied to reducing our overall headcount by approximately 6% in the quarter, which is higher than our original expectation of a 4% cost of workforce reduction. These cost reductions and efficiencies combined with our Commvault Advance initiatives including the realignment of sales and marketing personnel in support of routes to market and product pricing and packaging changes are designed to drive immediate and long-term improvements in salesforce productivity and the company’s go-to-market programs. Our objective is to do this in a manner that will not impact our software growth objectives, but will provide operating margin leverage in FY 2019. As previously stated, we are actively engaged with a leading outside consultant. Based on the work performed to date, our consultants have helped us validate our Commvault Advance strategy through deep metrics analysis, benchmarking and industry insights. We’re continuing to work with our consultants to identify additional opportunities for revenue growth and operating efficiencies. We’ll have further updates on our progress during our October 2018 earnings call. We now expect the Q2 EBIT margin percentage to be approximately 13.4% and the full year FY 2019 EBIT margin percentage to be approximately 14.7%, which is a 380 basis point improvement over the prior year. This 380 basis point year-over-year improvement in operating margins is an increase from our prior expectations of a 200 basis point improvement as communicated on our last earnings call. As a reminder, our margin expectations include the impact of hardware, integrated with our Commvault HyperScale Appliance offering and third-party software royalties related to our HyperScale software that will adversely impact our anticipated FY 2019 gross margin percentage by approximately 100 basis points and our EBIT margin percentage by approximately 10 basis points to 20 basis points. We anticipate that our diluted, weighted average share count for full year FY 2019 will be approximately 48.5 million to 49 million shares. Now moving on to our balance sheet and cash flows. As of June 30, our cash and short-term investments balance was approximately $462 million, of which approximately 43% is located outside the U.S. We are actively working with our tax consultants to identify opportunities to repatriate a portion of our foreign cash balances in a cost-efficient manner and in accordance with both U.S. and foreign tax regulations. We expect to have an update during our October earnings call. During Q1 2019, we repurchased approximately $25 million or approximately 366,000 shares of our common stock at an average cost of $68.35 per share. We currently have approximately $88 million remaining under our share repurchase program through March 31, 2019. Free cash flow, which we define as cash flow from operations, less capital expenditures, was approximately $23.1 million, which was up 25% year-over-year. As of June 30, 2018, our deferred revenue balance was approximately $322 million, which is an increase of 10% over the prior year period. All of our deferred revenue is services revenue that has been invoiced to customers. We expect Q2, sequential deferred revenue growth to increase in the low-single digit percentage range. After considering current FX rates, we now expect full year fiscal 2019 deferred revenue growth to be in the mid-single digits. For the quarter, our day sales outstanding or DSO was 83 days, which is up from 75 days from the prior year and 77 days sequentially. Our Q1 DSO of 83 days includes an approximately 10 day unfavorable impact related to our unbilled accounts receivable. During Q1, our unbilled receivable balance was flat from March 31 or approximately $14.4 million. The vast majority of this balance represents committed subscription revenue that has been recognized but will be paid over time. That concludes my prepared remarks, and I will now turn the call back over to Bob. Bob?

Thank you, Brian. I will now spend a few minutes on the announcement from last week regarding our new simplified offerings. Two key components of Commvault Advance transformation center on: first, the simplification of our business and second, driving product packaging and pricing changes designed to help accelerate our top line growth. Last week’s announcement address both of these imperatives. We very favorable key [indiscernible] of customers, industry analysts and partners. They applauded the fact that we radically simplified our products to four powerful -- powerfully simple offerings and aligning with key simplification trends in the market. These four offerings redefine converged data management for companies of all sizes, they are: Commvault complete backup and recovery, Commvault HyperScale Software and appliances, converged data protection combined with scale-out storage. Commvault orchestrate fully automated disaster recovery [indiscernible] and data migration and Commvault Activate, which is designed to help customers discover and extract new business insights from data under management to better make governance requirements like GDPR, deliver the right data to analytics engines for business analysis and efficiency, efficient discovery, classification, reporting and actioning. Customers will be able to comply with privacy regulations by detecting and acting on data risk and using data insights to drive file efficiencies and accountability and to reveal and extend the value of data across the enterprise. We have simplified the usability of our product with new or powerful modern user interface and dash boarding, which automates more than 600 functions. This interface enables customers to have a dramatically improved user experience, for example, users can dial-in an outcome like a recovery SLA and our software will figure out the best way deliver that SLA whether we use on-premise or cloud infrastructure. Combined with a new product packaging, these pricing and licensing options mean Commvault products are easier than ever before for customers to buy and for partners to sell. Please note that all of these products are built on a foundation of a Commvault Data Platform. Our products now include new artificial intelligence capabilities, for example, Commvault Software can analyze patterns and performance and if operations need to be altered or reprioritized, the software will dynamically and auto optimize and auto tune operations. Lastly, let’s not lose sight of our competitive advantage in the cloud. Commvault Solutions seamlessly work with more than 40-plus cloud offerings and we continue to be the leading data protection offering, delivering workloads to the cloud, in particular AWS and Azure. Our ability to enable customers to rapidly move workloads to, from and between clouds while protecting the data is a competitive advantage and remains a key driver of the Commvault business. Now Commvault has once again set the high bar in this market with simply powerful solutions that are easy to buy, install and manage. Those that helps customers to avoid the pitfalls of deploying multiple point products, that side of data, a much more expensive to manage and hinder companies from easily recovering from a cyberattack or meeting increased data regulatory requirements. I want to spend a few minutes on Commvault Complete. Commvault Complete is a fully converged data protection and data management solution. It can be delivered as software or on our appliances or with our HyperScale Software defined secondary storage infrastructure. It’s no accident that we use the name Complete. With one product, we have once again redefined what true backup and recovery is for progressive enterprises. The offering naturally includes backup services for file, applications, databases, virtual machines, cloud environments, mailboxes and endpoints, with traditional and modern infrastructure support for on-premise public clouds and SaaS, and now has been extended to include features that were previously available as optional add-ons. Those include Commvault and Telesnap for snapshot management, hardware replication support, reporting synchronization of virtual machines across locations and file sharing. Within Commvault Complete, all Backup & Recovery, administration and management features are essentially available in one easy-to-use user interface. With broad coverage and a rich feature set, Commvault is more different -- differentiated than any other competitive offering available today, enabling partners and customers to obtain the best possible data protection all within one product. And in contrast, all other competitors must use add-on products or use third-party solutions to match Commvault Complete eliminates complexity by having one powerful simplified product versus multiple-point products and multiple silos of disconnected data. Commvault Complete meets the needs of the most demanding enterprise in one product that is simple to procure, implement and manage. In closing, back in May when we unveiled our Commvault Advance transformational plan, I committed that most of the strategic programs would be well underway by mid-summer. I am pleased to report we are making solid progress. We are significantly more competitive in our positioning, pricing and packaging and that sets us up well for the overall goal of Commvault Advance, which is improved and sustainable financial performance. Our first quarter earnings results are also good validation that we are making rapid progress in improving our operating margins. We are executing a plan to get the company back to sustainable 20-plus operating margins. This plan assumes lower near-term revenue growth rates as we execute through our advanced initiative. However, we believe it will enable us to build a foundation for higher long-term sustained revenue growth. Our core strategy, business opportunity and technology position remains solid. We have the strategic assets that we need to take advantage of these opportunities. In summary, we are making good progress across all aspects of the company to improve near-term financial performance by driving cost reductions and efficiencies, particularly in sales and marketing. We are also strengthening our competitive technology position, simplifying our products and pricing, and enhancing and expanding distribution. I will now turn the call over to Michael.

Thanks, Bob. Operator, can we please open up the line for questions?

Thank you. [Operator Instructions] Our first question comes from Joel Fishbein with BTIG. Your line is now open.

Good morning, gentlemen. Bob, I have one for you and Brian I just have a quick clarification. Bob, all the things – I really appreciate all the detail on the new offerings, I just wanted to get an update from you on what the current competitive environment looks like, particularly, with some of these Next Gen guys that seem to be growing pretty fast and how you guys are positioned over the midterm and then long-term to deal with that? And then Brian, I just – real quick, I just wanted to just get a clarification on the EBITDA margin guidance for what you had given before and then what you’re giving for 2019 again, because, I think you said, EBIT margins are going down, but operating rates are going up and I just wanted to clarify what you’re referring to there. That’d be really helpful. Thanks.

Brian why don’t you hit the EBIT margin? I think he got that backwards.

Yes. Joel, it’s Brian. Thanks for your question. I think on the prior earnings call, we were expecting a 200 basis point year-over-year improvement for the full year operating margins. We’re now increasing that to a 380 basis point improvement year-over-year.

Great. Thank you so much.

And in regard to the competitive positioning, clearly the guys like Rubrik and Cohesity are making good solid gains in the market. On the flip side of that, we’ve been working this on – this is a year’s plus worth of work, Joel, and what we’re seeing is we’re seeing a really solid uptick in our appliance sales and competing with companies like that who have a much more narrow solution than we have. We’re seeing some that are announced, some really major distribution partners. Now moving Commvault into the first strategic position and as far as their distribution initiatives so we’re seeing good commitment from distribution. We put a lot more focus in resources on distribution. Our appliances, Commvault Complete, the simplification of the product’s quoting, our simplified messaging is resonating out there and I think it’s a reasonable expectation. Once we get through all this restructuring this quarter that we have enough in place in product, new distribution partnerships, strengthening of existing partnerships to start to see a really good solid turn in – on the top line as well on a much more efficient lower-cost operating cost base. So this Commvault Advance initiative, we basically started quite a long time ago. All the pieces are on the table. All the chips are on the table now. It is now – this is just pure execution. I think we’re well – it was machine learning and AI, some things we’re doing. Technically, we’re going to start taking the pole position relative to these new upstarts, technologically. And now we’re swinging hard on strengthening the distribution. So right now internally, we’re going to sale as many, this is all opportunity, it’s just how high up is that because the elements are in place now.

Great. Thank you so much.

Thank you. And our next question comes from Andrew Nowinski with Piper Jaffray. Your line is now open.

All right, thanks. Maybe just a quick follow-up on the guidance and competition here. I appreciate the need to be more prudent given the changes you’re making, but your guidance suggests about 7% total revenue growth and I know you acknowledged Rubrik until he’s scared making progress, but Veeam just reported 20% growth in the June quarter and it’s at a similar scale now as Commvault. So is he making inroads in the enterprise space that you compete in? And could they be pressure on your revenue growth?

I think all those companies put pressure on us. And that's why we need much more of the distribution, which we're getting. We don't lose to being head to head if we are there. We lose – any of these competitors is when we're not there and we don't have the reach is when these competitors are picking up market share. But now that we have all the elements, I mean the simplified products, pricing, technological leadership and we've been really working hard on really strengthening our whole distribution. I think we're – we're really confident on where we are as a company to drive both top and bottom line, but keep in mind for everybody on the call, this transformation we're going through is massive. In fact, every aspect of this company and we've been putting this together for several quarters now. So when you're in that middle and you're moving hundreds of people around to different functions and different roles within the company and you're expanding your partnership engagement, you go through a period of disruption and we're just being prudent on that until all of this comes together. But fundamentally, we feel we put a plan together and we're executing that plan and we feel really good about it.

Okay, Bob. And then just as a quick clarification, as subscriptions increase as a percentage of your total revenue, what's the impact to your services and maintenance revenue? I guess, are the maintenance plans for subscription-based solutions less than what you're charging for perpetual and therefore creating any sort of headwind for growth in your services line?

Yes, Andy, it's Brian here. Yes we've been communicating that for a few quarters now, it's that, on a like-for-like basis, now when we do a subscription arrangement compared to a traditional perpetual, there is a pricing delta there of about 20%. So it does create a near-term headwind, especially on the software line of what we think is about $2.5 million to $3 million of in-period recognizable software and products revenue and then the maintenance is attached to that and gets recognized over the life of the arrangement as well.

Thank you. And our next question comes from Jason Ader with William Blair. Your line is now open.

Thanks, guys. I have one for Brian, one for Bob. Brian, just so I understand the mechanics, when you move an existing customer that's on perpetual to a multi-year subscription, are you saying it boosts near-term software but reduces deferred because of the rateable maintenance amount is now lower? Is that the idea?

Yes, that is the idea. So first of all, just to spend a minute on this, I mean, we are being thoughtful and strategic here. So we're trying to identify the customers that it makes sense to do this for. From the customer's perspective, they're getting more value from their annual spend with Commvault and also makes it easier for them to expand their footprint with us as well with an updated licensing approach and also pricing. And from our perspective, we are actually getting a multi-year commitment from these customers, this ends up being generally a three-year new arrangement with the customer. So we're kind of entering into more of a long-term arrangement with them. And it also just aligns with our continued move to more repeatable revenue. So to answer your question, yes, this does accelerate the revenue to in-period software and products revenue and attached to that is three year's worth of maintenance revenue that goes into deferred revenue and gets recognized over the life of the arrangement. So there is a resulting impact of a lowering of deferred revenue over time. It actually increases it in the near term because you're selling a three-year commitment and then it'll get recognized over time.

And is there a difference in the annual spend for that specific customer?

There is, on a like-to-like basis, all things being equal, it would be lower. But there is not a one-size-fits-all answer to that question. There are certain arrangements where we're going into and customers use this as an opportunity to kind of increase their footprint and there is an up-sell opportunity to certain customers.

Okay. So you get less revenue annually but you get more of a multi-year commitment, that's the trade off?

Correct.

I think what he's saying, Jason, is, yes, but there are some circumstances where there's a new up-sell component to that revenue stream that wasn't there before.

Okay. And then Brian, what was the dollar impact on software in the in-period in Q1?

So for our traditional subscription sales, this is kind of the maintenance side here in terms of subscription transitions associated with perpetual customers, it was about a $2.7 million headwind of in-period recognizable software and products revenue.

So that was from the shift to subscription, but was the positive impact from the shift where you move a perpetual customer to a subscription?

Yes, we're not saying that, we didn't disclose that number.

Okay. But it sounds like it was – I mean the fact that you pointed it out it sounds like it was not insignificant.

Correct. It was not insignificant.

Okay, all right. I think I get that. And then for Bob, you talked about HyperScale and some of the progress you're making there, can you give us any metrics in terms of number of customers or anything beyond just the qualitative commentary?

No, I will just say that if we look at top-line acceleration, a combination of HyperScale and appliances going out for the next three quarters, we’ll have a significant impact to our top-line growth.

It’s not material yet then [ph], is that fair to say?

Well, the answer would be no. If we do not include the drag because it drags additional software with it, typically, in those deals, so as a stand-alone appliance sale or HyperScale question, the answer is not material yet.

Okay. Thanks guys. Good luck.

Thank you. And our next question comes from Alex Kurtz with KeyBanc Capital. Your line is now open.

Thanks guys. Couple of quick questions here. Just to follow up on Jason’s revenue impact question. So Brian, the $2.7 million is consistent with the $4 million number you gave for the March quarter. Is that the apples-to-apple number?

Yes, it is.

Okay. And when we think about the change to the annual guidance from the prior guidance, can you help bridge us there, like how much FX, how much is the subscription impact on an annualized basis? Is there a simple way to get from point A to point B on the change in the revenue guidance?

Yes. I think it’s about half-and-half between FX having the headwind as well as the – our continued move to these subscription transitions is the other half.

Okay. So there is no demand kind of impact or change to the Fiscal 2019 guide, per se?

No.

Okay. And Bob, just on HyperScale, I think in the past there’s been discussions that this, maybe just from The Street, but this could be a kind of a $100 million plus business over time just given – it’s an appliance sale and you’re in the market and there is obviously demand for this kind of product as we’ve seen adoption from other providers. Is that still the goal over the next 36 months that this could be $100 million kind of franchise inside the business? Or is it just too early to say?

No, no, that would be a reasonable expectation. Could be better that would be in…

And Bob, just last question for me, thanks for that. From the outside looking and when we hear about changes to the sales organization, it just seems like it’s been kind of recurring discussion with the company in the last couple of years. What’s different now? Or what you guys thinking about doing differently now as you go through kind of the refocusing on the distribution, the sales org?

Well, I think if – as you look at the company from the – probably we’ll – we are primarily enterprise-focused company with, I call it some midmarket products. And this strategy that started probably year and half ago was to have a lot more balanced approach to it. So it first started with things like HyperScale and appliances but we knew we had a really simplified platform itself and as we’re adding functionality, we had to simplify its UI and its user experience, which we’ve done by the way. Significantly done. So once you have that, now you can align the pricing, messaging, and functionality to route-to-market and the mid-market, so we put that in place. And now you have to support that mid-market distribution and the addition of all these strategic partners that we’ve added for the enterprise, so round numbers, particularly in the Americas, we’re moving 40% of the resources to support that strategy, all at once, that’s disruptive, but it’s a significant change for the way we’ve operated the company over the last 20 years. And every salesman in this week and if there – everybody is here and the support for this is really strong and the feedback from partners is – it’s about time you guys did all this. So it’s fundamentally different to anything we’ve ever done before, and we’re just being a little prudent on our guidance here as we’ve gone through pretty significant disruption. And so it’s not just structural changes, it’s leadership changes within that whole distribution chain, all the structure that we’re making here. So it’s a – we feel really good about it in terms of, again this was a strategy that we’ve been working on for probably at least 18 months. And now it’s here and it’s all on the table. And if you just start talking to our channel partners over the next quarter and I think you’ll find a different reaction from what they’re seeing from Commvault in terms, so again, it’s the product simplification, the pricing simplification, messaging simplification, all with best-in-class products, and all of the things we do better than anybody else including our support and now driven with a much stronger distribution base. And Al, you want to jump in?

I think the only other thing I would add Bob is we’ve done a lot of improvements to process and making it easier to do business with us. So for instance, our quoting system has been dramatically improved with a very – a much better response time than we historically were dealing out there. How we can figure products, how we can figure solutions, all of those things have been again very much improved.

I appreciate guys. Thank you. Thanks Al.

Thank you. Our next question comes from Aaron Rakers with Wells Fargo. Your line is now open.

Yeah. Thanks. A couple of questions as well. Just going back on the operational alignment efforts, it sounds like last quarter; your plan was to have that 40% transition of your headcount to partner-facing engagements, it’s kind of completed by the July timeframe. So update there and in addition to that, it looks like you overachieved your headcount reductions by about two percentage points. I’m just curious of how or what you’ve seen and how you’re managing any kind of unwanted attrition? And I have a quick follow-up.

So, Aaron, we’re right on target with what we said. Those four changes are I’d say probably 98% complete. There’ll be a few other things we’re doing, but essentially that is done and particularly, the biggest change has occurred in the Americas by the way. And regarding attrition, when you make change, Aaron, you’re going to have some attrition. And we’re just going to have to manage it. So far, it’s been manageable, Aaron. We’ve just got to get through this next quarter or so and settle things down. But the changes we’re making our compelling and are being really well-received by our internal sales teams, distribution teams as well as our customers, I think you’ll find that if you do some due diligence out there.

Okay. And just kind of following on that path, it sounds like from the commentary that there is a Phase II to be thought of and I can appreciate that, that will be outlined maybe on this next quarterly conference call. But when I look at the EBIT guidance that you’ve provided and on the top of the outperformance that you saw this last quarter, it appears like you’re still guiding to that 16% to 17% operating margin range exiting the year. So, I’m kind of – just to push on you a little bit, with another phase of operational realignment efforts to come, why could we not be thinking that, that’s a conservative bar? And how should I think about the next leg of possible operational realignment efforts?

I think you’re thinking exactly correctly, it’s just execution. I think if you think about rightsizing whatever you want, we’re really coming out of early Q1, that was an extremely big step and really sets us up for the rest of the year. If you put some additional on top of that, I think some of the prior comments you heard from us in terms of what’s possible that if we could potentially overachieve it, the key that – I’m sure on the cost reduction side, we’re going to do quite well. And now with all of the things we put in place on sales and distribution and product is now – we don’t have to turn that up very much and you’ll see some pretty dramatic improvement of the company. But now, it’s – this is a – right now, it’s just pure execution. All the – as I mentioned, all the pieces are on the board now, the big ones, it’s – now it’s up to us to execute through that efficiently and I think we may surprise some people.

Okay. Final quick thing, IBM relationship obviously new, when does that start to matter?

Well, it’s on the ground now and we’ve been pretty conservative internally on what that looks like, it could be substantial, but I wouldn’t read it at this point, read a lot into that yet. I can tell you on some of the other things we’ve been doing. We’re really starting to see some momentum increase. And of some other partnerships we haven’t talked about so that are starting to tick up in the market that we’ll be able to talk about in next earnings call. So in summary from a distribution standpoint, I think we are feeling really good about those strategic partnerships and there are a number of major partners in the VAR community, who are moving to Commvault, moving us into the number one position, which is going to be – provide additional help for us.

Okay. Thank you.

Thank you. And our next question comes from John DiFucci with Jefferies. Your line is now open.

Thank you. I have a question for Brian and then maybe, a follow-up for Bob. So, Brian, you had I think, four questions on this topic and this is going to be the fifth, I think. And it has to be with this transition you called for maintenance to subscription and I guess the first part of that is, when you use the word transition, when I first took it to mean that existing maintenance customers, who are transitioning to subscription, but I’m not quite sure if that’s what you mean or just mean new business, you’re seeing more subscription purchases versus license plus maintenance? I guess if you could just clarify that, what you’re talking about?

Hi, John, its Brian. Now just to be clear here, this is existing customers transitioning their annual maintenance support cost with Commvault to a new multi-year committed subscription arrangement, which includes a modern software licensing arrangement with modern subscription-based pricing and attached to that is a multi-year maintenance contract on top of that.

Okay. So it just seems odd to me that, that kind of a transition as existing maintenance moving it to subscription and I understand you're implying, you're talking about ASC 606, where you're going to have to recognize some of it upfront as license, I get all that. But it just seems odd that when you gave guidance, you sort of implied that subscriptions not going to grow, it's going to be flat because of this transition, which implies that subscription pricing is less than maintenance pricing. Is that accurate?

No. It's not accurate, what I communicated is that we expect our repeatable revenue streams to increase from this point and we also said that the subscription portion of our software and products revenue was going to increase from 25% in FY18 to 35% in FY19 and that's up from our prior estimate of 30% that I communicated on our last earnings call.

So this should have – this transition should have a positive impact on this subscription line, which includes maintenance, the services line should have a positive impact so this should be higher than it would have been otherwise if you didn't have this transition?

It should have a positive impact on in-period software and products revenue with respect to maintenance, it'll be at the – maintenance is different, right? We're converting some of this maintenance to…

Understand. You know what? Now I get it.

No problem I'm glad you asked the question just for clarification.

Okay, so now there's going to be just a redistribution, some of what was in maintenance now, because it's subscription, some of it will go up in product and license line and some of it will remain, I got that. Sorry about that. Second question for Bob, this channel focus and we talked to the channel people in the field, I think a lot of the guys asking questions on the call due to – and it's, what we've heard is this, one, it's sort of a redistribution of people, sort of direct sales people and given your results lately that haven't seen a lot of success are now focused on the channel, and I just wonder how you expect that to work? Because it sometimes requires a different skill set and if they weren't all that successful in direct selling, I'm not sure why you're going to see success when they're focused on the channel?

That's a really good question. So the answer is, in distribution, one of the weaknesses of the company was our complexity. So you had this big platform, which is awesome and particularly in the enterprise, we're just starting to swing by the way to the capabilities we have on that platform to deal with cyber, to deal with regulatory, to deal with analytics so that helps you. But when you get into the midmarket having a complex product like this even if you simplify a SKU has proven difficult for us. So we had to pull all that into a much more simplified offering, and it took us two years to rewrite, these are experience for the UI for example. It's a strength of ours but that's all done. So now we could take something like complete, which is – I think you'll talk to the channel partner, which clearly is the best and fast product in the market, now you put a simplified message and pricing on it, and to Al's point, and it'll provide really quick quotes et cetera, tie that to our support, cloud, capability and everything else. So now you have channel partners where this is a product that they can easily sell and now you put resource on it to help drive that – help those channel partners to sell it. I think it's a reasonable expectation that the majority of those moves that we made will work and to your point there may be some that won't, but we'll sort that out really quickly.

Okay. Thanks. Listen, I don’t think anyone would argue that Commvault still world class product and has a compelling vision, but it seems anyway and I don’t to blame sales, but it does seem that's where the execution is sort of fallen in the past and I just – it's just hard to.

Well, for everybody, let me just clarify. There are pockets of this company where sales execution has been poor. So you can blame sales but once you have your products and distribution in place, there's no place to go now. So there are lots of sales teams like our sales teams are all across EMEA that execute quarter after quarter in spite of some of our weakness and now you add these additional strengths and that's just only going to get better. APAC is doing pretty well. There are teams in the Americas who've consistently done well and there are some that hadn't. And that's an execution issue, and you're right. It's a completely separate issue and we're addressing it.

Okay. And then listen, I let you go, I've talked enough but you just said EMEA and that

I know, but I’m just underneath, it does allow to do.

Thank you, overtime. Okay. Thank you.

Thank you. And our next question comes from Eric Martinuzzi with Lake Street. Your line is now open.

Hey, I've got a question on the buyback intent here. It looks like the $25 million you purchased in Q1 that, that kind of tied out, and I don't know if it’s by accident, but kind of tied out to the cash flow of the business. Was that just kind of coincidental? Or is that what the thinking is you've got, I think you said, $88 million outstanding between here and the end of FY 2019, it’s a question around the intend near repurchase plan.

I think if you – we've always had an opportunistic strategy on the buybacks, but within the framework of keeping the company solution-neutral tied to options and RSUs. And we've been doing that for several years and what we did last quarter is pretty consistent with that prior policy.

Where we are now in the quarter, we finished with the share count of 45.5 million. And I think you guided to the year 45.5 to 46 million for the fiscal year, so that would not suggest a lot repurchasing I guess or maybe I'm not thinking about the option grants.

Yes, we don't forecast repurchases into that guidance.

Okay. Thanks.

Thank you.

And our next question comes from Srini Nandury with Summit Insights Group. Your line is open.

All right. Thank you for taking my question. Bob, I just want to go back to the subscription pricing a little bit. Can you provide some color why Commvault is not rolling out subscription pricing to all new and existing customers? When you say you roll out the subscription pricing to selected customers when it makes sense for you and for your customer, what does that mean?

All new quotes from the subscription. Now I'll let Brian take it.

Srini, there is two different paths here. So for new customers, new generally lead with subscription-based pricing period. What we're referring to on the call was and I was very clear, existing customers with perpetual annual maintenance support contracts were more strategic and very specific and thoughtful with those customers and it's just a sub-portion of our existing customer base that we're targeting. All right. Thank you.

This concludes today’s Q&A session. Ladies and gentlemen, thank you for participating in today’s conference. This does conclude the program. You may all disconnect. Everyone have a great day.