Standing by. My name is Yasmeen, your Chorus Call operator. Welcome and thank you for joining SAP's Third Quarter Results 2016 Conference Call. For joining us today. Throughout today's recorded presentation, all participants will be in a listen only mode.
The presentation will be followed by a question and answer session. For your questions. I would now like to turn the conference over to Mr. Stephan Grober. Please go ahead.
Yes, thank you. Good morning or good afternoon. This is Stephan Grober, Head of Investor Relations. Thank you for joining us to discuss our results for the Q3 2016. I'm joined by our CEO, Bill McDermott and Luka Mucic, our CFO, We'll both make opening remarks on the call today.
Also joining us for Q and A are Board members Rob Entlin, who runs Global Customer Operations for joining us today. Bernd Leuchold, who leads Products and Innovation and Steve Singh, Head of SAP Business Networks and Applications. Before we get started, as usual, I would like to say a few words about forward looking statements. Any statements made during this call that are not historical facts are forward looking statements as defined in the U. S.
Private Securities Litigation Reform Act of 1995. Words such as anticipate, believe, estimate, expect, for your time. Forecast, may, plan, project, predict, should, outlook and will and similar expressions as they relate to SEP are intended to identify such forward looking statements. SAP undertakes no obligation to publicly update or revise any forward looking statements. All forward looking statements are subject to various risks and uncertainties for your time.
That could cause actual results to differ materially from expectations. The factors that could affect SEP's future financial results are discussed more fully for participating in the SEC on March 29, 2016. Participants of this call are cautioned not to place undue reliance on these forward looking statements, We speak only as of their dates. I would like to note that we would like to welcome you back to our Annual Capital Markets Day again in New York City on February 9, for 2017. Invitations for this event will be sent out shortly.
And finally, please keep in mind that unless for your time. Otherwise noted, all financial numbers referred to on this conference call are non IFRS and growth rates are non IFRS at constant currency Unless otherwise noted. With that, I would like to turn the call over to our CEO, Bill Macdonald.
Thank you very much, Stefan, and hello, everyone. Today, SAP is reporting very strong Q3 results, and we are raising our outlook for the full year.
For your time.
We delivered solid top line growth in the quarter. In the cloud, we were up 29% in Q3 and up 32% year to date. In software license revenue, a solid 2% increase. In cloud and software, we were up 9% in Q3 and 8% year to date. All metrics are tracking to the upper end of the outlook we set at the beginning of the year.
We also delivered a solid bottom line performance. Non IFRS operating profit was up 1%, And this is impressive when you consider the comparison against our 15% growth in Q3 of 2015. On a year to date basis, operating profit is up 5%, also tracking to the upper end of our initial full year outlook. For your questions. Also consider the following.
We hired 2,500 people in Q3, which was our biggest hiring quarter this year. For your time. We made investments in co innovation with strategic, replicable customers to drive sustainable growth. And on the IFRS operating profit side, our rising share price caused a nearly €300,000,000 effect I'd like to think of this as the happy cost of doing business. And on a year to date basis, IFRS profit is up 25%.
The bottom line is this, we're growing in every region of the world. Our growth drivers are performing on all cylinders. Our pipeline is strong for the Q4, and all of these factors led us to confidently raise our full year outlook For both the top and bottom line, allow me please to give you some additional color on the momentum of SAP. Our digital core S4HANA is amazing. We see continued strong momentum with more than 4,100 S4HANA customers.
This is up 400 in the quarter, of which more than 40% were net new to SAP. Since announcing S4HANA last year, more than 10% of our ERP customer base has already signed on, And this represents the fastest adoption of any SAP solution at scale in our company's history. Our value assurance program is resonating very well. It delivers every customer a clear migration roadmap and helps them realize the full potential of S4HANA. All global service partners, including Accenture, Capgemini, Deloitte, for your time.
Ernst and Young, Fujitsu, HP Enterprise, IBM, Infosys, Itelligence, PwC and Wipro have embraced The SAP value assurance approach are trained, certified and rolling out big time opportunities for our company. Together with SAP's digital business services, the SAP partner ecosystem is committed to making every S-four implementation In Q3, companies of all sizes like ChemChina, Shanghai XPT Technology And Azure IT Solutions chose S4HANA to be the backbone of their digital strategy. Swiss Re has gone live with S4HANA in the quarter as well. Significantly, S4HANA is also catalyzing broad customer adoption 1st, human capital management with SAP SuccessFactors. SAP is the only company that delivers total workforce management solutions across for the call.
Permanent and contingent labor with SuccessFactors and Fieldglass. Our solutions are now localized To root out all bias in the workplace, while at the same time promoting diversity and inclusion, We now have more than 1350 Employee Central customers and we're on a roll. PepsiCo, as one example, is one of SAP's largest customers. They are live on Employee Central now for your time. We are expected to go live in early 2017, which will bring the total to over 250,000 employees On employee central.
That's right. We know it scales. Cintas Corporation selected SAP SuccessFactors over Workday. They expect a much higher level of employee service to significantly drive self-service so they can push down cost. Cintas will also be available to make strategic decisions in real time, which will give them a live business advantage.
This ability is unmatched in the industry. I'm also very pleased to announce that Microsoft has selected SAP over competition, And SuccessFactors is the solution of choice because Employee Central did more for them on a global scale than any other Under Sassy and Nadella's strong leadership, Microsoft expects to deliver an enhanced employee experience consistent With their cloud and mobile first philosophy, they will better attract and retain talent, foster higher employee engagement and drive improved business outcomes. This is only the latest step in our signature global partnership with Microsoft. As you heard at SAPPHIRE, SAP and Microsoft are collaborating more closely than ever on HANA, Azure, Microsoft Office and SAP Cloud Applications. We're really proud of our growing partnership with Microsoft.
Industry analysts are now validating SAP cloud applications in this highly competitive human capital management market. Gartner's own words speak for themselves. The results of Gartner's months long evaluation found SAP SuccessFactors with the highest rankings in cloud HCM So if you move now to SAP Fieldglass, we have demand for our best in class flexible labor solutions Ever increasing. With now over 2,800,000 workers, we placed them in over 130 countries in the past 12 months alone. CPFL Energia chose Fieldglass to globally manage their external workforce.
Let's talk cloud and customer engagement and commerce. Moving to the front office, SAP is the only company that can connect the demand and supply chains end to end for your time. Across any channel, any device in any industry, SAP's hybrid solution serves both B2C and B2B for your time. Across a wide range of industries, including retail, telco, financial services, public sector and manufacturing. Customers like Tata Chemicals, Swiss Rail and others have recognized this distinct advantage.
Our SAP Hybris customer engagement solutions saw high double digit year over year customer growth in the Q3. Now for cloud and business networks. Moving to business networks, SAP's network businesses are leading their respective markets by a very, very large margin. Ariba continues to scale as the world's largest procurement network with 2,400,000 companies Transacting over US840 billion dollars annually. Leading global companies like Shell have selected Ariba.
For your time. Concur helps more than 44,000,000 end users effortlessly process travel and expenses. Philip Morris recently chose Concur. On the platform side, let's talk about the HANA Cloud Platform As a platform for innovation, HANA Cloud Platform is at the heart of the Internet of Things. This revolution is just getting started.
The opportunity is estimated to reach €250,000,000,000 by 2020. SAP HANA Cloud Platform connects everything, Devices, sensors and machines. SAP is making a $2,000,000,000 investment in IoT over the next 5 years to meet the ever increasing demand for IoT solutions. We're also accelerating innovation across the IoT stack With our 2 new tuck in acquisitions, FedM and PlatOne. FedM replaces the need for physical inspection with a digital inspection.
With Flat One, we can deploy and manage complex IoT capabilities in the HANA Cloud platform. We will for your time. Planned locations include Berlin, Johannesburg, Munich, Palo Alto, Sao Leopoldo and Shanghai.
For your time.
With SAP IoT Technology, customers like Trenitalia and new strategic partners like Bosch are connecting vehicles, for your time. Manufacturing machinery and tools to transform asset management with live insight from sensors. For joining us. Stara S. A, a leader in agricultural machinery, headquartered in Brazil, expanded their SAP footprint by choosing SAP HANA Cloud Platform and our IoT solutions to grow their business.
This will help farmers monitor crop activities Through sensors and their equipment in real time, they will have better control over their operations, avoid waste and achieve a greater level of productivity. Finally, SAP HANA Enterprise Cloud continues to offer customers a secure and fast option to migrate their mission critical processes to the cloud. We are the cloud company powered by HANA. In summary, The power of SAP is that our technology helps the world run better and improve people's lives. We have committed our people and our products to address the biggest economic, societal and environmental issues of our time.
SAP customers are achieving great things in areas such as chronic disease prevention, humanitarian relief, digital government and energy efficiency. That's one reason SAP has been named the number 1 in the Dow Jones Sustainability Index for the software industry for the 10th year in a row. For your time. We have incredible momentum, ladies and gentlemen, as we go into the year end push. We're raising our full year outlook, And this should be interpreted as a very, very clear statement that SAP is a growth company that will continue to be the business software market leader, for your time.
Without a doubt. Finally, as always, I would like to recognize SAP's nearly 83,000 employees and their continuing dedication to our customers. Now I'm very happy to turn the call over to our Chief Financial Officer, for my friend, Luka Muchic. Luka, over to you.
Yes. Thanks very much, Bill. Hello, everybody, from my side as well. Bill just talked about how our employees and our technology help the world run better and improve people's lives. And as SAP's Board sponsor for sustainability, I absolutely share his enthusiasm that the Dow Jones Sustainability Index has awarded us the top spot for a decade running now and clearly recognizes us for our long standing commitment to acting and thinking in an integrated fashion.
In my role as a CFO, I'm convinced that running a company with an integrated approach enables us to make better decisions as we simply have deeper insights in how to drive business outcomes. As a knowledge company, it is critical for us to steer the company with non financial KPIs Like employee engagement and others. The management team at SAP is committed to integrated thinking, which makes SAP at the end stronger and more resilient. Our holistic approach is fundamental to achieving our goals and realizing our vision. Now before going into a more detailed discussion of our financial results, It's worth for me repeating that year to date we are tracking to the upper end of all outlook metrics set at the beginning of the year as Bill alluded to already.
One of those key revenue metrics is cloud. Cloud has become a major part of our business and already accounts for almost 15% of our total revenue today. Our revenue growth rates in cloud have been around 30% or more for almost 4 years now, growing 32% year to date. With this, We are currently growing faster than the CAGR needed to reach our 2020 ambitions. Looking at new cloud bookings, Which fuel our future committed cloud revenue growth, they are also in line with our underlying assumptions for our midterm growth ambitions and increased this quarter by 24%.
This is a strong result considering that last year Concur's fiscal year still ended on September 30th. Going forward, we see a very sound pipeline for Q4 and we actually expect an accelerating bookings performance in our cloud business as well. With our cloud backlog and bookings performance on top of our existing cloud revenue base, we are on track to deliver on our midterm growth ambitions in the cloud. For your time. We are achieving these very consistent results in our fast growth cloud business, while our industry leading software license business continues to grow.
In fact, software revenue grew 2% in Q3, fully in line with our year to date performance. This is especially notable when taking into account the tough year over year comparison. You may recall in Q3 2015, We reported 4% growth in software licenses. Now the stability of our cloud and software business also depends heavily on our maintenance business, Which continues to renew at a very, very high rate. This business shows an ever healthy growth rate and will remain highly predictable going forward.
We reported 6% growth in support revenue for Q3 as well as for the 1st 9 months. As a result, The share of our more predictable revenue was 65%, so almost 2 thirds of our total revenue for the 1st 9 months, Which is up 2 percentage points year over year and reaching €10,000,000,000 year to date. This is another indicator for ever expanding more predictable business model as we aim to deliver on our 2020 ambitions. This at the same time gives us far more stability for taking my questions. To summarize, both of these key growth drivers, our cloud and core business in combination Results in strong growth of 9% in cloud and software revenue in Q3.
Now let me spend a few words on the regional results. We had a very strong performance in EMEA with an increase in cloud and software revenue of 8%. Cloud subscriptions and support revenue grew 38% in In EMEA, we had double digit software revenue growth in Germany, France, UK and South Africa. In the Americas region, we grew cloud and software revenue by 9% and cloud subscriptions and support revenue by 24%. For joining us.
In Latin America, despite continued macroeconomic headwinds, SAP had very solid double digit software revenue growth in both Brazil as well as Mexico. In the APJ region, cloud and software revenue was up 8% with cloud subscriptions and support revenue growing by 46%. In APJ, we had double digit software revenue growth in Japan, Malaysia and Singapore, as well as solid growth in SAP's Greater China region. Now let me come to the bottom line. Before I'll talk about operating profit, I would like to provide some more details about the gross margin development for the quarter on a reported basis.
For the 3rd quarter, We saw a decrease of 3.9 percentage points year over year, resulting in a cloud subscriptions gross margin of 64.9%. The primary reason for this decrease can be explained by revenue mix shift effects. If you look at our cloud margin in more detail, You will see that our business network cloud segment margin further increased sequentially, but decreased year over year to 76.8%. For your questions. The applications technology and services or in short ATS cloud segment margin was stable quarter over quarter, for your participation.
ATS segment given the accelerated growth and consequently higher share of our private cloud business, which nevertheless broke even in the 3rd quarter as expected. And we definitely continue to expect further improvement in the gross margins in the HANA Enterprise Cloud also going forward. There is an additional mix shift effect on the overall cloud margin since the ATS segment now has a higher share of our total cloud business, which impacted the cloud margin as well. In addition for our entire cloud operations, we are still investing heavily in personnel And are also incurring costs to converge our acquired cloud applications onto SAP HANA, which will provide massive benefits for customers. Overall, we continue to expect the full year 2016 cloud gross margin to land at around the same level as in 2015.
Our cloud and software gross margin was sequentially nearly stable at 83.5% and down 60 basis points year over year. The usual mix shift effect we see from the cloud business on our cloud and software gross margin was the primary reason for this decline. Our services gross margin was down by 2.9 percentage points year over year to 20.5%. However, our services margin is trending up sequentially in 2016. We had a sequential improvement in the services margin of 2.6 percentage points, which comes off a further 4 percentage points sequential increase that we had in the Q2.
And we expect this trend to continue as we enter into the New Year. Why? Well, because this development needs to be seen in the light of significant further investments around 50,000,000 for that. We took into co innovation projects with strategic industry customers in Q3. We expect these projects to be finished by the end of Q1 next year, Allowing for further improvements in 2017.
Our underlying operational performance in the services business has already significantly improved, you can also see by the fact that services revenue was up 7% in Q3. Finally, our overall gross margin was stable compared to the previous for the quarter at 72.7 percent and down 90 basis points year over year. Now let me come to our operating profit development. We saw continued operating profit expansion in the Q3 sequentially as well as year over year, Which is on top of an exceptionally strong operating profit performance in the previous year, as Bill already mentioned. As expected, this quarter the growth rate has come down since the benefits from the company wide transformation program had annualized at half year.
For the Q3. Taking all of this into account, we had a strong quarter in terms of operating profit performance, which grew by 1%. As we continue to improve the efficiency and effectiveness in each and every business, our operating profit will continue its growth trajectory towards our 2020 For the 1st 9 months, we are right where we anticipated we would be, growing our operating profit by 5%, for participating in the growth rate towards the high end of our guidance range communicated at the beginning of the year. Before I talk about cash flow and liquidity, I would also like to make a few comments on our IFRS results. Our IFRS operating profit, as you will have noted, was impacted by an increase in our share based compensation expenses, which is mainly due to the strong development of our share price quarter over quarter.
This increase overcompensated the further decrease in restructuring expenses year over year that we saw in Q3. Consequently, our IFRS operating profit declined by 9% to €1,100,000,000 Year to date, however, our IFRS operating profit is up 25%. The IFRS tax rate in the 3rd quarter was 28.4%, up from 27.1% in the prior year period. The non IFRS tax rate in the 3rd quarter was 29.7 percent, up from 28% in the prior year period. As expected, our tax rates increased this quarter, which reflects the change we made to our tax outlook for the full year when we announced our Q2 2016 results.
IFRS earnings per share decreased by 19% to $0.61 per share and non IFRS earnings per share decreased by 7% to 0.91 The main reason for the decline on an IFRS basis was again the higher share based compensation expenses. In addition, both IFRS and non IFRS earnings per share were impacted by lower non operating and financial income, Mainly driven by a minority investment that we sold off in Q3 of 2015. Year to date, our IFRS earnings per share were up 19%. Now let me come to cash flow and liquidity, which was clearly a bright spot in this quarter. In In the Q3, our operating cash flow rose significantly, up 52% compared to the prior year period.
This led to strong operating cash flow for the 1st 9 months of €3,600,000,000 or up 12% year over year. This result was primarily due to our strong top line performance in the 1st 9 months with an increase in total revenue of 8% and higher profit as well as due to the absence of restructuring related cash outflows. We expect this trend to absolutely continue in Q4. At the end of the Q3, we improved our net liquidity by almost €2,000,000,000 compared to the end of 2015, Which is an improvement of 33%. At the end of the third quarter, we had a net debt of €3,700,000,000 for your time.
We remain committed to quickly further deleverage and expect to have completely repaid the term loan related to the Concur acquisition by the end of the year. Now let me move on to our outlook. As Bill has said, as a result of our strong execution year to date and our robust pipeline, We are raising our outlook for the full year. We now expect full year 2016 non IFRS cloud subscription and support revenue for your questions. To be in a range of between €3,000,000,000 to €3,000,000,000 at constant currencies.
Full year 2016 non IFRS cloud and software revenue to increase by between 6.5% to 8.5% at constant currencies and full year 2016 non IFRS operating profit for your time. Thank you. Thank you. Thank you. Thank you.
Thank you. Thank you. Thank you. Thank you. For the currency impact on reported growth rates in 2016.
For details on this, please see our quarterly statement published earlier today. So let me summarize. In closing, our position as a leading innovator helps our customers to succeed with their digital transformation, for your time. With the most modern business suite as S4HANA, our platform and cloud offerings or in new markets like IoT or machine learning,
for your time.
We help customers meet the challenges of today's marketplace. SAP has never been clearer about its strategy, underscored by our vision to help the world run better and improve people's lives. Looking at our own business transformation, I'm really pleased to see that we are continuously progressing in all dimensions in a market environment that is more dynamic than ever. We are delivering on our promises, for taking my questions. While increasing diversification, predictability and rapidly building on our already solid business foundation.
For your time. We released really strong 3rd quarter results today, showing continued momentum and strong execution. Even after making some Short term investments in the Q3 and going up against a very strong comparison, we managed to expand our non IFRS operating profit. For your time. With our robust pipeline and our unparalleled focus, we are very confident that we will deliver yet another strong Q4.
More importantly, our long term growth drivers are rock solid. Year to date, we are tracking to the upper end of all outlook metrics set at the beginning of the year. For that reason, we raised our outlook as we go with full confidence into our largest quarter of the year. Thank you very much and we will now be happy to take your questions.
Thank you. Operator, you can now start the Q and A session.
Ladies and gentlemen, at this time, we will begin the question and answer One moment for the first question please. The first question comes from the line of Michael Briest with UBS. Please go ahead.
Great. Thank you and congratulations on the quarter. In terms of the cloud, there was an announcement a couple of days ago about SuccessFactors moving on to Azure or being available on Azure. Can you talk about your underlying cloud strategy there? What they're doing?
What you're doing? And CapEx is quite a lot this year partly related to those cloud investments. Is that something that maybe reduces the level of CapEx we should expect Q4 next year. And then secondly, just on the number of S4 customers that are live, could you give an update there and maybe how many are moving to the HANA Enterprise for cloud and how significant HANA Enterprise Cloud is now within the revenues. Thank you.
Michael, I'll start us off and allow you also to get some feedback from Rob Enslin and Steve Singh. First of all, on the Microsoft partnership, I've always said that we do stand on the shoulders of giants. And about 3.5 decades ago, Bill Gates and Hassel Plattner for your time. We began an amazing partnership between Microsoft and SAP, and I'm very proud to say that Satya and Adela and myself are continuing in that tradition, As evidenced by Satya being at SAPPHIRE with me and also in recognizing the power of SuccessFactors to run Microsoft's people strategy, But also to take Azure and adopt HANA, the S4 applications and also our cloud applications for the line of business And of course, the business network. So I think you should look at a multifaceted strategy here.
The first piece is now unfolded, But we are going to continue with Microsoft in a highly strategic fashion. I'll let Rob give you an update on The S4 and then Steve give you some more color on our cloud strategy and what we're doing especially with Microsoft.
Rob? Yes. So with S4, right now we have just over 3.50 customers live. When you look at the live customers in S4, what's particularly pleasing is that out of the customers that are doing projects right now, More than 50% of them are full scope. In other words, with the 15 to 11 release of manufacturing and the full ERP scope, most of These customers are now actually implementing full ERP scope for S4.
As it relates to What you'll also see is more than 80% of these projects are now done by partners. So, this is very, very pleasing news in the S4 environment.
So, I'll add a couple of things to this. Obviously, as we continue to see our cloud businesses grow, The opportunity to leverage public cloud infrastructure to drive more scale in our gross margin It's very substantive. And so leveraging relationships like Microsoft with Azure It's a fantastic opportunity for our company. SuccessFactors is one of many opportunities to work collaboratively with Microsoft on Azure. We also obviously work with AWS.
Our recent announcement on BW4HANA is an example of that. I think as you think about for our global reach and our capacity to serve customers in any corner of the world. The opportunity to leverage Public cloud infrastructure in other parts of the world is a massive advantage for the company.
Yes. And maybe a last point on the size of the HANA for the enterprise cloud opportunity in total. I think this is becoming quickly a grown up business, I would say. It was a for taking my questions. 2 years ago, and we invested a lot and there were lots of doubts.
However, when you take a look at today's performance, This is actually already on a year to date basis now a triple digit million business and it continues to grow fast. And more importantly, Lee, for me, from a CFO perspective, it increases the efficiency very quickly. In Q3, as expected and as we predicted, the business has for taking the question. We've been breaking even on a gross margin basis and it continues to be on a strong role in terms of increasing the efficiency further. So, it is of growing a strategic importance to SAP.
And Luca, will the CapEx come down because of the relationships with public cloud companies?
I would say, as we grow the opportunity and as we grow the partnership, there is certainly an opportunity for that. It will not have a massive impact for the remainder of this year. But as we move forward, as you know, we have the expectation that we will see substantial improvements in the gross margins across our different business models and utilizing these mega IIS providers is one aspect to that equation. So absolutely, this is part of our consideration, but you should not see it as a short term opportunity now for the next few months.
Thanks.
Thank you. Let's take the next question, please.
The next question comes from the line of Stacy Pollard with JPMorgan. Please go ahead.
Hi, thank you. A couple of license revenue growth, 11% in Q4 last year, so tough year on year comps, But you did say robust pipeline and confidence to deliver yet another strong Q4. Do you think that means positive license growth in Q4 of this year? And then just quickly on S4, you mentioned catalyzing a broad adoption of SAP products. Could Could you give some examples of that and what kind of leverage that might be?
So is it 1.2 times ERP in terms of revenues, 1.3x, 1.5x, 2x, something like that. And then the last one quickly on M and A. Just can you talk about recent acquisitions and your future thinking? Would they be of similar size? And what types of technology are you looking for?
Yes. This is Bill Stacy. Thank you very much for the question. What I'll do is I'll give you a little color on the robust nature of the pipeline and our determined forecast for Q4 As well as the M and A. Rob can give you some further color on the forecast as Steve can as well.
But here's the big picture. What we do is we run the company on HANA. So we have a real time in memory column store data platform giving us feedback as to what's going In every industry, in every geography, in every territory in the company in real time. And when you look at the facts, you can only come up with one conclusion The pipeline is the biggest it's ever been and the level of sales cycle is deciding that it would give you a growth forecast on a year over year basis, including in the core business. That's where it's at.
And the cloud is continuing its natural progress, Growing fast and also giving us a balanced business model, which gives you much more predictable revenues, just as we stated in The midterm forecast for the company. So we're right on track. So yes, we're expecting very good growth in the quarter. For your time. As it relates to the M and A activity, I announced a couple of tuck ins that we did on the IoT in my opening remarks.
Right now, you shouldn't expect SAP to surprise you with anything large. The reality is there isn't anything large that we see worth buying. Most of them don't make a lot of money. We beat them hand over fist in the marketplace, game, set, match, so why would you buy them? And what we are doing is we're very proud of what Bernd is doing and the development and innovation machine here in the company, and we are bringing out Massive innovation in S4, including in the Q4 where lots of upgrades and lots of decisions will take place.
For example, we invested €50,000,000 in Q3 on a co innovation level with a few customers. Because we go into new areas like retail, we prove it with a lighthouse and then we replicate it many times over. So you're dealing with the management team here that's not just thinking 90 days. We're thinking next move. We're already thinking 2017 Whilst at the same time delivering the promise in 2016.
So we might do some tuck ins. We don't see any big ones on the horizon right now, And we'll give you a further update on that in January when we give you the guidance for 2017. But organic execution is the story at SAP right now.
Yes. And in terms of the pipeline and outlook as we see it, I mean S4 has clearly taken our customers by for the sense of how they see it and the value they're getting it with the reference customers we have and connecting our big data play with HANA together with for the work we're doing in machine learning and then you connect the cloud solutions. Our customers understand the value of all of the integration between the core and the edge and the edge and the core. And we're seeing that across all regions and all geographies. So it's not a it's a very, very positive story for SAP in the complete sense And all aspects of our portfolio are working really well right now.
Yes. And let me maybe just add very sorry, I didn't want for Go ahead, please.
No problem. The only thing I would add on the pipeline overall for cloud is that we continue to see a robust environment for our cloud offerings. Obviously, we're managing through a change in Concur's fiscal year end from September to December. But if I look at it more granular, we really see a strong environment for Concur. Ariba's demand environment continues To grow on a year over year basis, we're seeing really strong demand for our SMB offerings as well, including our SMB ERP offerings.
So very pleased with the demand environment and see that continuing to be that way for years to come.
And I just wanted to add that You have various levels of how S4HANA is actually reinvigorating growth across our entire for your time. I think Rob has described this core to edge, edge to core concept very well. You see this reflected in the fact that Our average deal size in the higher ticket amounts is actually going up and that we see a higher relative share of revenues in this higher ticket for the volumes. However, it's also important to note that with the upcoming S4HANA release, which now delivers all of the Functionality that we have re architected for native HANA in memory data processing in 2015 across all of the industries, It just is also amplifying the opportunity that exists in S4 itself because we can now really across all industries for taking my questions. Not only move into the generic areas like finance, but we can really move into the core business processes of our biggest oil and gas companies, Of our biggest retail companies and so on and so forth.
And this of course also raises the potential for S4 itself in terms of average deal sizes.
Maybe for each of the smaller tuck in acquisitions, a word from my side, this is Bernd. I think the Internet of Things and digitalization of the business in general It's on top of the agenda of any customer I have spoken the last weeks quarters. So While we do not want to play a me too game, we want to uniquely differentiate with our capabilities. We have selected for taking my questions. Thank you.
And let me start with Altiscale, a clear proof point that the move to the cloud is happening and is happening for your question. In a direction where we have to live in future with the central storage of data, Not all the sensor data that the world produces can be stored in a single data center. And we also with Hadoop as a service, decentrally and connecting it to our core winning platform HANA, a big data solution no other IT vendor can offer these days. Then if it comes to the capabilities of HANA itself, with Platform, we have now a unique differentiator to connect to any physical asset in the world. And with FedEM, we are able to model any physical product as a digital twin.
And this is the way the Internet of Things in the digital world will win going forward. So these tuck in acquisitions for taking the time to create a tremendous differentiating capability in the whole space of Internet of Things. And I think you heard it from Bill. We have committed to a total invest
of SEK
2,000,000,000 and we expect massive return on that investment going forward.
Thank you, Bernd. Let's take the next question, please.
The next question comes from the line of Ross MacMillan for RBC. Please go ahead.
Thanks very much and congrats from me as well. Two questions. 1 on the public cloud version of S4HANA. Bill, when do you think that will become publicly available generally available? And then second, on the conversion of the line of business cloud apps to HANA, Luca, I'm curious again when do you think that will be complete?
And if we could isolate the gross margin impact for those businesses, How material could that be? Thanks.
Well, thank you very much, Ross. First of all, I'll just start off with the S4 public cloud edition. We have a whole division of the company dedicated to that, and we're going with everything SAP has and more to make sure that that's A masterpiece of our growth story. And Rob and Bernd teamed up on that. There's a very serious executive that's running that for us.
The solution is totally ready. And with a dedication of a division of the company, you won't have any mixed up people between whether they're going to put something in the cloud or in a customer's data center. So Rob, maybe you'll make
some comments on that. Yes, with Darren Ruse heading up that cloud division, the S4 cloud division, we've actually gone live with some customers already. We've actually really with the results that these customers have shown. We have another quite some customers that we signed up that will actually be live And then the plan is to go large in January at our field kickoff. We will actually launch that S4 Cloud division To all of SAP and then obviously in New York City when we meet all of you again, we will launch the S4 Cloud and it will be a big part of SAP in 2017.
Yes, this is Bernd. Maybe a comment on conversion of our public cloud offerings towards HANA. We have started where customers get most value out of it, and this is clearly where we process huge amount of data in the analytics space. So consider this as done. I would say looking at our more than 10,000 customers, SAP is already for having the biggest data centers on the world running cloud applications on HANA as we speak today.
Now your question is when are we complete? This is a 2 step approach. Number 1, Getting the capabilities and unleash the massive value of HANA into these applications and not just doing porting. We have done it completely for SuccessFactors and we are in process of migrating all of these customers for taking the time to the HANA database. Expect and forecast is that we are done in 4 quarters, so 12 months from now.
We are in process of migrating as well Ariba Concorde Field Class. It might take a couple of We will decide this based on growth rates as we have a customer first approach. You asked for CapEx investments and we want to serve them. And I think in the impact on
the financials, I would pass over to Luka. Yes, absolutely. So first of all, initially, of course, the migration of our customers to HANA is an investment case For this year as well as for next year, as we have to maintain for some time as we migrate the different customers, as Bernd has explained, double infrastructure. That's why we are not planning for substantial increases in our cloud gross margin in 20 for taking my questions. As well as in 2017, there are some additional investments that we are making into converged cloud infrastructure As well as data center consolidation that also play a role in this regard.
However, then as of 2018, We of course expect that we will derive massive benefits from these migrations going forward. As you know, we aim to achieve around about 7% increase in the cloud gross margins until 2020 With an exponential uptick in the years 2018 and going forward, and that's exactly because of those efficiencies that We are gaining by running our own platform underneath all of our cloud applications. But quite frankly, it's not only about our efficiencies and Our gross margin improvement where this is baked into the 7% improvement, much more important is that our customers are gaining transformational capabilities Through the migration, much faster analytics, for example, much more responsive transactional processing across those different solutions. And that's what I'm really excited about that we can unleash the full power of this best of breed applications that we're having with the most modern and most robust and performance database platform that you can find in the market today.
Thank you. Next question please.
The next question comes from the line of Charles Brennan from Credit Suisse. Please go ahead.
Great. Thanks very much for taking my questions. I've got 2 if I can. The first is just on the balance sheet and the cash flow. Bill, there are some comments quoting you, I think, on the wires suggesting that going into 2017, The scope for higher dividend payments or maybe share buybacks, can you just outline your medium term philosophy of Where you think the right balance sheet structure should be and how you're thinking about balancing cash flows between Shareholders and M and A.
And just on the cash flows, it looks like DSOs continue to tick up By a day, a quarter at the moment. Luca, where would you like to see those metrics stabilize and where do they go from here? Thanks.
Well, thank you very much, Charles. Maybe I'll start off on the balance sheet and the cash flow. I'm going to actually allow Luca to give you the good news on the cash flow because I think you'd be quite impressed with what's going on in the company's cash flow. But on the balance sheet, let's, first of all, get clear on what I said. I said that SAP will remain an excellent dividend payer as we have consistently done now For years years years.
So put that in the win column for the shareholders. I said that we would be very thoughtful on M and A And not surprise you with anything that didn't make sense. We talked about the priority areas. Verne elaborated on that. So we'll do things on the M and A side that make a lot of sense.
One of the things you should look at is the record that we have with M and A. All the companies that we acquired outpaced the business case we put in front of the Board when we bought them. And If you remember, there were times where we were under serious fire if we paid too much, was it the right M and A? And now just about everything's paid off And SAP shareholders will benefit from those moves in perpetuity. That's a pretty good thing.
And finally, as it relates to share buybacks, It is possible that in the second half of next year, because we are spinning off tremendous cash flow, there could be an opportunity for that. And we'll weigh that in the balance between investing in organic, investing in strategic M and A Or in fact buying back shares in combination with being a good dividend payer. The main thing is we're going to be extremely shareholder friendly. We believe that a growth company needs to also take care of its shareholders. One of the important statistics that I'm actually extremely proud of this quarter Is the fact that the employee based compensation related to the SAP shares was actually €296,000,000 strong.
That reflects that our external shareholders are benefiting and now 70 That is an organization that's exhibiting enormous pride in this company. So we don't just have employees anymore, we have owners. And Luca, I know you want to talk about the cash flow, which is stunning, and some other things. Over to you.
Yes, I think you already stole most for my thunder. But it's absolutely true that we are seeing now the fruits of our growth in the year to date Also in the operating cash flow, we had briefly discussed this on the last quarterly call, where I told you that due to the Since of restructuring cash outflows, we expect a much stronger cash flow in Q3 and going forward. And this is exactly what is happening now with 52% outflows in 2015, which we won't have in 2016. So, it is absolutely clear That we are about to generate excess cash. We have a strong priority on deleveraging.
We have another SEK1 1,000,000,000 for the question. Private placement that is becoming due for repayment in the first half of twenty seventeen. In the first for 2017. We will also pay a very nice dividend. As you know, we have a dividend policy for taking the question of paying out more than 35% of net profit.
Net profit is up significantly when you take a look at our IFRS numbers. So chances are The dividend will also be up significantly. So, those are priorities. Organic innovation is a priority. Tuck ins, if we don't see more than tuck ins of the nature that we have done, obviously, we will return to the question of possible buybacks Then in the second half here.
We expect to have more clarity for you on that already by the time that we meet together at the Capital Markets Day. On the DSO, you are right. Actually, the DSO increase is slowly coming to an end. This quarter, we have seen a 0.4 for Days increase. So, it just met the rounding edge, so to say, so that you see it as a day in increase, but it's actually 0.4 days.
I expect this movement to now completely come to a halt in Q4. Latest in Q1, I would for joining us. Thank you. Thank you. Thank you.
Thank you. Thank you. Thank you. Thank you. Thank you.
Thank you. Thank you. Thank you. Thank you. Thank you.
Thank you. Thank you. Thank you. Thank you. Thank you.
Thank you. Thank you. Thank you. Thank you. Thank you.
Thank you. Thank you. As you know, we were facing difficult macroeconomic conditions, where over dues have accrued, for your time. And we are working these now down aggressively with executive sponsors for all significantly overdue items With an aggressive de bookings policy, and we believe that we will have made substantial progress as we enter the New Year.
Thank you. Let's take the next question, please.
The next question comes from the line of Kirk Materne of Evercore ISI. Please go ahead.
Thanks very much and I'll add my congrats on the quarter. Bill, obviously a really strong hiring quarter for you all. I assume a Fair number of those new hires are in customer facing roles. I was just kind of curious where you might be adding strength in terms of specific verticals or on specific products. Just trying to get a sense of where you guys feel like you might be not pushing as hard as you could perhaps on the sales front just in terms of numbers?
Thanks.
Yes, Kirk, maybe I'll just start it off philosophically. If you're not coding software And you're not selling software, we're probably not chasing you down right now. So that's the bottom line. We want people That are engineers, that are data scientists, that really understand the systems and have a great future in technology in the company, and we want great customer facing professionals, including young professionals from the right curriculums and schools That can actually help us take care of the customer and move our software in the open marketplace. We have one of the most sophisticated Young training programs, I think, of any company in the world right now, we're extremely proud of it.
And I'll definitely let the colleagues give you some color On where we're really focusing the talent, it's pretty exciting. And the company is getting younger all the time, which I think is very exciting. When you walk in the halls of SAP, You feel like you're dealing with
a very young, vibrant company, not a company that's been around 4.5 decades, pretty exciting. Rob? Yes. So we're actually definitely selling software. So in order to continue that, we've actually added resources to our line of business solutions, for your time.
Our global expansion, our channels, our commercial sales, our inside sales organization, pretty much the expansion is global and broadly based. The sales university continues to attract a number of young people that we bring into the company every year and we're seeing a major return on that, Especially in the emerging markets where we train and talent these folks, we actually see significant production and we've stepped that up in all of our emerging markets. So Pretty much in all the line of business applications from SuccessFactors, Hybris, Reaver, Concur, and a global expansion in the regions and that's where we and our
for the panel as well.
And Bernd, you may want to mention what you're seeing on the engineering side?
Yes, sure. So innovation is basically the fuel for for future growth. So I elaborated already on Internet of Things, but we are as well heavily for the full year for a whole new set of new applications. You will hear more from us in the next couple of weeks. And there is as well capabilities in the area of bots.
So We see the human machine interaction as the future user experience. It's not just having nice, fancy UIs. It's enabling our customers that there is a natural human being machine interaction, which will be our future. So in these areas, We are more or less strengthening across the entire portfolio.
Good. Thank you. We have time for 2 more questions, please.
Your next question comes from the line of Geraldus Vos with Barclays. Please go ahead.
For Good afternoon and thank you for taking the questions. It's actually James Goodman on Jardis' line. If I look at the movement in deferred, the Cloud billings growth was very strong this quarter ahead again of both the bookings and the revenue growth on cloud. So aside from the conquer impact that you've mentioned, is there anything else we Consider here in terms of the way those metrics relate to one another and is it feasible that the new cloud bookings Measure could actually move ahead of both revenue and billings growth over the coming quarters. And then the other question I had was just coming back to the temporary investments that you've mentioned a couple of times during the quarter.
Could you provide perhaps a little bit more context there? The nature of those investments, are they Related to S4HANA extensions or is this new product initiatives? I wasn't quite sure. And when you say these will be done by the Q1 2017, Is the magnitude of investment similar over the coming two quarters? Thank you.
Yes. Maybe I can ask for your question. So first of all, on the calculated billings performance versus So new cloud bookings performance, yes, there can always be variations between the 2 and it's possible definitely that new cloud bookings could exceed The calculated billings because it's just simply a different methodology. 1 is an order entry methodology And one is a methodology that is calculated as you know of course based on revenue changes and changes in the 3rd movements. So The reason for the difference between the two is definitely for the most part in this quarter, the Concur effect.
We absolutely expect Concur to have a blowout Q4 because that was last year not their Q4, which they had in Q3. And hence, the bookings performance in Q3 was a little bit lower. But as We are we know how our deferred revenue composition looks like, how our backlog looks like. That of course makes us very, very confident around the cloud revenue figure. And again, on the bookings side, I expect a very strong Q4 Because of a broad based performance that I see ticking up especially also in Concur.
On the temporary investments, maybe I'll answer this quickly as well. That's actually industry specific innovation that we're driving. So we are working with customers, for example, in the retail space to completely redefine the way how they can get Keep track of their customers, can get customer preferences, customer buying behavior, customer data integrated for taking the questions. The way how front office operations in the core insurance space can look like based on the HANA platform that we have. This type of development is not really directly related to S4, but industry specific
And that entrepreneurial spirit for your question. It's alive and well in SAP. And in terms of how you should expect that playing out in the future quarters, because that was part of your question, I would say the ones that we've made for 2016, we've made for 2016. So That's why we're raising forecasts. And incidentally, what we're always trying to do now is look into The windshield, not just the rearview mirror in terms of the next move.
And I think what you'll see is some of those small investments instead of complex M and As Leading to great replication and faster time to value across industries. Luca talked about retail and insurance. Those were the ones that impacted this quarter, but we're certainly not limited to that. We're really focused on the customer and making sure they're live, they're happy, and we can replicate it many times over.
Thank you. Now we have time for the final question.
The next question comes from the line of John King of Bank of America Merrill Lynch. Please go ahead.
Great. Thank you very much for taking the questions. I've got 2, I think, focused more around the kind of 2017 outlook. Firstly, going back to your comments on the services margin, Luka, a good improvement there to 20%. I guess, We'd kind of be thinking about more mid teens rate looking backwards.
So what's the right run rate as we think about 2017 for the services gross margin? And I noticed obviously you've left your guidance for operating profit for next year unchanged. So just wondering if there's any Is that sustainable or not or if there's another offset to think about? The second question was again more of a bigger picture about the cloud transition. I guess a couple of years ago, you reset the expectations somewhat about license growth with the likelihood that over time you'd see Some of that get cannibalized in the core and shift towards the Link Cloud subscription.
Where do we think where do you think we are really on that? If you revisit those assumptions now, are you on track? It feels like at the moment most clients are still taking their ERP, wanting to own the software and buying licenses. So in that context. Do you think it's possible we see some further resilience in license into next year?
Thanks.
Yes. So, first of all, on the services Susan, you're absolutely correct. We have improved the underlying business performance in services quite nicely in the last 6 months. It was actually already becoming visible in Q2 and we have further progressed now. So I think I have strong confidence that the overall services margin for next year Should not on average fall below the level that we have achieved right now.
So especially once the investment projects I've been talking about are fully delivered, and this will be the case in Q1, as I said, 2017, Then we should definitely see that these margins are becoming sustainable again at the level that we have achieved right now. Well, first of all, on the outlook for 2017, we have just raised the outlook for 2016 and we will attend to 20 17, when we're out with our numbers for Q4. So I think there you need to hang in a little bit with us. But you can see from our confidence in raising the 2016 outlook that there is obviously nothing fundamentally wrong with the company. And for taking the question.
You're right, when we started our midterm guidance framework in early 2015, We were not entirely sure. We had a strong belief that S4 could become a game changer for us across the entire spectrum of for your time. Our portfolio, both cloud as well as on premise, but we were not sure about the uptick. Now we know that it's a tremendous innovation That clearly has reinvigorated growth in our on premise business to a greater extent than we would have expected for the 1st 2 years, Which is great news. As we move into the future, as Rob has also said, we plan in the future to also Deliver S4 to the market in the public cloud version.
We see a great prospect For this solution in the market, there will be of course still a case and a strong case for S4 In large scale deployments also on premise, but keep that in mind. And hence, we are very confident around Sfour to for the growth in both the cloud as well as in on premise core licenses. At the moment, I feel very comfortable with the midterm outlook that we have And we will have further update for you when we meet in January and at the Capital Markets Day in February.
And John, to build on what Luca is saying, one of the things you may want to think about is the order entry in the company for the software and the cloud. So substantial year over year increases in 2016. You'll see substantial increases in 2017. What I think is kind of interesting about SAP and history is a relative guide for the future. When you look at the competition down in double digits in their core and propping up concrete and servers As a cloud model versus software, we kind of like the idea that our core is solid, our cloud is solid, SMB business network And an ever expanding ecosystem that also wants our applications in their clouds.
And when you're a great brand and you're willing to meet Our high standards for security and reference architecture, we have no quarrel with expanding our footprint and our channel capacity to sell more software. So All the lines are in the water for continued sustained software and cloud growth. And if history is any predictor, SAP, Because of our substantial leap with S4HANA in the 21st century ERP, we'll do a lot better than the other ones.
Well, thank you very much, Bill. This concludes our Q3 earnings call for today, and we look forward to meeting you again in January, But latest at our Capital Markets Day in New York City on February 9. Thank you all for joining and goodbye.