All right, well, thanks for joining us, everybody. My name is Matt Hedberg, for those that don't know me. We're excited, really, early on in day one of the TIMT Conference, Jim Benson, CFO of Dynatrace. Thrilled to have you here, and we're going to try to leave a minute or two at the end for audience participation and questions, and so cue them up in your head, and I think we have a microphone in the, yeah, we do. Okay, so yeah, we'll save some time at the end, Jim, for if there's some questions from the audience. All right, so you guys came off a really solid Q2, really a really solid first half of the year of your fiscal year. Can you talk about just how the broad macros perform relative to your expectations?
Any trends you've kind of seen as you've exited Q2 and kind of early in Q3?
So, I'd start with I would reiterate your point about that we had a great Q2. We had a great first half. I'm sure we'll talk about it over the course of the next half hour around we're going through some go-to-market changes. And the good news is for the first half of the year, we've had no disruption. Good execution by the sales force. So feel very, very good about that. Relative to the macro, I'd say the macro continues to be choppy, right? It's not any better. It's not worse, but pretty consistent. And we plan the business with that in mind. And so going into the second half of the year, our expectation is we'll continue to have kind of an uneven macro. There will always be some level of Q3 budget flush, but probably nothing notable. So the demand environment is quite solid for durability.
So the good news is it is an area that people are prioritizing spend for. So we feel pretty good about that.
Yeah, that's great. We'll get into some of the go-to-market changes in a bit. But what I've just continued to find really, really interesting is to track your progress with DPS. It continues to do really well, but maybe I assume everybody knows what DPS is, but maybe just talk a little bit about DPS. Right now, I think you said in the last quarter, it reached 50% of ARR and it's 30% of your customers. How is that resonating? And how do kind of long-term customers think about migrating to DPS and what that means for them?
So I'll do a quick level set. So DPS is an acronym for the Dynatrace Platform Subscription. So think of it as in the past, we used to sell SKUs, so licenses, a finite amount of licenses for different offerings. And that was a difficult model for customers because they'd have to buy a finite amount of licenses. And then if they wanted to try something new, a new capability, whether it be application security logs or some expanded observability use case, it had to have a sales cycle. What the Dynatrace Platform Subscription is, is it's a model where you commit to a dollar amount for a finite period, and you get a rate card of all the capabilities of Dynatrace. So you commit to more spend, you get a better unit price. You commit to less, you get a higher unit price.
So it allows a customer to get full access to the platform. It allows our customer success team to work with the customer on trial and new different things. And so you're right, we have just under 30% of our customers and just under 50% of our ARR on this vehicle. And we've only been at it for 18 months. So we feel very, very good about that. And some stats for that is our thesis, to be clear, was you move these customers to this vehicle. It's a frictionless sales model. It allows them to trial new things. And our thesis was that they'll consume more of the platform, they'll consume more capabilities, and they'll be in a position where hopefully they will expand early and it will be NRR accretive. So we're kind of lapsing cohorts, as you can imagine. We're 18 months into it.
And the good news is that DPS customers consume at 2x the rate of SKU-based customers. So they consume twice the—they grow twice as fast on the platform as SKU-based customers. They consume 2x the number of capabilities. And we've actually seen that we've done some cohort analysis that DPS customers have higher NRR than SKU-based customers. So the good news is it's doing what we thought. We're still early days with it because we're just catching up to some early cohorts, but we're very, very pleased with the job.
It really seems to resonate when we talk to partners out there. Because customers like it because it's just - I think they don't feel - they're not getting nickeled and dimed.
It's super easy—and it's an easy discussion to have with a customer around, "I'm going to give you a better unit price for all of the capabilities." And it's just a—I'd say customers—the biggest challenge we had, Matt, was getting our sales force comfortable to sell us because our sales force was selling SKUs. And if you had an in-flight deal when we first launched it, GA, which was Q1 of last year, our Q1, that they didn't want to introduce a new vehicle because it potentially was going to slow a sales cycle. We're through that now. It is the predominant vehicle. Not all customers can leverage it. So government customers cannot use this vehicle. It's a restriction from a government perspective that they have to buy primary SKUs. But in general, it is something that most customers want.
It's not something that we incent the sales force to sell. It's something that they're now comfortable selling.
Yeah. The question that I get is, if a customer either is over or under their dollar committed, how do you deal with that?
So the way the model works financially is very similar to a SKU-based model in that we commit to a dollar amount and a term. So if you commit to a year, ratable revenue recognition, you get paid upfront. So we invoice annually in advance. So no real difference in cash flow, no difference in RevRec. What is different is, to your point, you consume. We provide a bunch of analytics to customers around how fast they're consuming. So let's use an example of $1 million a year for the sake of argument. So that would be you're recognizing $100,000 of revenue per month, but maybe the customer is consuming at 2x that rate. So they're maybe approaching six months and they're getting close to their $1.2 million. Well, we would have only recognized $600,000 worth of revenue.
More than likely, the customer is going to say, "Hey, I'm going to do an early expansion." And they'll expand, and then you'll snap the chalk line from there for another 12 months or 18 months or what have you. And then you'll recognize the remaining $600,000 plus whatever they've expanded over a new finite term. So it's a pretty easy model. I'd say we've seen many customers that when they burn through their commitment early, they'll expand early. We actually have found, Matt, and we talked about it a little bit, I think, on the call. We have found a handful of customers that have gone on what we call on-demand consumption, meaning they burn through their annual commitment, but their contract has not expired. It might have a month or two or three months left. And as opposed to doing an early expansion, they said, "We will wait.
We know we'll get a better unit price if we expand early, but not worth it. And so for a period of maybe a month or two, we will get on-demand. That's not in ARR, but it is in revenue. So we've seen a little bit of that. I think we had $2 million before that.
Okay. Yeah. I think what I also find interesting is, you know, I think you guys are focused certainly on the Global 15,000, but even more specifically on the Fortune 500. Are you seeing, I'm thinking outside of your base, are you seeing some customers that are like, "Wow, I didn't even realize this was an option. I'm used to paying more of an à la carte pricing." Are you seeing the potential, and we're not really seeing it necessarily yet in new customers, but do you think there's the potential for some unintended consequences, i.e., outside of your installed base, to really sort of be brought into the Dynatrace family because of DPS?
Yeah. I mean, it's certainly an easier vehicle, for sure. I don't know if DPS on its own is going to be a vehicle to get more people to get access to the platform. That's more our sales motion to be able to get access to those people. But it is a much easier purchasing vehicle, and that's very similar to what hyperscaler is, so customers are familiar with this model. This is not a foreign model. The hyperscaler has a model where you commit to a term. Ours is a little bit different in that ours is a use it or lose it, so if you have a three-year commitment with one-year increments, you have finite periods that you have to spend, burn down the money. Sometimes with the hyperscaler, the hyperscaler will allow you to do that over kind of their total contract term.
One thing that I probably should mention that is different than kind of our peers or competitors, we do not charge a premium at overages. If you exceed your commitment early, we do not charge you a premium. So this on-demand consumption that I mentioned, it's at the same unit price that you committed to already. So it's actually a very customer-friendly model.
Excellent. Yeah, and I guess when you think about 30% of your base on it, what do you think that gets to? Do you think 100% of your base will be on DPS at some point?
It'll never get to 100%.
Maybe excluding government, but yeah.
I would say it'll probably get to 75% of the customer base, and I'd say the remaining 25% will be industries that can't leverage it, or it will be like today, from a sales motion perspective, if we have a customer that's renewing and they're not going to do an expansion, maybe they're just going to renew like for like, it's not worth introducing a new vehicle and slowing down the sales cycle, so 75% is probably the right kind of could be 80%, but.
Yeah, somewhere in that range.
Yeah, somewhere in that range.
Yeah. Okay, so a lot of room for expansion, especially with that uplift.
Absolutely.
You started off the conversation referencing your go-to-market change. I think we've seen others implement go-to-market changes that have been very disruptive. And I think you probably plan for some of that in your guidance, first-half guidance. Talk about what the opportunity is for that, because it really seems like you're potentially unlocking a lot of uncaptured ARR with some of these changes. And when can we start to see some of the benefits from this?
So this is a level set for folks that might not know exactly what we changed. At the beginning of our fiscal year, we were very clear with investors that we were making some, I would say, offensive-oriented changes that we were in the proverbial, "What got you to a billion doesn't get you to three billion or five billion in revenue." And we knew that we needed to tune the go-to-market model. And so we made some changes at the beginning of our fiscal year where when you think about the sweet spot for Dynatrace, the sweet spot for Dynatrace for customers is customers that have really complex environments, which is large enterprises.
And so when our Chief Revenue Officer, who had been in the company about a year, looked at where our resources were, even though call it 50% of the addressable spend was in your top 500 customers of our Global 15,000, we were not nearly resourced as we should have been. So we had call it 8-10 accounts per rep. So we reweighted in the top of the pyramid in the top 500 to 4-5. So we added more resource there to be able to get better penetration with those customers and for the customers that we didn't have to actually have fewer accounts per rep to go after. And so that was one of the changes that we made at the beginning of the year. And when we did that, over 30% of our accounts moved to a new rep.
So when that happens, that is an opportunity for disruption. So we were very careful. I'd say the good news is our sales leadership team did an incredible job of managing through it, making sure that it was communicated well. And so we moved these accounts. As I mentioned, we had a very good first half of the year. Now, to be clear, we have not seen the benefit yet. So to your secondary point around, well, these changes are designed to drive more productivity per rep. So our sales cycles, call it our nine months, these accounts moved in our first quarter. They transitioned, call it mid-quarter. They're starting to generate pipeline with these new accounts.
And so the earliest you're going to see some benefit of this will probably be very late in the second half of the year and more likely into fiscal 2026 if we can execute well. So the whole premise of it is to drive more productivity per rep. So that's on the direct side. And then we've augmented that with some changes on the partner side. We changed our partner economic model around how partners get compensated. We've added sales plays. So we used to have a very traditional sales play of go find an application owner, get to a proof of concept, land, and then expand. We now have sales plays. That's one of them. Another sales play is end-to-end observability for customers that are considering tool consolidation. And then a third sales play is cloud modernization.
So customers that are modernizing and moving their workloads to cloud or hybrid cloud environments. And so we've built much more sophistication into the sales model. There's much more enablement now that goes in training for the sales organization. And so we're in a really good place, we think, with we're at the capacity we want at the kind of the first half of the year, actually a little bit ahead of where we expect it to be. Not had disruption. I admit we did apply a prudent guide to the second half. And we did because these changes can be a bit disruptive. Yes, we didn't see any disruption, but we wanted to be cautious. There's a difference between wary and cautious. I think what we're doing is we're being cautious. And we're being cautious because there's no reason to get ahead of ourselves.
What I can tell you is that our ambition, obviously, Matt, is to do better than what that guide is that we outlined. But we also think that we want to give the sales force time to mature. And one of the other changes that we made that you might talk about in a bit is we changed compensation design. So we went to two six-month plans. We used to do annual compensation plans, and we went to two six-month plans. And we saw some benefit from that in the first half of the year. One of the reasons for the changes was it might promote some seasonality improvements, some half two into half one. We saw some of that.
It's tough to size because people have asked, "Well, how much did you pull in?" It wasn't a conscious pull in, but I would say incentive-wise, the sales organization was incented to close deals in September, not October. So we made a bunch of changes. They were all designed to go after the opportunity in a better way. We've executed well through the first half. We've applied some caution to the second half. But between accelerants like the go-to-market changes, DPS as a contracting vehicle, new opportunities in logs and some of the emerging areas that we actually think we're building momentum and there's a product set that we think if we can tune the go-to-market motion and get it operating well, that we are going to be poised to re-accelerate.
Certainly. That's certainly our view. On the six-month quota, walk us through an example. You and I talked about this on our callback, but if you're a sales rep and you had a $500,000 first-half quota and a $500,000 second-half quota, and let's say you did $600,000 in the first half, what's the risk? You pulled that $100,000 in, and then what happens to that $500,000 second-half number?
Probably I'll give you a better.
Give me a better number, yeah.
A better number because we have an annual plan for the company. And we took the annual plan, and traditionally, 40% of our business happens in the first half of the year, 60% comes in the second half. Using your million-dollar quota example, the rep would get a $400,000 quota in the first half of the year and a $600,000 quota in the second half. So if he does $500,000 in the first half because he did a little bit of pull in, he probably will get paid a little bit more. Now he has a $600,000 quota. So his quota is $500,000 that he just booked plus an expectation that you do $600,000 in the second half. So everything else being equal, we did size that it's probably a little bit more expensive on compensation to do it the way we've outlined, but it has two benefits.
Benefit one is an improvement in seasonality. Two, it's very difficult to make tweaks to your sales model mid-year. You have the benefit, not that we're going to make any changes. You have the benefit that you can tweak the sales model mid-year without huge disruption, and so we feel good about it. We'll have to see. I think one of the other reasons we applied some prudence is we don't have enough experience with this. Our sales leader does from other companies, but we don't have enough experience to exactly know, "All right, we saw some seasonality improvement in the first half. What's going to happen in the second half," and I would tell you that I don't think you'll have this. There will certainly be an incentive to book in the second half. The difference is pulling in from our first quarter, which is seasonally a light quarter.
I don't know how much benefit that will produce, but they will certainly be incented to close by the end of the year like they always do.
You sort of talked about the conservatism based on some of the uncertainty in the sales model changes. One of the questions that I'm sure everybody's been asking you is, "Why didn't you raise the second-half number?" And we spent a lot of time on the road last year. And I remember vividly you raised after Q2 last year and then you lowered after Q3. You ended up beating, I think, Q3 and Q4. But I mean, how much did that play into there's no sense in getting ahead of ourselves?
Yeah. I mean, I would say that it was certainly in the back of our mind what happened last year. And I'd say what happened last year, as you know, that the demand environment was healthy, but we were seeing this growing number of very large tool consolidation deals, and the timing of them became a little bit uncertain. And so while nothing fell out of the funnel, we got a little bit nervous about that because there was such a large concentration of them, "Would they all close by March 31st? Would some of them push?" Ultimately, we did kind of do very well in executing against them. And I think what we learned from that is, "Let's not get ahead of ourselves.
Let's make sure we signal to investors what we see," and as I said earlier, that I used the term, "We're just being prudent. We're not worried. We're just being prudent because we've made some changes," and at the end of the day, we're going to deliver what we're going to deliver, right? To some extent, whether I guide it up or whether I guide it unchanged. What I didn't want to do was convey with a guide up, "Oh, the sales model changes. They're done." People just kind of automatically assume that we're going to see the productivity benefit from that. That's not going to happen until very late in the second half and probably more likely into the fiscal 2026, and we didn't want to inadvertently send that message either.
So I think the point is, and this is the question that I get, is you didn't see anything that gave you increased levels of caution. It's more just you're like, "Hey, it's just early.
Yeah. No, I would say I can tell you internally, there's obviously we have an internal plan. We delivered to our internal plan in the first half. So we did very well. Our signals for the back half of the year still suggest that the demand environment is healthy. We are just, for the reasons that I outlined, we just think it makes sense to be a bit cautious, and hopefully, we will underpromise and overdeliver.
So then, yeah, as we're in Q3 now, what are some of the things that you're seeing? Is it like, "Hey, we're seeing NRR start to stabilize?" I mean, what are some of the signals that you would look at to say, "Now, hey, I actually feel comfortable that we're not going to do 15%-16%?
Well, I mean, let's face it, we'll have another bite at the apple here in our third quarter based on delivering, hopefully, a good quarter and then having a good view of Q4. I'm not going to suggest what we're going to do here on this call, but we'll evaluate it like we always do. Obviously, if you have three quarters of the year completed and you only have one quarter left, we'll have better information to adjust the guidance accordingly.
Okay. This is going fast, Jim. We got to rifle through some of the more of these. This is good, though. So we've touched on some of the go-to-market changes. We've touched on DPS. From a product perspective, you mentioned logs on Grail. It's something that we've been talking about, I think, now for how long has it been? Over two years? Almost two years?
Almost two years.
What are you seeing out there? Because it really seems like the competitive environment is certainly ripe for some additional logging deals for Dynatrace.
Yeah. I mean, we have 25% of our customers now leveraging logs on Grail. So we're in a good place as far as customers trialing the product. I think we've talked about the fact that it's a journey for customers, that some are in the point where they're in the early phase of the journey on logs where they're leveraging our logs because they're learning and they're trialing, and maybe there's some small workloads that they're using. Once they progress through that, they'll move larger workloads, and these are new workloads. And then kind of the third phase is they move existing workloads. And to be clear, we're talking about observability workloads, not SIEM workloads. And we have some customers that have gone through the journey. We mentioned a large airline that is kind of in the last leg of the journey.
That was like, that sales process was going to take like over two years to kind of.
Well, we've actually had a couple of.
12 months.
Yeah, we've had a couple of deals that are like that. We had a very large hotel chain, again, a very large logs expansion, this large airline, and I've used the phrase in the past as hockey stick. That's the way logs will work, is they trial early, and then they add new workloads, add new workloads, and then when they move existing workloads, it spikes, so we're in a much better place, Matt. Obviously, when you first introduce something, you realize, "Hey, architecturally, we probably had something that was maybe better than what existed versus competitors, but maybe there were some things that were missing." We feel like we are in a position now that it's ripe for disruption.
One of the deterrents that is worth mentioning just for a minute. I know we're running out of time, but it is we had a model where we charge for ingest, retention, and query. We call it IRQ. We don't charge much for ingest and retention. We put more weighting on query. We did find that that was a deterrent for some customers because they didn't know how to budget for how many people were going to query. They were afraid that it was a runaway budget. We recently introduced last month kind of an all queries included model. Think of it as it's an all-you-can-eat query model, which is a way of addressing the pain point for customers that were worried about uncontrolled budgets. We actually think we are in a good position. I think that whole area is ripe for disruption.
Excellent. Yeah. It certainly seems like there's a lot of dollars up for grabs, but it could take years to unlock some of those. I'm going to ask one more question, then we'll see if there's something from the audience. I fundamentally believe you guys are a 20% plus grower. I think the building blocks are there. Walk us through what are between new business, expansions, DPS? How do you think about that 20% threshold and getting there?
I start at the highest level, and I say, "What are we early innings or late innings in the observability journey?" And I would say we are still early. There's still a bunch of workloads that don't have the appropriate level of observability on them. And as they move more to cloud environments, the complexity discloses. I start with that, and I say, "We're still early innings in the journey." And then I look at it relative to how much money is being spent with hyperscalers. $200 billion combined with hyperscalers growing in the mid-20s. And you say, "Well, when you look at all the observability players and you add them all up, it's still a small fraction of what that is." So there's a huge opportunity for observability. I start with that. And then I look at where does Dynatrace play?
We play in large enterprises because of the sophistication of our platform, the unification of the platform, the automation of the platform, and the AI of the platform, so we're purpose-built for the enterprise, and when I look at that, I say, "All right, do we have the product that is available?" Our product is recognized widely by industry analysts as best of breed, so recognized by the industry analysts, the portfolio is broadening. We're now adding new use cases for observability like logs. We're extending into use cases around application security, so the ecosystem is there, and now we're tuning the go-to-market model. We're tuning the go-to-market model to try to go aggressive. I mentioned where we're weighting resources. We have a model around leveraging partners more, leveraging GSIs more. I mentioned the sales plays. DPS is a contracting vehicle.
So you add all of that up, there is no reason to say that we are constrained from a market perspective. It's an execution story, and I'd say it's a rate and pace story, but I'd say the opportunity is there to get the company growth rates back to that level. I'm not suggesting that's going to happen in fiscal 2026. I'm just saying I do believe the opportunity.
The building blocks are there.
Yes.
Is there a question here from the group? Yeah. He'll bring the microphone really quick.
Just on logs, we previously had a target of 100 million for that business segment. What is the current expectation for that?
So for those folks that didn't, the question is we had outlined that we had a goal of $100 million of annualized revenue for logs. And I think in our fourth quarter call, we outlined that we actually thought that that would be kind of called the late year. We said fiscal 2026. And the reason we said that is that when we originally set that goal, that goal was an ARR goal. Now that we've introduced DPS, you don't sell SKUs anymore. So it's kind of think of it as it's a lagging metric now. They have to consume to be able to report that level of growth. But the good news is we do believe we are on track, in particular on logs, to be able to meet that goal, yes.
We may have time for one more quick one. Thank you for that question. Going once, going twice.
Sold.
All right. So we talked about a lot of things. And just from my perspective, I think Dynatrace as an investment vehicle is one of the most attractive mid-cap names that I cover right now just because of some of the optionality on upside, both for growth. We haven't really talked about margins either, but that's a whole nother thing. So if you were to leave folks here, what is sort of the single biggest thing that you're most excited about for the future of Dynatrace? Because there's certainly a lot to choose from.
Yeah. I think what I'm excited about is that there's a huge market opportunity for the company. We have a tremendous platform that is very unique in the market, very differentiated. So I think we are in a very good position to capitalize and kind of re-accelerate growth for the company. And I will mention it in closing your point about we, for investors, you get both optionality that I'd say you have the opportunity for very strong top-line growth and profitability and cash flow. So company's operating margins are in the high 20s%. Company's free cash flow margins on a pre-tax basis are over 30%. So very healthy. We've continued to give leverage, expand leverage in the model, and we'll continue to do that and balance investments for growth. So I think we're in a really good position.
Best from all of us at RBC, Jim, and the whole team. Best of luck and thanks for coming.
Thanks, Matt.
Cool. Thank you.