Good day, welcome to Guidewire first quarter fiscal 2019 financial results conference call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Curtis Smith, Chief Financial Officer. Please go ahead.
Thank you. Good afternoon, welcome to Guidewire Software's earnings conference call for the first quarter of fiscal year 2019, which ended on October 31, 2018. My name is Curtis Smith. I am the Chief Financial Officer of Guidewire, with me on the call is Marcus Ryu, Guidewire's Chief Executive Officer. A complete disclosure of our results can be found in our press release issued today, as well as in our related 8-K furnished to the SEC, both of which are available on the investor relations section of our website at ir.guidewire.com. As a reminder, today's call is being recorded, a replay will be available following the conclusion of the call. During the call, we will make forward-looking statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, regarding trends, strategies, and anticipated performance of the business.
These forward-looking statements are based on management's current views and expectations as of today should not be relied upon as representing our views as of any subsequent date. We disclaim any obligation to update any forward-looking statements or outlook. Actual results may differ materially. Please refer to the risk factors in our most recent Form 10-K and 10-Qs filed with the SEC. We will also refer to certain non-GAAP financial measures to provide additional information to investors. A reconciliation of non-GAAP to GAAP measures is provided in our press release. Reconciliations and additional data are also posted in a supplement on our IR website. During the call, we may offer incremental metrics to provide greater insights into the dynamics of our business. These details may be one-time in nature, we may or may not provide updates in the future.
With that, let me turn the call over to Marcus for his prepared remarks, then I will provide details on our results before providing our outlook for Q2 and fiscal 2019. Marcus I will then take your questions.
Thank you, Curtis. In advance of reviewing our Q1 results, I want to convey the Guidewire team's sympathy for and solidarity with those who have suffered terrible losses in the California forest fires. That the companies we serve, primary property and casualty insurers, play so crucial a role in recovery from these events gives our work ever greater purpose and urgency. Total revenue in the quarter was $179.7 million. The year-over-year revenue comparison benefited from the adoption of the new ASC 606 revenue standard, which Curtis will discuss in more detail later, as well as from a contract consolidation that pulled revenue forward from later in the year. Even adjusting for this effect, our revenue exceeded our expectations for the first quarter of fiscal 2019, as did non-GAAP income of $0.36 per share.
During the quarter, we saw market demand for Guidewire Insurance Platform continue to build for core applications as well as our data and digital products. We hosted our annual user conference, Connections, in Q1 and attracted record attendance from customers, prospects, and the growing SI and technology partner ecosystem, who are eager to participate in Guidewire's expanding role in serving insurers during a time of particularly rapid change: change in end market behavior, change in the competitive landscape, and change in the underlying risks that insurers indemnify. During the conference, we announced a new major release of InsuranceSuite optimized for the cloud, version 10, as well as the 2018 release of the broader Guidewire Insurance Platform, of which InsuranceSuite is a central component.
The conference further enhanced our optimism about the market demand we see for Guidewire Insurance Platform, both core applications that replace legacy systems and digital engagement in analytics and data services products that complement the core in the U.S. and internationally, especially in continental Europe. At the conference, we also elaborated on our investments in Guidewire Cloud to drive cloud-based delivery of the entirety of our platform while providing our existing customers the flexibility to transition to the cloud when they are ready. Their positive response to this message strengthened our pipeline for both InsuranceSuite and InsuranceSuite Cloud opportunities, though our early experience suggests that cloud engagements are more complex to close. We did not close an additional InsuranceSuite Cloud deal in the quarter, we remain confident that we will close four to eight InsuranceSuite Cloud deals within our fiscal year.
Our all-in-one core system, InsuranceNow, also contributes to Guidewire Cloud adoption. During the first quarter, Oklahoma Farm Bureau Mutual Insurance Company, an existing on-premise InsuranceNow customer, decided to meaningfully expand their investment with Guidewire by entrusting us to manage their instance of InsuranceNow via Guidewire Cloud. We believe that other on-premise InsuranceNow customers will follow their lead onto Guidewire Cloud over time. We continue to anticipate that between 40% and 60% of new sales to come via subscription agreements for the year. In Q1, that number was 26%. With respect to new sales, we had an active first quarter, adding four new customers that selected a broad range of Guidewire Insurance Platform products and 10 existing customers that selected additional products.
Aioi Nissay Dowa Insurance Europe, a $500 million DWP subsidiary of MS&AD, one of Asia's largest insurers, selected a broad range of products that included InsuranceSuite data and digital, and other products. Optimum General Inc. of Canada selected PolicyCenter, Rating Management, and Reinsurance Management. The Portage la Prairie Mutual Insurance Company, also in Canada, selected ClaimCenter. Zurich Financial Services Australia selected ClaimCenter, which further expanded our relationship with multinational insurer Zurich Insurance Group. Selected customer expansions included Donegal Insurance Group, which became a full InsuranceSuite customer with their selection of PolicyCenter and further extended their Guidewire commitment by selecting data and digital products, along with rating and other add-on modules. Connecticut Interlocal Risk Management Agency added Predictive Analytics. Farm Bureau Mutual Insurance Company of Idaho selected Rating Management.
A number of customers, including EUI Limited, Fred Loya Insurance Agency, Insurance Australia Limited, Jewelers Mutual Insurance Company, and Pekin Insurance Group added digital products. Our customer success continues to rely on an alliance of Guidewire services and our growing ecosystem of systems integrator partners. During the first quarter, seven customers had core data or digital go-lives, and nine customers completed major version upgrades of core InsuranceSuite products. We also continue to win the recognition of independent industry analysts. Gartner recently recognized InsuranceSuite for the second consecutive year in Gartner's Magic Quadrant for P&C core platforms in North America. Gartner also initiated a new Magic Quadrant for non-life insurance platform in Europe. Both reports represent Guidewire as the leader on the two dimensions of completeness of vision and ability to execute.
In summary, we're off to a solid start for the year in the first quarter and believe that our value proposition is more compelling than ever to P&C insurers navigating industry change and seeking competitive advantage in a rapidly evolving marketplace. As we drive further standardization and reduce TCO as the platform of choice for the $2 trillion global P&C insurance industry, we enable our customers to operate more efficiently through core process transformation and Predictive Analytics, while better serving their policyholders through digital engagement. I now turn the call over to Alex to elaborate on our results and financial outlook for Q2 and FY 2019.
Thank you, Marcus. We began fiscal 2019 with an accounting transition to ASC 606. This transition caused increases to our license and subscription revenue for the quarter. Even with those impacts, we began the year by exceeding our guidance for revenue, operating income, and earnings per share in Q1. Total revenue in the first quarter was $179.7 million, an increase of 66% from a year ago. License and subscription revenue, which we previously referred to as license and other revenue, was $94.3 million, representing an increase of 210% from a year ago. This outsized growth rate is positively impacted by four factors. The two largest factors were included in our outlook provided last quarter. First, and most notably, due to ASC 606, a number of our term contracts that we previously recognized on a quarterly basis due to quarterly invoicing terms will now be recognized upon the annual renewal.
This anticipated change moved approximately $12 million in revenue from latter periods in fiscal 2019 into Q1. Second was the start of a 10-year term license contract in Q1, which accelerated over $10 million of term license revenue into Q1 when compared to a typical new two-year term license contract. Third, in addition to those anticipated factors, a customer consolidated multiple contracts into one agreement, pulling forward approximately $9 million in revenue from latter quarters in fiscal year 2019. Fourth, license and subscription revenue benefited from approximately $3 million of hosting revenue moving from services under ASC 605 to subscription under ASC 606. These last two factors were not considered in the outlook we provided last quarter. Even without these two items, we exceeded the high end of our license and subscription revenue guidance for the quarter.
Subscription revenue was $15.3 million, compared to approximately $3 million a year ago, and we had no perpetual license revenue in the quarter. Maintenance revenue was $21 million, an increase of 11% from a year ago, and was also above the high end of our guidance range. With our subscription growth, we continue to expect maintenance revenue to grow more slowly than license and subscription revenue, as support is included as a part of the subscription fees. Services revenue for the quarter was $64.4 million, up 9% from a year ago. Turning to profitability. We will discuss these metrics on a non-GAAP basis, and we have provided the comparable GAAP metrics and a reconciliation of GAAP to non-GAAP measures in our earnings press release issued today.
With the primary differences being stock-based compensation expenses, amortization of intangibles, the amortization of debt discount and issuance costs from our convertible note, and the related tax effects of these adjustments. Gross profit was $109 million in the first quarter, up 98% from a year ago due to the revenue growth already discussed. Gross margin for the quarter was 61% compared to 51% a year ago. The increase in gross margin for the quarter is largely related to timing of revenue previously discussed. Services gross margin for the quarter was 8%, down from 20% a year ago due to continued investments in ongoing cloud implementations and capacity for future implementations.
Total operating expenses were $77.3 million in the first quarter, an increase of 22% from a year ago, consistent with our strategy to continue investments in R&D and sales, as well as the impact of our ISCS acquisition that was completed in Q2 of fiscal year 2018. As a result, operating income was $31.7 million, exceeding the high end of our guidance range largely from revenue upside, representing an operating margin of 18% for the quarter. Net income was $29.9 million or $0.36 per diluted share. Turning to our balance sheet, we ended the quarter with $1.2 billion in cash equivalents, and investments, a decrease of $29 million from the end of the fourth quarter, primarily due to the seasonal use of cash for bonus and commission payments in the first quarter.
Also consistent with normal seasonality, operating cash flow was an outflow of $27.2 million compared to an outflow of $31.2 million a year ago. Free cash flow was an outflow of $30.7 million compared to an outflow of $33.7 million a year ago. As we turn to full-year revenue guidance, it's important to note the following. A meaningful portion of our license and subscription revenue upside in the first quarter was due to timing of revenue recognition previously discussed, and therefore does not have a significant impact on our full-year expectations. Our updated guidance includes approximately $12 million in expected hosting revenue that is now reflected in subscription revenue due to the adoption of ASC 606. Under ASC 605, this was included in services revenue. We now expect a later start for certain InsuranceSuite cloud engagements to reduce our services revenue expectations for the year.
This dynamic is neither due to new competitive pressures nor changes in cloud demand, but reflective of prospective customers conducting comprehensive reviews before migrating mission-critical core systems to the cloud. With that backdrop, we now expect total revenue for fiscal 2019 to be in the range of $722 million-$732 million, an increase of 9%-11% from fiscal 2018, and a decrease of $19.5 million at the midpoint from our prior outlook due to the lower expected services revenue. We are increasing our license and subscription revenue guidance to be in the range of $379 million-$389 million, an increase of 20%-23% from fiscal 2018, reflecting the increase in subscriptions and ongoing momentum. Reflecting the change to hosting revenue, we are increasing our subscription revenue outlook to $60 million-$66 million this year.
We continue to expect perpetual license revenue to be less than $10 million for the year, down from $11.8 million in fiscal 2018. We are increasing our maintenance revenue outlook to be in the range of $81 million-$83 million for the year. We anticipate services revenue to be in the range of $257 million-$265 million. Compared to our prior outlook and adjusting for the change in hosting revenue, this represents a decrease of $22 million at the midpoint, which reflects the timing of InsuranceSuite cloud deals previously mentioned. With respect to gross margin, we still expect overall non-GAAP gross margin to be between 59% and 61%. This margin profile is positively impacted by lower services as a % of total revenue, offset by declining services margin. We now expect services non-GAAP gross margin to be between 12% and 13% in this fiscal year.
We are modestly increasing the midpoint of our outlook for non-GAAP operating income for fiscal year 2019, which we now expect to be in the range of $106.5 million-$116.5 million, representing a non-GAAP operating margin of 15% at the midpoint. With respect to cash flow, we continue to expect cash flow to be between $115 million and $130 million before the one-time impacts associated with the buildup of our new headquarters, which is expected to be approximately $35 million-$40 million and completed in fiscal 2019. In addition, our outlook for non-GAAP net income is $102.7 million-$110 million, or $1.24-$1.34 per diluted share. Based on approximately 82.8 million diluted shares and an assumed non-GAAP tax rate of 17% for fiscal 2019. Turning to the second quarter, we anticipate total revenue to be in the range of $157 million-$161 million.
Within revenue, we expect license and subscription to be in the range of $75 million-$79 million. We expect Q2 maintenance revenue of $20 million-$21 million and Q2 services revenue of $60 million-$63 million. For the second quarter, we anticipate a non-GAAP operating income of between $12.5 million-$16.5 million and non-GAAP net income of between $14 million-$17.3 million, or $0.17 per share-$0.21 per share, based on approximately 82.6 million diluted shares. In summary, it was a strong Q1 and a great start to fiscal 2019. We understand the complexities of ASC 606 create in our reported financials and are pleased to have outperformed our Q1 guidance, even after normalizing for the one-time contract consolidation.
We remain confident in the cloud demand we are experiencing and in the cloud transition progress we are making as we continue to focus on growing our recurring revenue. Thank you. Operator, you can now open the call for questions.
Thank you. If you would like to ask a question, please signal by pressing *1 on your telephone keypad. If you're using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Again, press *1 to ask a question, and we'll take our first question today from Dylan Becker with William Blair.
Hey, guys. Can you hear me okay?
Yes, indeed.
Great. Maybe I missed this in the prepared remarks, but the ARR targets that you set out at your annual Analyst Day to 15%-18% growth, are those still on the table, just given some of the push out? Can you give a sense for with some of these cloud deals that keep pushing out what you feel like, Marcus, the linearity this year might look like versus last year or years past? Does it feel like it's going to be abnormally back-end loaded or any kind of commentary there would be helpful?
Yeah, sure. On the ARR
When we put the annual range out for the year at Analyst Day, we indicated that we would be providing an annual update for it, annual guidance, but that we wouldn't be updating that number on a quarterly basis. Our view for the year, though, is we're maintaining the range that we provided at Analyst Day and confirming it.
To your other question, Justin, as you would guess, pursuing and closing the InsuranceSuite Cloud deals is absolutely paramount. It's the strategic objective for the year and probably will be for years to come for the sales team. We would love to have a more linear year than it looks like we will have. We believe we have more than enough demand in order to meet our targets. Each individual transaction is enormously complex, in part because we have not yet established, negotiated, and market-validated standards for all the different dimensions that we're negotiating, economics aside. That's actually a familiar pattern to us from when we brought PolicyCenter, our second major core system, to the market or brought our data and analytics products to the market.
It's the kind of journey we have to go through with every new offering, InsuranceSuite Cloud is absolutely like that. If anything, only higher stakes. The deals are definitely more back-end loaded than ideal, we're committed to meeting or exceeding the targets that we talked about at our Analyst Day. We're confident that we have enough at-bats to achieve that within the year and then beyond.
Okay, great.
Curtis, again, just let me correct one statement I misread on my script, that has to do with the four factors that impacted our revenue beat. I mentioned the two largest factors were included in our outlook provided last quarter. The first one, most notably due to ASC 606, a number of our term contracts that we previously recognized on a quarterly basis due to quarterly invoicing terms will now be recognized upon the annual renewal. This anticipated change moved approximately $20 million in revenue from latter periods in fiscal 2019 into Q1, that's the correct number, $20 million, versus I think what I said was $12 million.
Okay, got it. Maybe just, Curtis, just given the last couple of quarters, the magnitude of the services cuts, I think part of it last quarter was around systems integrators. This time it seems like it's all about the timing of deal closure. Can you just give us a sense? I think the last update was you were assuming these two deals would close in the first half of the year. What are you assuming now? I guess what gives you the confidence that a quarter from now, we're not looking at another services cut? Thanks.
Yeah, that's right. In this quarter, we indicated the services cut was related to the start date of anticipated IS cloud deals. That we noted in our script here, in our prepared comments, that we're now expecting those four to eight to be more back-end loaded. We noted that we didn't close an InsuranceSuite cloud deal in Q1.
Okay, got it. Are you expecting them in Q2 or no, in the back half?
Yeah, at this point, Justin, we've taken a more conservative look and assume that they're going to happen in the second half of the year. Obviously, we're trying for them as soon as to happen in the second quarter, but took a more conservative approach of assuming that they'll happen in the second half of the year to avoid precisely what you suggested. To be clear, in both cases, these are non-competitive. These are primarily about negotiating all the different dimensions of delivering the solution with heightened service levels and security expectations on the part of our prospect.
Got it. Thank you very much.
Next, we'll hear from Sterling Auty with J.P. Morgan.
Yeah, thanks. Hi, guys. Want to follow on in terms of the insurance cloud deal closures, especially looking at how the stock's reacting after hours. I think whenever software companies talk about deal slippage, there's always concern. Marcus, as you kind of mentioned, a couple of them not being competitive. Looking at those deals, how much of this is demand-driven, meaning that, do your customers have the motivation to be buying this shift to the cloud now? Or is there any concerns from either macro or anything else that could further delay when these closures, or is it simply just it's a shiny new toy and everybody's got to get comfortable with all the bells and whistles to sign on the dotted line?
Yeah. Thanks for the question, Sterling. I don't think the demand is motivated by novelty. I think that this has been a long-sought-after set of a transfer of accountability and complexity to Guidewire's shoulders that our customer base has been seeking for quite a long time. That was our intentions and our investments. Really explicit commitments during the user conference and in other one-on-one conversations have all been really enthusiastically received. When we're trying to formalize and transact on that intention, it's been daunting, the sheer number of questions and expectations and audits and other participants who get involved in that deliberation. In many cases, insurers have not entrusted really any core or mission-critical applications to the cloud.
While they are absolutely resolute in their pursuit of the benefits, simplification, transfer of responsibility, over time, declining unit cost and computing, and all of the things that, all the benefits the cloud brings. They have a lot of hurdles that even our internal sponsors have to jump through. We're alongside them in that process. We have every confidence both in the underlying demand, because this is just the winds of history blowing all in this direction in this requirement. Also that these discussions will get more and more simple as we establish negotiated standards in the market. We are in the early days of it for the whole industry. The going has been more complex and more bespoke in these conversations than ideal. Nonetheless, we stand by our targets for the year.
Just one point of clarification, the four to eight wins, are those all four to eight expected to be brand-new customers to Guidewire, or are any of those existing customer conversions? If it's brand-new customers, you mentioned, I think, a conversion that you won during the quarter. What should we expect in terms of existing customers deciding to make the move?
It'll be a mix of both of those. We have demand coming in both flavors. There's actually kind of a third flavor, where we have an existing customer that is adopting cloud for a business unit or a portion of their premium that is not yet licensed for us in the traditional model. All 3 flavors, net new customers, conversions of existing customers, or existing customers doing new sets of business. They're all represented in our pipeline. It would be a little difficult to call exactly what the final mix will be, but if I had to guess now, I would say all 3 types will be represented in the final new customer count.
Got it. Thank you.
We'll now hear from Monika Garg with KeyBank.
Hi. Thanks for taking my question. This latest start of engagement of cloud deals, what you talked about, just as a follow-up, how many you've thought got pushed out? Is it one deal or two deals, or could you share the number?
Well, Monika, as you'll recall in our Q4 call, we had hoped to get an additional two InsuranceSuite cloud deals done actually within the last fiscal year. We shared that both of those have pushed into this year. We're still engaged in those two, as well as a host of others that we're striving to get closed within the year. We've made a lot of progress on those, progress doesn't count until we have a final consummated transaction. That's what we look forward to sharing over the next couple of quarters.
Got it. Just given that in the two quarters we have seen the slippage of the deals because of the complexities. You gave us the five-year targets on the subscription and the cloud transition. Kind of do you feel confident about achieving that, or do you think, given it is taking longer to close, it could be that those targets do you feel are conservative enough or we could see some of that still not coming into the cloud and coming as InsuranceSuite deals?
Right. There are unknowns here, Monika, you know that it's not our nature to try to get ahead of ourselves and forecasting points of inflection that we don't know exactly when they will happen. The source of our confidence, though, is that the underlying demand is so sustained. It's so broad across all the segments of our customers in different geographies by different lines of business, whether they're mutual companies or publicly traded, whether they're large or small. There's just a remarkable almost unanimity across our customer base that sooner or later, what they want is no longer an IT asset, but a business service relationship where we're delivering a highly standard platform as a reliable business service. It's almost now received wisdom, common sense across the industry.
Now it gets to the specifics of can they go through all the steps of validation that we're worthy to take on that role for a mission-critical system as a transactional source of truth for their entire customer base and business? That's the question. There's no question that we are the right party to evaluate, but even longstanding relationships don't entitle us to that next stage of relationship. Most of the discussions are not really economic in nature. They're much more about substantiating our bona fides to house the really sensitive mission-critical data to deliver the high service levels that are required, and then, of course, negotiations about all the liabilities and risk transfers that are part and parcel of these kinds of deals.
Thank you so much.
Tom Roderick with Stifel has our next question.
Hey, guys. Thanks for taking my question. We got a lot of moving parts here, obviously. If I kind of look at the bigger picture, there is a big beat in the first quarter, some of it coming from later in the year, so kind of a pull forward from that. At the end of the day, services revenue a little lighter than you expected for this year, just given a little bit more conservative outlook on timing of the cloud deals. If I think big picture about it, I guess the question would be: Is the demand environment really changing much out there for you?
Is it simply timing on InsuranceSuite Cloud kind of tricky, core demand for everything else that we've historically talked about steady as always, then the big picture around ASC 606 and all these timing movements is a lot of noise, we'll get through that. I guess the big picture is with all the stuff going on out there in the economy, what's changing for you?
Right. If you bracket out all of the accounting considerations, which I personally don't focus on tremendously myself, just on the underlying demand, I would say the demand is more robust than we've ever had it. You've heard me voice that on our other earnings calls and at our Analyst Day. There is more dynamism and change in the industry in the present than there was for most of Guidewire's history, all of that motivates technology investment. The way that consumers, the end market that our insurers serve is changing, their rising expectations absolutely cannot be met with existing platforms, with the legacy platforms, that is. The drive of digital engagement, of new product offering, of much better business agility, of much leaner and more automated operations, all of these things are more urgent, more deeply felt than ever.
We are seeing that across all market segments, in particular, very excitingly for us, also in Europe, which has been a challenging place for us historically, now where we have more activity than ever before. That's kind of exogenous to us. That's just happening because of just the industry and the market. On top of that, we have taken a very assertive stance in the market that we believe that the platform ought to be cloud-based, that insurers should not be trying to, over time, have an IT relationship with Guidewire, really a cloud-based business service relationship, as I alluded earlier. That has, I think, created its own complication. On the one hand, it's agitated a lot more interest because that's what insurers are really seeking.
The surface area of evaluation is much broader than it was before. There are many more questions to be asked of us, many more credentials that we're expected to supply before entering into that relationship. That's where we find ourselves with more sales activity, more customer engagement than ever before, but where each of the major relationships are a little bit more difficult to wrestle to the ground. Again, as that becomes more routinized, we think that we'll be the beneficiary of it. That's the year that we're in right now.
Yeah. Good. That makes a lot of sense. That's helpful. Marcus, you talk about digital engagement quite a bit, and it seems like the partnership you've had with Salesforce has been one where you can take advantage of their presence in the front office. They're taking advantage of your awareness on the policy and claims side. I'd love to hear a little bit more about perhaps digital as a means of sort of accelerating your install base of potential customers to the cloud, to the extent that they may already be going there in the front office with pure play cloud vendors like Salesforce. Does that accelerate the demand with your digital offering, or will that still be sort of a little bit slower approach on the cloud side?
Well, two points here, Tom. Number one, digital is probably the single biggest catalyst for major IT investments with our end markets. It's probably true of a lot of enterprise in other industries as well, but certainly among insurers, digital is the driving catalyst. There's a need to completely transform the interaction that insurers have with primarily their policyholders, secondarily their distribution channels, and then thirdly even with their supply chain partners who are involved in the claims process, for example. All of those need to be in a much more digital modality than they are today. That, in turn, has led insurers to realize that their core system environment just won't support the kind of digital interactions that they need for the future. You just can't paste those onto a 1980s COBOL mainframe. It's just not designed for that.
That's in turn motivating core system evaluations, which is all to the good for us. Even if the initial business motivation may be digital distribution, that may lead to the decision to seriously evaluate core policy replacement which is what we want. Now, the second part of your question is about the relationship with Salesforce. That's been very productive. We're hopeful of announcing a couple of meaningful wins this year in collaboration with them, where we're collaborating very effectively in the field where we have wholly complementary value propositions. They do things that we will never do, namely deliver all of the horizontal CRM capabilities that insurers are seeking.
In turn, they will never build an insurance core system, and these two universes have to work together to deliver what insurers want, which is a 360 view of the customer and a really satisfying consumer-grade digital experience for both internal and external users. That's our value proposition together. The relationship with Salesforce is a component of our digital value proposition, but is not the entirety of it. For some insurers, it's hugely exciting, and is where they want to talk about digital. For others, it's kind of off to the side, and what they really need is core system replacement complemented with digital engagement for customers and distribution partners.
That's great. Really helpful. Thank you, Marcus.
Our next question comes from Ken Wong with Guggenheim Securities.
Hey, guys. I wanted to touch on the two large contracts that fell into Q1 a little bit. First, you mentioned kind of a 10-year deal that seems a little longer than I'm used to hearing in the past. Then second, the consolidation. Any of that have to do with kind of customers seeing kind of a shift to subscription and maybe trying to do some last-minute buying and making sure that they can kind of lock in the ability to buy the way that they have purchased in the past?
It's an interesting question, Ken. I think these are both kind of anomalous one-off cases where it really was not about a technology decision. I think it was more about their own internal accounting and capital allocation requirements. One of the cases was a European insurer that was just very dogmatic about capitalizing the investment on a 10-year horizon, and they just needed the contract to conform to that. If it were a U.S. insurer, we probably would've been a little more resistant, even though there's something perverse about this because, of course, we like long-term relationships. Historically, we've been proud of the fact that we had five-year-plus contract durations. The new accounting regime has kind of thrown us for a loop, and we've adapted to that with a much more annual kind of subscription model.
This one European customer was just absolutely adamant that they needed it on a 10-year horizon, so we found ourselves in the perverse position of reluctantly agreeing to what we always would have wanted historically. The accounting for that, again, led to a kind of acceleration of recognition. That's not the norm, and I don't think it was motivated by any kind of macro or market consideration. The other case was a renegotiation or a kind of consolidation of a long-standing customer we've had, also international. They've licensed many of our products across many different portions of their multinational business over the years, and we both wanted a full rationalization of that under a single contract. So we did that, mostly motivated just by business considerations to keep things simple.
The accounting that followed from that was almost an afterthought, but that's what we reported today.
Got it. Then, Alex, in terms of the moving pieces on top line, I'm just wondering if license is benefiting from any additional shift in hosting revenue from services up to that particular line, and obviously the inverse for whether or not that's a headwind to services.
That's one of the things we noted, Ken, in some of the reasons for the growth rate in Q1. The fourth item that we noted, or factor, was license and subscription revenue benefited from approximately $3 million of hosting revenue moving from services under ASC 606 to subscription under 606. For the full year, that was a $12 million amount that came out of our services outlook and we put into our license and subscription. That was the impact on the hosting revenue moving from services to subscription.
Okay, perfect. Yeah, I missed the $12 million. Thank you for the clarification.
Yep.
Michael Turrin with Deutsche Bank has our next question.
Hey, good afternoon. Thanks. Marcus, in fiscal 2018, you started to see some more notable recent strength in Europe that could be pointing to more of a tipping point there. Wondering if we could get an update on that region. Is it still showing similar signs of momentum, or does the added complexity around the cloud transition have a more pronounced impact on some of the overseas regions as well?
We continue to be really enthusiastic about the traction that we're getting in Europe. The region meaningfully exceeded its target last year, and we're hopeful that they'll do so again this year. I just returned from there a few weeks ago and felt great about what I saw in multiple countries in terms of just the level of engagement that we're getting. I don't want to overstate that. These are still extremely conservative organizations, and as always, we have more evaluation friction there than we do in the U.S. or English-speaking countries. Nonetheless, we feel very positive about that, and we've invested accordingly. The cloud discussions are relevant in Europe. I would say they are maybe a half step or so behind where they are in North America. I couldn't give you a specific reason for that. It could be cultural.
It could be just additional conservatism on the part of companies working with a U.S. vendor. We're not sure. There's a lot of this interest in cloud certainly as a theoretical subject that will become relevant later. For the most part, our discussions in Europe are still focused on the traditional on-premise model and licensing model for now. We have every expectation that will evolve over time just as it is here in North America.
Helpful. Alex, it sounds like ASC 606 adoption had more of a positive impact in Q1. First, is that a fair classification? Secondly, are you still expecting that overall impact to be closer to neutral as we work through the course of the year? Thanks.
On Q1, that's a fair comment. We noted the 10-year multi-license contract in Q1, which accelerated over $10 million of term license revenue. We noted this when we provided outlet that we were expecting it. It came in a little bit above our expectation when we finished closing it out, and that did bring some revenue from future years into fiscal 2019 and directly into Q1. The other impact of ASC 606 on the quarter brought revenue from periods later in the year into Q1, and this was also anticipated when we provided our initial outlook for the year, and that's that approximately $20 million that I referenced in my comments that came from later years in fiscal 2019 into Q1 due to the quarterly invoicing of those contracts now being recognized on annual renewal in Q1.
Got it. Thanks, guys.
Our next question comes from Rishi Jaluria with D.A. Davidson.
Hey, guys. Thanks for taking my questions. Curtis, I'll start with you. On the subscription side, can you maybe help us directly understand what the components of that number are? How much is actual InsuranceSuite Cloud versus cloud services versus InsuranceNow versus the $3 million of hosting that you talked about within the quarter? Alongside that, you talked about subscription guidance for the full year. It essentially implies that subscription revenue is going to be flat for the balance of the year. I'd expect that line to be growing. Maybe help us understand that, and then I have a follow-up for Marcus.
Sure. We noted in the quarter that the subscription revenue was $15.3 million, versus a year ago, it was approximately $3 million. Then we updated our guidance on our subscription revenue outlook to a range of $60 million-$66 million, and that includes the additional $12 million in hosting revenue that was previously in services revenue and is moving into our subscription revenue outlook. You know one component of that $60 million-$66 million is going to be the $12 million in hosting revenue for the year. We have not split out the other components or how that divides up within subscription. Subscription is a new metric that we've been providing. You'll see it in the press release in our 10-Q, but we don't break it up beyond showing it as a line item of our overall license and subscription revenue.
Just alongside that, if you're doing $15 million in subscription this quarter, based on a $60 million-$66 million guide, you're essentially saying that subscription revenue is going to be flat for the next 3 quarters or maybe marginally up sequentially. Why would that not be growing faster?
We don't break out the amount per quarter. We just have given the annual guidance for the year. It's a $60 million-$66 million. I hear your point. If you're doing math on the $15 million in quarter, it's another $15 million per year to get up to the $60 million-$66 million. Also one of the things we'd note too, that with the subscription revenue, because it's ratable, it can be back-end loaded. You're going to get more of it if you start a subscription agreement early in the quarter. You're going to see more of that subscription revenue come in the 4th quarter. That's one of the components that might be factoring into that number.
Thanks. Marcus, last quarter, you mentioned that maybe there are some difficulties on the InsuranceNow business. Just wanted to see, other than the conversion that you talked about in the quarter, any updates just on how the InsuranceNow business is trending.
The conversion was an important one. That was almost a resale of the product and the company to that customer and it very materially increased the value of that relationship, the recurring revenue of that relationship. We expect that that'll happen pretty much with the rest of their self-managed installs right now over time. As for net new customers, I think we feel we have a handle on what's been challenging over the previous period. We have a new business leader who's driving the alignment of go-to-market and product, who's a longstanding Guidewire leader that took the assignment about half a year ago and I think is having a really good impact. We think that the underlying demand for the product in that market segment is as strong as ever.
With those ingredients and with the commitment to better sales execution, we think we can do materially better this year than we did last year in that product area.
Okay, great. Thanks, guys.
We'll now hear from Brad Sills with Bank of America Merrill Lynch.
Hey, guys. Thanks for taking my question. Wanted to ask about getting these customers over the hurdle with InsuranceSuite cloud. Is there something about the architecture or the data center model that whether it's hosted or do you need to go to multi-tenancy? Is there some kind of investment that you might need to make to make it easier to kind of get these customers over the hurdle for adoption?
No, Brad, as best as we can tell, there really isn't an architectural hurdle here. It's entirely about a risk aversion at war with a pursuit of opportunity and benefit that our customers are going for. They need to overcome that risk aversion by doing lots and lots of validation, confirming that we understand all of their data sovereignty requirements, a ton on info security. There's a lot of negotiation around liabilities and indemnification on different theoretical bad outcomes that can happen. Then there's just a governance process that sometimes our customers have to discover for themselves about what it takes, what levels of approval they need in order to make a decision like this. It's almost always now a board-level topic. We're not a stranger to having to build serious institutional consensus for a company to work with us.
We're seeing that kind of maybe doubled now when we're talking about these cloud relationships because our customers tend to see that as kind of a one-way ticket, that once they make this decision, they're really entrusting us for the long haul. Which is true for core systems, but they, in a sense, feel is doubly true when it comes to the cloud because now it's not only the application that they're betting on, but a division of labor that would be very difficult for them to reverse in the future. I think it's rational for insurers to want to think about that very carefully and all the implications of it. That's what's involved in these discussions. What makes that easier over time, I think, is simply repetition and greater market adoption.
Just because this isn't a novelty, this is really responsive to the most strategic needs that our customers have, that's what we're responding to here, that's why they're investing the time to do these explorations. Once we validate that with a growing number of customers in our nearly 400 customer community, we think that there really will be a momentum behind that feels more and more like inevitability.
Great. Thanks, Marcus. One more, if I may, please.
Sure.
It sounds like you're seeing real good traction here with data and digital. Any color on maybe some of your larger customers in terms of some of the use case scenarios where they may be going deep on the analytics via platform? What are some of the things that you're seeing the offering used for? Thank you very much.
Yeah, sure. They're really two separate sides. Data and digital are quite different in their value proposition. Most of what insurers want out of data are a combination of data visualization, just being able to see a much larger universe of data and interpret it better, and sometimes combine different universes of data that are difficult to interpret when they are in raw form, such as geolocation data with climate data, with financial and policyholder data. The new visualizations that we offer, I think, are quite compelling, even though insurers now have to figure out how to operationalize their usage of that. There's Predictive Analytics, which is just making better high-volume decisions by taking out some of the guesswork and just doing them in a more systematic, data-driven fashion, which is what machine learning is ideal for.
We've shown that we can create uplift across many of the core insurance decisions about whether to take on business and underwriting, how to think about a claim, how to think about the customer value and whether you want to renew them and at what price, et cetera. Those are the kind of very standard data use cases that insurers are really beginning to pursue now and where we think we're very well situated. On the digital side, simply put, it's about creating more and more of a consumer-grade experience for all of the distribution and service interactions that insurers have to support. Here the standard is not being set by any particular insurer. It's being set by Amazon, by Uber, by Apple. By the consumer internet. That's a very high bar, especially when you consider how complex insurance products are.
Every insurer feels almost an existential need to get closer and closer to that standard because that's what their distribution partners and their customers want. We have years of collaboration and additional products and market developments to go in digital. It's not a one-off phenomenon that will satisfy the requirements. The expectations are so expansive, and the gap is so wide that we will be, I think, at work in the digital arena for many years to come. That's a great opportunity for us because it's a more compelling transformation than simply the back office functions that have been our traditional focus for the first decade as a company.
That's great. Thanks so much, Marcus.
We'll now hear from Peter Lowry with GMP Securities.
Thanks. Taking my question. On the cloud InsuranceSuite deals, it's mission-critical, so I get all the validation and the steps that they're taking to manage their risk. I guess the question is, how much are industry best practices moving towards you, or is there anything there that people are trying to figure out?
I'd say, well, we have more insurers, more customers saying that the future is cloud for them, that they cannot afford the proliferation of IT complexity. They cannot afford the degree of customization that they have across their enterprise for all their systems. They need the simplification of the division of labor that's inherent in the cloud, and that, frankly, their business users just don't really care where the blinking boxes are located. They just want a function that works. That's a kind of universally felt sentiment. I think where there's much more divergence is, well, how ready are we as an insurance company to entrust an outside party to domicile all of our customer data? What questions do we need to ask? How much diligence is enough diligence to feel that we've done our job, right?
How much liability is it appropriate for the vendor to hold? How much can we as an insurer take on? How much is insurable? These are the questions being wrestled with. I would say there really is not an established industry norm on these questions. We find ourselves often referring to or invoking the examples of Workday and Salesforce who have a somewhat meaningful insurance customer base to say, "Surely you cannot hold us to a higher standard than these titans." Yet sometimes the reply is, "Actually, we have to hold you to a higher standard because what we're asking you to do is more strategic and mission-critical than what we do with Salesforce or Workday." That's the nature of the conversations we're having.
We sense that over time, these will just become more and more natural, more and more routinized, as we have more examples to point to.
Okay, great. Just quickly, could we get an update on your M&A stance with your $1.2 billion of cash or your capital allocation in that regard?
A fair question. We have no imminent announcements. The energies of the core team here are focused almost entirely on cloud these days. That said, this time of enormous investment in technology innovation and insurtech. The insurtech phenomenon is still going strong. We still believe and are told all the time that we are the logical consolidator, that we are the most logical home for a lot of these technologies, both by our customers and sometimes by the technology companies themselves. I think we're in a prime position to act when we find the right fit. Again, valuations are still quite daunting. The thing that we're most mindful of right now is not getting distracted from job one, which is obviously the cloud transformation. I think we're in a target-rich environment, but also not in any rush.
It's extremely unlikely that you'll see us announce anything very consequential until we've really shown the kind of traction that we're committing to here with cloud.
Great. Thank you. Our next question will come from Alex Zukin with Piper Jaffray.
Hey, guys. Marcus, just going back to the pushed cloud deals, just to finish that thought, is this about the two deals that are pushing from the first half to the second half, or were there other deals that you were expecting to close in the first half that have also pushed out to the second half? I have a couple of follow-ups.
I'd say that we're still range-finding on just how long it takes to get one of these deals done or what the steps are, I should say. Less a temporal question than a kind of process and stage question that we have to go through with customers. It's fair to say that we were surprised in the other two cases, because in both cases, there were additional cycles of evaluation by different constituencies that we normally have to interact with that really wanted to weigh in on the cloud decision. That's what's taken a lot longer than we had hoped. Insurers will differ in this respect, but I would say as a broad pattern, there are just more people who have to weigh in and evaluate with more questions than has been our historical norm.
There are cases where the decision is largely made, and then it's a more conventional commercial negotiation. On the whole, it is a different set of questions with more reassurances, more personal commitments that have to be made, more trips to visit boards than we have had for our core system sales for a long while.
I guess, the confidence around continuing kind of the ARR growth that you guys reaffirmed on this call and the four to eight deals this year, correct me if I'm wrong, but it sounds like your confidence is stemming from a volume of deals perspective. If the velocity of all of these deals is a lot longer or just longer than you anticipate, is there something that you feel like with these two you're going to figure out and then be able to replicate on those? Or just again, what is giving you the confidence that all of these deals, no matter how many of them, are just going to take a lot longer than you anticipate?
Well, we're not shooting in the dark, Alex, nor are these all at a standstill, or we are just at first base on all of these. Some of these are more advanced discussions that we have varying degrees of confidence of getting done within the year. As always, it's a portfolio estimation of how many we can get done within the timeframe. It is a forecasting challenge for us right now because, on the one hand, we have a very high volume of deals in pursuit. As we've been talking about today, there's more variance, and there's been more negative variance in the amount of time it takes to get them closed.
On the other hand, this is less an FY 2019 question than kind of a two or three-year modeling question, we have every reason to believe that with an initial corpus of adopters and success stories that flow from them, including the ones that we already have in production today, that there'll be a meaningful acceleration. We have a large customer base, several hundred customers that have been seeking this and are looking to make this transition, whether or not they're prompted by us. It makes for a challenging forecasting question for us, but the best we can do is say we think we have enough targets that are sufficiently advanced as a portfolio that we can make our publicly committed target for the year.
Got it. Then maybe just one final one. With some of your larger existing customers that aren't maybe on the most modern version of the Guidewire platform, can those customers jump directly to the cloud version, or do they need to do it in steps, meaning get current and then go to the cloud version?
Yeah. The best practice that we've asserted is to get to InsuranceSuite 10, which was a big theme of Guidewire Connections, is that this is really a cloud-optimized release. Not that it's the end state. Of course, there's an infinite amount more to do as we advance our products, but that everything about InsuranceSuite 10 was designed with the concept of us managing the applications in the cloud for our customers. Therefore, best practice would be to upgrade to that before moving on. That's not just an architectural question, but also the many functional enhancements that we can deliver that are in 10 and in the releases in between. That'll generally be the recommendation for customers. That's the basis on which we're estimating the capital required to make the transition for both new and existing customers.
Got it. Thanks, guys.
That will conclude today's question and answer session. At this time, I'd like to turn the conference over to Marcus Ryu for any additional closing remarks.
No additional comments. Thank you all for participating in our call today. Goodbye.
Thank you. That does conclude today's conference call. Thank you for your participation. You may now disconnect.