CyberArk Software Q1 2023 Earnings Call Transcript

Quartr
Provided by Quartr
May 11, 2023

There are 15 speakers on the call.

Operator

Good morning. My name is Rob, and I will be your conference operator today. At this time, I would like to welcome everyone to the CyberArk First Quarter 2023 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session.

Operator

Thank you. Erica Smith, SVP, Investor Relations and ESG, you may begin your conference.

Speaker 1

Call. Thank you, Rob. Good morning. Thank you for joining us today to review CyberArk's Q1 2023 financial results. With me on the call today are Matt Cohen, our Chief Executive Officer and Josh Siegel, our Chief Financial Officer.

Speaker 1

Call. After prepared remarks, we will open up the call to a question and answer session. Before we begin, let me remind you that certain statements made on the call today may be considered forward looking statements, which reflects management's best judgment based on currently available information. Call. I refer specifically to the discussion of our expectations and beliefs regarding our projected results of operation for the Q2, full year 2023 and beyond.

Speaker 1

Our actual results might differ materially from those projected in these forward looking statements. I direct your attention to the risk factors contained in the company's annual report on Form 20 F filed with the U. S. Securities and Exchange Commission and those referenced in today's press release call that are posted on CyberArk's website. CyberArk expressly disclaims any application or undertaking to release publicly update any updates or revisions to any forward looking statements made today.

Speaker 1

Additionally, non GAAP financial measures will be discussed on this conference call. Reconciliations to the most directly comparable GAAP financial measures are also available in today's press release as well as in an updated investor presentation section that outlines the financial discussion in today's call. We also want to remind you that we provide information for additional color regarding subscription mix bookings, but it should not be viewed as comparable to or a substitute for reported GAAP revenues or other GAAP metrics. Webcast of today's call is also available on our website in the IR section. With that, I'd like to turn the call over to our CEO, Matt Cohen.

Speaker 1

Matt?

Speaker 2

Thanks, Erica, and thanks everyone for joining my first earnings call as CyberArk's CEO. Quarter. Since starting my new role about 6 weeks ago, I have met extensively with our team and with customers and partners from around the world. The support, passion and commitment to our mission is palpable. My meetings reinforce that we have amazing people, an impressive base of customers and partners.

Speaker 2

And we are the only vendor tackling the critical security challenge of applying privileged controls to all human and machine identities through a unified identity security platform. We are adding the mission critical controls that stops attacks from progressing, a requirement in today's threat landscape. Because of our unique value proposition, CyberArk is being prioritized even in today's macroeconomic backdrop. And I am pleased with how we are navigating the current environment. Subscription ARR reached 403,000,000 and grew 84% year over year.

Speaker 2

Total AR reached $604,000,000 and grew 42% year over year. Quarter. Total revenue growth accelerated to 27% and came in at $161,700,000 for the Q1 and call. Our subscription bookings mix reached 95%, an all time high driven by demand for our SaaS solutions and our platform selling motion. Before getting into the details of the quarter, I wanted to talk about the macro environment itself.

Speaker 2

Segment. We are pleased that our SaaS and subscription bookings outperformed the macro assumptions embedded in our Q1 guidance. Call. We did continue to see longer cycles in Q1 and select larger deals downsize, reducing the scope of these initial engagements. Call.

Speaker 2

But we are confident that identity security programs are moving forward because many of those customers are already back in the pipeline and we expect expansion opportunities as we move through the year. The strength of our subscription ARR, our ARR guidance and our ability to maintain our full year revenue guidance despite a material increase in subscription bookings mix speaks to the durability of demand and the prioritization of our Identity security platform. Deals are progressing through the pipeline and we are seeing record pipeline growth across the entire portfolio segment with strong momentum in our access, EPM and secrets business as well as for our Privilege Cloud offering. Quarter. Moving on to the quarter, we will frame the discussion as always around growth, innovation and profitability.

Speaker 2

The persistent secular tailwinds of digital transformation, cloud migration and attacker innovation are only accelerating. AI is a new powerful example of technology that will shape the cyber landscape. With weaponized AI, Organizations become even more vulnerable to attacks that are difficult, if not impossible to detect and assume breach Posture, including implementing privilege controls and least privilege is one of the best ways to protect against these emerging threats. At our impact customer event taking place in just under 2 weeks, you will not only hear about AI as an attack vector, but also how we can leverage AI to make our customers more secure. Recently conducted a survey of 1500 cybersecurity professionals 92% consider identity security as mission critical, but only 9% stated that they had a comprehensive strategy in place.

Speaker 2

There is an enormous gap between the level of identity protection and the maturity of organizations, a massive opportunity for us at CyberArk. We have architected our platform strategy to capitalize on these secular tailwinds and our go to market engine is built to scale CyberArk well beyond our $1,000,000,000 ARR target. Our recent innovations are gaining traction, workforce password management, secure web sessions, Privilege Lifecycle Management, Compliance, Flows, ConjurCloud and Secret Hub all had key wins in the quarter and are contributing to customer excitement. Our land and expand motion begins with new logos and we signed over 200 customers in the Q1. A few key Q1 wins include A major insurance company was struggling to scale and secure its cloud first strategy with a point PAM provider.

Speaker 2

This customer wanted deeper protection and to increase security and control by layering privilege controls across every identity. Our Identity Security platform will be deployed globally, including secure web sessions, Identity Flows, Identity Compliance and of course, Privileged Cloud. For many customers, the AWS marketplace is reducing friction in our sales cycle. In the Q1, a leading healthcare provider leveraged this new route to market by workforce password management as well as Privilege Cloud and secrets management to secure the DevOps pipeline. Regulation, compliance and cyber insurance are broad drivers that contributed to our results, including wins in the banking, Insurance and Healthcare Verticals.

Speaker 2

Early in Q2, we formalized the cyber insurance referral program with a leading company and already we're receiving opportunities in the pipe. In addition to signing marquee customers, we had a strong expansion quarter for SaaS and subscription. Our land and expand motion is accelerating across the Identity security platform and the most visible metric is the over 40% increase in customers with more than $100,000 in annual recurring revenue, which reached 1400 customers at the end of Q1. A few examples include an existing IT software company that purchased identity flows to automate PAM workflows in order to increase efficiency and also expanded its protection with workforce password management to provide peace of mind call by not only managing, but securing employee passwords. A Fortune 100 transportation company who has been a long time PAM customer and began protecting endpoints in the second half of twenty twenty two, cited the threat of weaponized AI and our ability to protect against ransomware as key motivators in a significant Q1 expansion deal.

Speaker 2

The channel is extending our market reach With more feet on the street and momentum is building with partner certifications in CyberArk Identity and now also in Secrets Management. Segment. While still a relatively small contributor to our overall business, MSSPs across APJ, EMEA and Americas are helping us move down market and reach customers who rely on managed services to secure and scale their environments. On the innovation side, we were recognized by KoopengerCole as a leader in privileged access management. Further validation of the strength of our solutions.

Speaker 2

Workforce password management is another example quarter, where we are setting the pace of innovation in Identity Security. In the Q1, we announced that workforce password management used in conjunction with secure web sessions create an industry first way of accessing sensitive applications. The platform effect is accelerating. Today, early access customers are leveraging EPM and Privilege Cloud to discover, review and automatically onboard all local Windows and macOS endpoint privileged accounts. This enhanced capability improves security and lowers risk of credential theft and Privilege Escalation at the Endpoint.

Speaker 2

Josh will cover profitability in just a few moments, but I wanted to reiterate that as we look into 2020 3. We will continue to invest with discipline and leverage each of our operating expense lines this year and beyond. Quarter. Importantly, with our growth, we have the ability to be agile in our investment plans and make adjustments as we move through the year. Call.

Speaker 2

As I've done the round with investors, I've been asked about what I will be changing as CEO. As we talked about in February with Udi, segment. At the highest level, we're not changing the strategy. We have all the ingredients to execute and deliver growth and profitability. Quarter.

Speaker 2

That said, there remains areas where we can improve our execution and drive the next level of performance. One key focus area is harnessing the data that comes with the subscription transition to drive expansion opportunities, boost productivity and deliver operational excellence. This data combined with the same rigorous programmatic execution that allowed us to shift our entire business model in only 5 quarters We'll empower the company to take customer success to the next level, increase our sales and marketing productivity and drive more efficiency Innovation Engine as we enhance our Identity Security platform. A second focus area and one that we are all laser focused on is our role as the leader in Identity security and fully realizing this tremendous opportunity. Consolidation of trust call for identity is underway within our customers.

Speaker 2

Identity is more critical than ever and organizations are increasingly moving towards Trusted Partners that can secure the broadest set of use across identities and environments. With this in mind, we are accelerating our platform selling motion, our new platform services and how we leverage our robust partner ecosystem to extend our reach and drive our growth. Securing all identities, not just managing human access is a requirement at the center of our customers' cybersecurity strategies. And with our approach based on privileged controls, segment. We are best positioned to capture the market.

Speaker 2

We are becoming the platform of choice for customers and driving deep alignment Across the organization, while creating a disciplined execution machine will help ensure we extend our commanding lead and the Adeni security market. In the Q1, we made great progress executing our strategy and we delivered strong results call as we navigated a challenging macro environment. We are executing and on pace to accelerate growth, improve profitability and generate strong cash flow for the year. I will now turn the call over to Josh, who will discuss our financial results in more detail and provide you with our outlook for the Q2. The increase in our full year ARR guidance and what is essentially a guidance raise for the Full 2023 when you look through the subscription bookings mix headwind.

Speaker 2

Josh? Thanks, Matt. Quarter.

Speaker 3

In the Q1, we delivered exceptional ARR growth once again. Annual recurring revenue grew 42%, reaching $604,000,000 at March 31 and the subscription portion reached $403,000,000 that's increasing 84%, representing 67% of our total ARR. We also added $39,000,000 of net new subscription ARR from Q4 2022, which is higher and the sequential increase of the $36,000,000 in the Q1 of last year. Demand for our SaaS offerings drove our subscription bookings mix call up to an all time high of 95% of total bookings, above our guidance framework of 93%. The 95% compares to only 86% in the Q1 of last year.

Speaker 3

The maintenance portion of ARR was $202,000,000 at March 31. The decline in maintenance was due to lower perpetual license sales over the last 2 years as a result of our subscription transition. Quarter. Like for like conversion activity still only represented a single digit percent of our year on year ARR growth. Total revenue was $161,700,000 with growth accelerating to 27% year on year, quarter.

Speaker 3

While our record subscription bookings mix resulted in strong ARR growth, it also lowered our total recognized revenue in the Q1. Normalizing for the higher mix than we assumed in our guidance framework, our recognized revenue would have been at the high end of our guidance range. Like every company, we are also navigating the current macroeconomic environment. As Matt mentioned, longer approved sales cycles persisted quarter. Towards the end of the quarter, select large deals were downsized as customers bought for their immediate needs versus longer term planning, which would have contributed to more upside in our performance.

Speaker 3

For self hosted subscription deals, duration again came in at the lower bound of our range, putting pressure on long term deferred and recognized revenue. While we signed 200 new logos in the quarter, it was a more challenging environment for new customer acquisition, segment, primarily in our corporate or mid market segment. Looking across the metrics, our strong ARR and record pipeline growth illustrate that we are Navigating the current macro environment, customers are moving forward with their identity security programs and that we remain a priority. Moving into the details of the revenue lines for the Q1, subscription revenue reached $92,700,000 growing 78% year on year quarter, representing 57% of total revenue in the Q1. Consistent with our move to our subscription business model, perpetual license revenue did decline coming in at $3,900,000 Our maintenance and professional services revenue was $65,100,000 with $53,200,000 from recurring maintenance and $11,900,000 in services revenue.

Speaker 3

The recurring revenue portion reached $145,900,000 now hitting 90% of total revenue. That's growing 37% year on year from $106,900,000 in the Q1 last year. Geographically, The business continues to be well diversified. America's revenue reached $98,400,000 growing 31% year on year. APJ grew by 28 percent to $16,800,000 and EMEA grew by 18% year on year $46,500,000 in revenue.

Speaker 3

The EMEA region continued to experience some FX headwinds and had a nearly 10 percentage point increase in subscription bookings mix to 93% in the Q1. That's compared to 84% in the Q1 last year, creating a meaningful recognized revenue headwind in the quarter. Call. All line items of the P and L will be discussed on a non GAAP basis. Please see the full GAAP to non GAAP reconciliation in the tables of our press release.

Speaker 3

Quarter. Our first quarter gross profit was $131,500,000 or an 81% gross margin that's compared with 82% gross margin in the Q1 last year quarter as a result of lower perpetual revenue and higher SaaS business. Our operating expenses increased by 24% to $144,100,000 quarter and that resulted in an operating loss of $12,600,000 Net loss was $6,900,000 or $0.17 per diluted share, quarter. While overall profitability continues to be significantly impacted by the mix shift to recurring revenue, our margin profile has begun to improve as we have we planned. We ended March with over 2,860 employees worldwide, including nearly 12.30 in sales and marketing.

Speaker 3

For the 1st 3 months of 2023, free cash flow was $4,000,000 or 3% free cash flow margin. Turning to our guidance. Our guidance for the Q2 and the full year 2023 balances Our strong competitive position, the increased headwind created from our higher than expected subscription bookings mix and the durable demand for our platform against the uncertainty in the macro environment. Call. For the Q2 of 2023, we expect total revenue of $170,000,000 to $175,000,000 which represents 21% year on year growth at the midpoint.

Speaker 3

We expect the subscription mix to be in the mid-ninety percent range and our perpetual license revenue to be similar to the levels we saw in the Q1. Quarter. The mix we are assuming for the Q2 is higher than our initial guidance in February, increasing the headwind quarter to reported revenue. We expect a non GAAP operating loss

Speaker 2

of about

Speaker 3

of $10,500,000 to $6,500,000 for the 2nd quarter and we expect our non GAAP EPS to range from net loss of $0.19 to net loss of $0.09 per basic and diluted shares. Segment. Our guidance also assumes $41,700,000 weighted average basic and diluted shares and about $5,100,000 in taxes. Expectation that it will remain at this level for the rest of the year. We are still maintaining our guidance for total revenue in the range of $724,000,000 to $736,000,000 The subscription bookings mix assumption for the full year is now about 95%, that's compared to prior expectation in the low 90% range.

Speaker 3

Maintaining our revenue guidance for the year at a higher mix is essentially quarter, a meaningful raise of our full year revenue guidance given the more ratable revenue of our SaaS and subscription bookings. We are maintaining our full year operating results to be in the range of an operating loss of $5,000,000 and operating income of $5,000,000 and we are improving our EPS range to a net income per share of $0.16 to $0.38 because of increased interest income for the Q1. We expect about $46,300,000 weighted average diluted shares and about $21,500,000 in taxes for the full year of 2023. On the back of our strong ARR growth and subscription bookings increased in the Q1, we are raising our guidance for annual recurring revenue to quarter. We're now at December 31, 2023 or about a 30% year on year growth at the midpoint of the range.

Speaker 3

Our free cash flow came in at 3% free cash flow margin. As a result of our performance in the Q1, we are revising the guardrails for free cash flow margin for the full year 2023 upward to the range of non GAAP net income margin to 5%, quarter above our non GAAP net income margin. We expect there to be fluctuations between the quarters and in for example, in the second quarter, we have cash expenses from our customer event and other seasonal expenses that will affect our free cash flow. Overall, we were pleased with our execution, particularly in this macro environment. The strength of our demand and prioritization of our identity security platform are evidenced by accelerating revenue growth, strong net subscription ARR, overall ARR growth and record pipeline build.

Speaker 3

With 90% of our revenue now recurring, we have a more resilient business model that is beginning to deliver strong growth, operating leverage and improving cash flows. I will now turn the call over to the operator for Q and A. Operator?

Operator

And your first question comes from the line of Saket Kalia from Barclays. Your line is open.

Speaker 4

Okay. Hey, good morning, guys. Thanks for taking my questions here. Matt, congrats on your 1st 6 weeks as CEO.

Speaker 2

Thanks, Saket. Good to hear from you.

Speaker 4

Yes. Matt, maybe we'll start there since the last couple of months have been interesting to say the least for security. I know you spend a lot of time with customers. So maybe the question is, can we just talk about how the March quarter progressed in terms of linearity and conversations. It's just been such mixed results from other March quarter security companies.

Speaker 4

Curious what you saw just in terms of progression and maybe if you can comment on just anything that you're seeing more recently?

Speaker 2

Yes, sure. I think as we talked about, we're really pleased with the results on the quarter. When we look back into the quarter and try to analyze what's occurring. We continue to see this phenomenon where when we show up and we're having these conversations with customers, We are at the top of the list of conversations they want to have. There's a prioritization process obviously across the entire tech stack, but even within cybersecurity.

Speaker 2

And when we are a mission critical solution for these organizations. And so while macros are on the mind of everybody, When we're having the conversations with the customers, they understand the importance of their investments in these areas. They understand that Actually, this is something they need to be implementing and implementing fast in order to secure in this threat landscape. And overall, we just We do see approval cycles take a little bit longer. One of the things I tell the sales team all the time is, Since we're selling something that's needed, let's make sure that we're going out and actually addressing people who might pop up in the approval cycle.

Speaker 2

Even some of our sponsors Are not always aware of who's going to show up. So we talked to the teams about actually engage with them early, talk about who else might come in and let's go pre brief them in that conversation, make sure they're aware so that when it gets to their approval level, they're able to actually sign off on it. And we see that type of behavior and execution help us throughout the length of the quarter. We also talked for a second there about this kind of downsizing of deals and I I just want to hit that head on. What that kind of looks like is more of a maybe there's a 400 seat expansion deal for Pam.

Speaker 2

And when the customer gets there, they realize that there's 300 seats that they can buy right now, they need right now because identities are proliferating. And maybe there's a 100 seats that they need in the summer. And so they'll buy the 300 now and then they'll push off the 100 to later in the summer. Now we never want to see deals go a little smaller and definitely limit a little bit of our upside, but what that actually opens up for us and as a selling team, it's An exciting fact is a compelling event in the summer to readdress the customer not only now for those 100 seats, but for any other needs that they have. And as a sales team, you're always looking for those moments to kind of open up so that you can go back in.

Speaker 2

So across the board, that's kind of my sense of what's going on. It's a nice place to be, being the type of security company we are even in this tough macro environment.

Speaker 4

Yes, absolutely, Matt, and it shows. Josh, maybe for my follow-up for you, a lot of focus on the financial Services vertical in security this quarter. Can we just talk about how that vertical specifically performed? And Josh, if you could maybe go one level deeper into that exposure because of course not all financial institutions are created equal. Can you just maybe talk about How much of that mix is regional banks versus other types of financial institutions?

Speaker 3

Yes. Thanks, Seth. Actually, I'll start off by saying our financial vertical was up year on year. So And overall, what I would also say is that we actually closed deals in kind of the regional bank level call, even during the end of the end of the quarter. So I think from our perspective, financials is an important vertical for us from the small to the large enterprise.

Speaker 3

Clearly, the majority of our business is going to be coming from mid to large enterprises from the banks. They have a much larger footprint and are going quarter across our entire portfolio. So when we look at our pipeline, it's going to be coming from the larger size of the Financial Enterprises. And I think the other thing that I would say is that as we look into our pipe going forward, We're not seeing any degradation of the financial service financial customer pipeline. And I think on the field, we're not seeing any tapering off of engagement with large financials and with the regional financials as well.

Speaker 2

Very helpful. Thanks guys. Thank you.

Operator

And your next question comes from the line of Roger Boyd from UBS Securities. Your line is open.

Speaker 5

Great. Thank you. Maybe a quarter. Higher level question for Matt. Matt, I'd be curious, I mean, you have tons of opportunities in access and EPM and secrets management.

Speaker 5

But where do you think we are in kind of the PAM adoption curve? And any view on what you're seeing in terms

Speaker 2

of Yes, I think sometimes we get so excited about the newer areas that We forget to talk about the opportunity in PAM. I think that when we are continually excited about, we feel that we're underpenetrated. And the reason for that is that when we started out, there was only a certain type of user that needed a privileged account. And so if you were that type of user within the core Arc to see this notion of any user can become privileged at any time. The business user actually needs Privileged Access Management, a lot of functions outside of core IT needed as well as the developer within our customer base themselves.

Speaker 2

And so when you combine both the room to run-in the customer base as we broaden the circle of users that we can bring under the PAM umbrella And we look out and see both midsize enterprise all the way down to mid market really starting to adopt new and modern PAM approaches. Call. It really speaks to the market opportunity that's ahead of us and our ability as the leader in PAM to go out and capitalize on it.

Speaker 5

Great. Thanks. And Josh, just a quick one on the guide. You raised the full year ARR guide, but I think the deceleration looks a little steeper And we were modeling from the 42% growth in 1Q. Can you just walk us through your assumptions in the macro environment there?

Speaker 5

And any change that you might be seen as a little more conservative versus a quarter ago. Thanks.

Speaker 3

Yes, sure, Roger. We're still keeping consistent on the trends around close rates In light of the macro, with new logos probably potentially being harder and longer approval cycles that Matt was referring to before. And so we're still persisting with that within our guidance. But at the same time, we're seeing record pipeline being generated. And so that's what gave us the confidence.

Speaker 3

That's what gives us the confidence to be able to raise the guide Effectively, not just on the ARR that you pointed out, but by keeping the revenue guide at the same level despite Really increasing the mix of SaaS and subscription by a couple of percentage points.

Operator

And your next question comes from the line of Adam Borg from Stifel. Your line is open.

Speaker 6

Awesome. Thanks so much for taking the questions. Maybe for you, Matt. I know you talked a little bit about this in the script, but would love to hear anything more about the platform motion, how that's progressing and if we'll hear more about that in line at the customer event in a couple of weeks and I have a follow-up.

Speaker 2

Sure, Adam, and thanks for the question. Good to hear from you. So, call. I do get excited about this platform selling motion because I think it represents kind of the maturity or the nature of the market now that we're selling into. We talk a lot about this idea that there is multiple types of identities that need to be secured and multiple types of environments that they're going after And so when you start to think about this idea again of human and machine identities and you think about core PAM users and as well as business users or the general workforce.

Speaker 2

And then you move over into the endpoint and least privilege endpoint and the complexity of protecting all of those identities as they go after not just now on prem infrastructure, but hybrid and cloud infrastructure. Customers are waking up to the fact that you can't plug in multiple point solutions to be able to solve all those problems. They actually want an integrated approach that they can count on to make sure that all identities are secured. And so our entire approach with the platform is meeting that market need, talking to the customers in that context to make sure that actually we can actually do things that those point solutions even when needed together can't do because it's one integrated motion. So As you know, we've been focused on ramping up the sales team and making sure that they can position that.

Speaker 2

Our marketing team is out there messaging that. And I just get really excited by the opportunity of ours to be able to go do that. You heard us use this phrase in the prepared remarks around consolidation of trust. And what we mean by that is that the customer themselves are looking to consolidate their vendors down to partners that they can trust. And we feel like we're well positioned in that environment, well positioned within this identity space to take advantage of that market trend.

Speaker 6

Super helpful. And maybe just as a quick follow-up, you did talk about adding over 200 new logos in the quarter, quarter. A little bit down year on year, to talk about the top of macro and record pipeline. So as I think about 2023, are we really looking at this as more of an upsell year? And if so, call.

Speaker 6

Are we reorienting any go to market efforts back to the base? Thanks again.

Speaker 2

Yes, sure. No problem. When we think about new logos, I want to just paint a couple of different things here. One is, obviously, there is the new logo absolute number. And for sure we saw some pressure there, particularly by the way down market in our mid market space where deals started to slip out a little bit around new logo acquisition.

Speaker 2

But there's some other trends within our customer business, new logo business that I think are important to understand. One is the actual deal size of the logos that we are closing is getting bigger, not smaller. The ability to be able to sell multiple products to those new logos beyond PAM. It continues to trend in the right direction. And overall, the contribution, the net ARR contribution from new logos actually was really strong in the quarter.

Speaker 2

So although the absolute number of new logos and we always want to be planting as many seeds as possible for the future. Although that occurred in the quarter, we actually are pretty happy with the contribution from the new business. And so we don't actually see a need to shift our overall go to market approach. We can go focus on building and planting pipeline for new logos. Even We close this a little bit slower.

Speaker 2

It will come to us eventually at the same time as we can upsell and cross sell within the base. The final thing I'll just say is within our new logo business, within our customer business, our win rates continue to be really strong. So although again the overall number at 200 maybe a little bit less than we would have liked, overall we're quarter. We're actually really happy with the new customer business that we're seeing.

Speaker 6

Excellent. Thanks again.

Operator

And your next question comes from the line of Angie Song from Morgan Stanley. Your line is open.

Speaker 7

Question. Hi, congratulations, Matt, on your 1st few weeks as CEO. And thank you for taking my question. I'm speaking on behalf of Hamzafotterwala here at Morgan Stanley. Call.

Speaker 7

So I guess, Matt, just a question for you. It's been a couple of months since the transition of CEO has been announced. Question. Could you just talk to us about your top three priorities for the company as CyberArk scales beyond that $1,000,000,000 in ARR by around like fiscal year 2025.

Speaker 2

Yes, sure. No, I always love to talk about that. And I think it's been a really fun last 6 weeks or so. I've had the opportunity to kind of travel around the world and go see employees in different locations. I was able to spend my first day as CEO over in our Israel headquarters and meet with our amazing R and D organization and talent there.

Speaker 2

And around each one of those conversations, when I meet with the customers As I visit, it comes back to the same things and that's what sets our priority. Increasingly, again, as I was just talking about, They're looking for a platform provider. They're looking for someone that can secure not just privileged users traditional PAM, But that can actually secure the workforce, secure the human the non human identities, Even more and more secure their cloud environments. And so the first priority for sure is our expansion, continued expansion to own our leadership position in Identity Security. And that really is the anchor point for everything else that we go and look at.

Speaker 2

We have a second focus and it's core to us, which is to get our go to market engine ramped up, fully ramped from a productivity perspective, from a contribution of marketing, from a modern way of doing the sales process, so So that we can take advantage of that market and that becomes a continuation of something that obviously I was working on for several years, but our ability to be able to go do that. And then the third thing and it's important for us because it's fundamental to our DNA is to make sure that we're scaling efficiently through these next couple of years. We want to make sure that we're delivering the right level of profit back into the investor community, to our shareholders. And the best way to do that is to exit this subscription transition fully, Which obviously we're ramping our way through, and get the leverage back into the business so that we're not just growing the top line, We're able to deliver a strong cash flow number into the shareholder base.

Operator

Question. And your next question comes from the line of Rob Owens from Piper Sandler. Your line is open.

Speaker 8

Question. Great. Thanks for taking my question this morning. Just one for me. I want to touch a little bit around the partner ecosystem, the indirect contribution you guys see overall and maybe some of the green shoots and opportunities.

Speaker 8

I know you mentioned AWS Marketplace, but question. Just are you seeing channel shift, expansion through some of these CSPs? Thanks.

Speaker 2

Yes, sure. No, thanks. Great question. And No, I think one of our differentiators in the market is our partner ecosystem. We've always had a strong indirect component to our business.

Speaker 2

We run generally speaking in the upper 70s, sometimes even touching below 80% of business that's run through our partner ecosystem. And as you kind of mentioned, we've seen an increasing kind of shift in how those partners are going to market. 1, They're following suit with us. They're leading with SaaS. They're able to actually get outside of PAM and actually embracing access and secrets management.

Speaker 2

So they're bringing the full CyberArk story to market, but we also see newer types of partners emerge. And we did mention the AWS marketplace, which is a great way to kind of lubricate the sales process and actually partake of what one might call found money In this macroeconomic environment because they already have purchased those AWS credits that they can use. But we also see, as I highlighted in the prepared remarks, the emergence of the MSP or MSSP program. And I think that actually is taking on 2 flavors. 1, it allows us to go down market more effectively.

Speaker 2

But we see even in the enterprise space that more and more IT organizations and security organizations really do not want to be in the business of managing their solution stack. And so they're looking to even bigger SIs, telcos, to actually one off managed service their security environment and we have great partnerships as many of you know with the biggest SIs, we've built up the telco program and we have the MSPs. So as that market starts to mature and accelerate, we can take advantage of it. Now it's a minimal part of the overall business at the moment, but it's one of the areas that we're exceptionally excited about as we move forward. Thanks.

Operator

Question. And your next question comes from the line of Tal Liani from Bank of America. Your line is open.

Speaker 9

Hi guys. Hi, Tal. Hello. I have two questions. One is, we hosted Microsoft on Friday and we see them in more and more and more markets in cybersecurity, extremely successful business.

Speaker 9

And I'm wondering how do you see Microsoft, if at all, in the market and how is competition against them? And the second question is for Josh. Great success on revenues, great Sustainability and Stability, but margins are still negative. What's the outlook for margins?

Speaker 2

Great. I'll take the first one, Josh. So Microsoft, as you said, is a formidable software organization and they've built up a strong cybersecurity core within their overall approach. They've been frankly in a kind of coopetition motion with us for a very long time. They're a good partner in a lot of ways.

Speaker 2

And sometimes we see them show up within our customer base. What we've seen though is that the minute The conversation kind of turns to core security like real security. For example, PAM, There really isn't a choice that comes up between Microsoft versus CyberArk. The CISOs, the CIOs, they understand That to do PAM right, to do core security right, they actually need the type of depth of solution that only CyberArk can provide. I think we also see them kind of emerge in other areas of the business though.

Speaker 2

We took the fight to them, if you will, when we entered into access. And for basic MFA and single sign on, I think there's a very credible force out there. And as you've heard us talk about quarter. When we're competing in the access market versus Microsoft or Okta for that matter, our differentiation again is The applicability of privileged controls or deeper security to even the commoditized MFA or SSO market. And what that means is solutions like Secure Web Sessions or Workforce Password Management that become the security bodyguards that can sit against a single sign on our MFA solution where there's comparability between their solution and ours.

Speaker 2

You even saw them lately enter in and kind of validate the EPM or the endpoint privilege management market. Actually, to be honest, that's kind of thrilling for me because the biggest problem we have on EPM is not customers once they understand it, wanting to buy our solution, it's getting customers to be aware to begin with that they need the solution. And Microsoft Entering into a market like that is actually wonderful news for publicity. When we get into deep conversation about features and functions and capabilities, I think our solutions come out on top. And so that's my view on the Microsoft landscape.

Speaker 2

Again, I'm very respectful of them and I think they kind of help the market overall. Call. But we feel pretty confident when we're head to head against them.

Speaker 3

And, Tal, to your second question, so We're pleased that we're following our playbook, right, through the transition and which kind of drove quarter. The shift in our margins negative through last year. We're excited that this year we're already now that we're post transition quarter. Getting our 1st year back for improvement to breakeven for our guidance. And then we anticipate to continue to expand that gross margin next year, 2024 and further into 2025.

Speaker 3

So we're on the right track for continuing following our playbook post transition, getting the benefit of the accelerated revenue on the top line. And then as Matt pointed out earlier in one The earlier answers, we are totally focused on making sure that we think about scaling efficiently. And that's going to drive those expansions of the margins already this year that you're seeing in the guide and then next year and going forward.

Speaker 10

Call. Got it. Thank you.

Operator

Your next question comes from the line of Eric Heath from KeyBanc Capital Markets. Your line is open.

Speaker 11

Hey, guys. Hey, Matt. Hey, Josh. Congrats on a strong quarter here. Josh, so again, just to continue the conversation on the margins, couple of things.

Speaker 11

I mean, it's great to see the maintenance of the margin just given the increased mix shift to the ratable side of the business. But curious, one, just bigger picture, does any change in your thoughts on the pace of investments for this year, just given some of the macro and any change to your hiring plans on number 1? Call to that. Just I think you changed your kind of guidance a little bit on the free cash flow. Just that it should be 5 points ahead of net income margin where I think it was previously kind of in line with net income margin.

Speaker 11

So just curious the change there given some of the what seems like duration pressure that is

Speaker 2

question. Sure, sure, Eric. I'll take the first part here, and as it relates to the hiring plan. And I think we continue to calibrate our investment versus the opportunity. And we talked about it at the last earnings call, which is this year we would see a little bit less overall headcount percentage increase versus what maybe we saw in 2022 and that was because we were taking into account both the macro backdrop and also our need to drive leverage back into the business.

Speaker 2

And I think we continue to see that play out. We added roughly 95 heads in Q1 and we will look towards the rest of the year and continue to make strategic investments in go to market where we feel like there's opportunity to go capture and then throughout the rest of the company to round out our ability to be able to, for and we'll deliver on the Identity security platform vision, drive and support the scaling of the overall operations. So I think we're measured in our headcount hiring. We're consistent with what we were talking about. And our belief is going forward, this is a lever that we can pull in any direction that we need to.

Speaker 2

So we're very agile in our approach, and we'll make the decisions really quarter by quarter. Should we accelerate more? Should we cut back a little less? And that's the beauty of the model that we're operating under.

Speaker 3

Yes, Eric. And with regard to the cash flow, first call. We're pleased that we're able to come in already now in the second quarter and start to go up on our cash flow margin guidance to as you pointed out, net income margin to net income plus net income margin plus 5% on a non GAAP basis. And I really think it's we have more visibility than we did 3 months ago. And Q1 tracked well and I think it's a reflection of 1 where Q1 ended up, but also as we look at the guide And we look at our pipeline going forward and our success with renewals and our expectations there, call.

Speaker 3

We feel comfortable that we'll be even in a better place on cash flow than we said 3 months ago.

Speaker 11

Great. Thank you both.

Operator

Your next question comes from the line of Brian Essex from JPMorgan. Your line is open.

Speaker 10

Hi, good morning and thank you for taking the question. I guess maybe for Matt, what might be helpful is onset of the pandemic, We saw a pretty meaningful pause in spend and we saw downsizing, deal phasing, shorter contract durations. Could you maybe compare and contrast what you're seeing now versus what you're seeing then? I recall it right after that we had like SolarWinds on Log4j and everyone kind of like trued up, realized the value of PAM and kind of trued up the deals and you saw reacceleration. But how does the, I guess recognition of the critical nature of PAM and the process of approval and coverage inside customer base.

Speaker 10

How do things differ now compared to when we saw that pause a few years ago?

Speaker 2

Yes. As we look back on the Q1 and out towards the year ahead, we just We don't see that pause in business. We see our ability to be able to generate record pipeline. We see our ability to be able to go out and be at the top of the list of priority at our customers. We see the conversations continuing to progress, as we've been talking about and I do think I pull it back to where you hit, which is we are in a different place in terms of our portfolio, our solutions and the maturity of the market and an understanding of the critical nature of the solutions that we sell.

Speaker 2

The recognition of what it really means to secure identities and the importance of identity in the attack vector is in protecting against the attack vector, It's just tremendously better. It's a good position to be in. And I think we show up now with a broad base of solutions platform to sell and it Lends itself to better customer conversations and a better market backdrop despite, obviously, obviously Your macro is being on everybody's mind.

Speaker 10

Right, right. That makes sense. And maybe we could just circle back to one of the comments made on feed expansion. Question. Any impact this quarter or recently from headcount reductions in your customer base and how they might be thinking about rationalizing our labor footprint and how that might impact your business?

Speaker 2

No, we're lucky from that perspective, As I said that the notion of privileged accounts and privileged identities proliferate regardless. And so when you look at customers that may or may not be in difficult economic situations in certain verticals or industries. I don't think there's a correlation between their decision on headcount and what they need to buy from CyberArk. So that's not one of the things that we worry too much about.

Speaker 10

Great. That's helpful color. Thank you.

Operator

Your next question comes from the line of Jonathan Richaver from Cantor Fitzgerald. Your line is open.

Speaker 12

Good morning. Thank you. So in the past, company has emphasized the sales motion for Adaptive or Access is largely installed based adoption. So the question of those organizations have an existing IAM solution. So how do you see that?

Speaker 12

How much of that might be greenfield? And then also if you could also just touch on the go to market strategy given the 2 large and successful incumbents within that market already.

Speaker 2

Yes, sure. So I think as we talk about the access business for us continues to accelerate in a nice way and become a more meaningful piece of our overall business. And I think that when you look within the customer base, It is somewhat surprising to people how many customers are either completely on legacy solutions More often than not actually have multiple solutions throughout different divisions, through acquisition, through other kind of vendor sprawl that's happened within their organizations on the access side. And so we do feel like there is this rich opportunity within our customer base to rip and replace legacy solutions, obviously competing against those 2 more significant competitors in that space, but not having to replace those competitors in that space in order to be able to win. From time to time, we're in a conversation about a replacement for sure.

Speaker 2

But it really is the opportunity here to go in and rip and replace on those solutions. I also want to emphasize the notion and it will connect to your point of how we differentiate or compete that our solutions in that portfolio, for example, secure web sessions can sit on top of any IDP. And so even if there is an embedded Microsoft account, we can go in and still talk to them about our overall Identity Security story and we can talk to them about how they can still take advantage of a more secure way of doing single sign on and connect it back to privilege controls and back to the overall Identity security platform. And so that becomes our special sauce when we're differentiating. It's not my SSO is better than your SSO.

Speaker 2

It's my identity security platform with strong SSO and MFA can

Speaker 11

to keep

Speaker 2

you more secure than their SSO MFA. And again, that's becoming more and more of our talk track. Our teams becoming more and more comfortable with that talk track and that will be what drives the growth going forward as we continue to increase our position in that space. Again, as you said, 2 very formidable competitors directly in the access space.

Operator

Your next question comes from the line of Hany Khutari from Baird. Your line is open.

Speaker 13

Hey, this is Hany Khutari from Baird. Thanks for taking my question. Congrats on the Q1, Matt. So one for you and one quick follow-up for Josh. Matt, you mentioned about AI that that's shaping the cyber landscape and weaponized AI in particular with organizations becoming more vulnerable to attacks that are difficult to detect.

Speaker 13

You gave an example of a customer, the Fortune 100 transportation company who cited the threat and was a key motivator in the Basenity. Can you talk a little bit more about AI as a driver this past quarter? And in terms of the pipeline, what do you see in terms of the opportunity ahead? And then one quick follow-up for Joshua.

Speaker 2

Yes. I think in any market, there are things that help to educate the market Sometimes through fear that gets the market more ready and understanding of new solutions that they need. And I think AI because it's captivated so much attention helps with that from a market perspective. Call. For sure, we and we're going to talk about it at our impact event, which hopefully many of you will join.

Speaker 2

We're going to talk about this idea of what does a weaponized AI look like and what is the attack path and what can you do about it. But the reason why we're emphasizing it It's not because right now the notion of weaponized AI is the single most important attack path for organizations, but what it does is it wakes Organizations up to the notion that detecting threat is not enough. We actually need to control the threat. And the only way to be able to do that in some cases is by controlling or securing identities. And so I'll give an example here, which is at the endpoint, And this is what the customer that you were referring to was talking about.

Speaker 2

At the endpoint, you would be silly to not have an EDR installed. Let's be clear, we believe in it. If our own IT department was installing a new environment, they're going to put an EDR of some sort on the location. But if you can get around that EDR or more significantly, if you can turn off that EDR because there's local privilege controls and local admin controls sitting at that endpoint, then that EDR is relatively useless and AI is a way that you can weaponize that approach and figure out your attack path to be able to get in, get credentials and actually turn off the EDR itself so that no longer can detect. Our EPM solution removes the ability to be able to make changes on the local endpoint, on the local desktop, on the local server.

Speaker 2

And by doing that, you're actually ensuring your investment in your EDR system because you're now going to make sure that it's there, it's available to do what it does really well, Which is detect and respond. And so the AI concept is more of a concept at this point in time, although we'll talk through some more details. What it does is it wakes organizations up, it shakes them and says assume breach, assume that they're going to get in. Now what do you do to control? And that's where CyberArk comes in because we're all about security and control.

Operator

Your next question comes from the line of Andrew Nowinski from Wells Fargo. Your line is open. Great.

Speaker 14

Thank you for squeezing me in. So I just wanted to kind of go back to gross margin. It was slightly better than expected. Do you think an increase and discounting might have prevented some of the downsizing of deals. And is that a tool you would consider using, to get some of these deals over the finish line throughout the course of the summer?

Speaker 3

Andrew, hi. I don't think that our I I think you're referring kind of to our pricing with regard to the gross margin?

Speaker 11

Yes. I mean, I just yes,

Speaker 14

I mean, if the deals were round size. I'm just wondering if you could have offered any better, more aggressive pricing on it to help get the full deal size.

Speaker 3

I'll let Matt take that in a second. I think from our perspective, gross margin, we would not have seen that as necessarily the tactic. I'll let Matt talk on the pricing.

Speaker 2

Yes. Listen, I think that we're operating in a tough macro environment and we're always price conscious across the board and we're understanding with our customers when budget is a core concern and we're working with those customers to make sure that we can fit within their budget while we're getting as a partner or as a vendor our value. We continue to see good pricing even in this environment. By the way, we see good pricing on our renewals within this environment. And ultimately, we don't want to Force or Giveaway seats.

Speaker 2

If we feel confident that those seats are still going to come our way just a month or 2 months or 5 months later, Certainly, for certain customers, you're trying to get them to buy in and you're trying to get them to take their first bite. And when that happens, you're aggressive or you work with them on price, but overall, I'm pretty confident in how we approach the market from a pricing perspective. We're flexible when we need to be. But at the end of the day, we're actually creating a business for the long run and we want to make sure that We're delivering value and then we're receiving the right level of value back in the deals that we sell.

Operator

Call. And we have reached the end of our Q and A session. I will now turn the call back over to CEO, Matt Cohen for some final closing remarks.

Speaker 2

Thanks. So I want to thank our employees for their hard work and commitment and our customers and partners for their continued support. As I said, it's been a wonderful 6 weeks so far. We're looking forward to seeing many of you, hopefully all of you, over a week from now at customer impact event where we're going to be able to talk about the latest and greatest of our identity security platform and update everybody on the latest and greatest of the company. So until then, Thanks for the call today.

Speaker 2

Take care.

Operator

This concludes today's conference call. Thank you for your participation.

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Earnings Conference Call
CyberArk Software Q1 2023
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