Good afternoon. My name is Mike and I will be your conference operator today. At this time, I would like to welcome everyone to HubSpot's fourth quarter and full-year 2018 earnings call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there'll be a question- and- answer session. If you would like to ask a question during this time, press star then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key. I will now turn the call over to Chuck MacGlashing, Director of Investor Relations. You may begin your conference.
Thanks, operator. Good afternoon and welcome to HubSpot's fourth quarter and full-year 2018 earnings conference call. Today, we'll be discussing the results announced in the press release that was issued after the market closed. With me on the call this afternoon is Brian Halligan, our Chief Executive Officer and Chairman, and Kate Bueker, our Chief Financial Officer. Before we start, I'd like to draw your attention to the safe harbor statement included in today's press release. During this call, we'll make statements related to our business that may be considered forward-looking within the meaning of Section 27A of the Securities Act of 1933 as amended, and Section 21E of the Securities Exchange Act of 1934 as amended.
All statements other than the statements of historical fact are forward-looking statements, including statements regarding management's expectations of future financial and operational performance and operational expenditures, expected growth, and business outlook, including our financial guidance for the first fiscal quarter and full-year 2019. Forward-looking statements reflect our views only as of today, and except as required by law, we undertake no obligation to update or revise these forward-looking statements. Please refer to the cautionary language in today's press release into our Form 10-Q, which was filed with the SEC on November 7th, 2018, for a discussion of the risks and uncertainties that could cause actual results to differ materially from expectations. During the course of today's call, we'll refer to certain non-GAAP financial measures as defined by Regulation G.
The GAAP financial measure most directly comparable to each non-GAAP financial measure used or discussed, and a reconciliation of the differences between each non-GAAP financial measure and the comparable GAAP financial measure can be found within our fourth quarter 2018 earnings press release in the investor relations section of our website at hubspot.com. Now, it's my pleasure to turn the call over to HubSpot CEO and Chairman, Brian Halligan.
Thanks, Chuck, and good afternoon, folks. Thank you for joining us today as we review HubSpot's fourth quarter and full-year 2018 earnings results. It's a strong ending to 2018 and a really good year overall. Let's get right to it. We grew revenue 37% for the full-year and closed out Q4 with 35% revenue growth, which is 37% growth at constant currency. Our full-year non-GAAP operating margins expanded four points to just over 6%, and total customers surpassed 56,000, up 36% year-over-year. Honestly, 2018 was one of the best years in our history in many ways, but especially when you think about it from a product and customer value perspective. We started the year with a really strong marketing application business that helped our customers generate leads and a fast-growing sales enablement business that helped salespeople sell.
We ended the year with a full suite of Marketing Hub, Sales Hub, and Service Hub products that helps our customers grow better by crafting a remarkable experience for their customers. In addition to that, we built out that suite in such a way that small startups can start with our Starter layer, move into our Professional layer as they grow, and ultimately purchase our entire Enterprise-tier product. In addition to improving our product portfolio and value proposition, we started evolving how we thought about how we grow better ourselves. I'm speaking specifically about the flywheel growth model. In 2018, we started shifting from seeing our business as a traditional funnel to viewing it much more as a flywheel.
The old funnel was great, but it tended to view customers as just an output, while the more modern flywheel recognizes the central role customers play in driving growth through upgrades and especially word of mouth. Customers are not an output. They're the beating heart of your business. When you cut down the friction in your customer experience, you speed up the momentum of your business overall. Let me give you an example of the flywheel in action. I met one of our customers, a company called Stella, on a recent trip to Europe. Stella has 800 employees. They provide home cleaning, childcare, and healthcare services in Finland. We didn't need a major marketing push to get into Stella. We just needed my new friend, Ville. Ville was a HubSpot customer at his last company, and he had recently joined Stella.
He enjoyed using HubSpot in his last role, as soon as he got to his new job, he led the effort to bring HubSpot on board. Ville and Stella got started with Marketing Hub in January of 2018. In June, they picked up Sales Hub Starter, in September, they added Service Hub Professional. In November, they upgraded to the full Enterprise Growth Suite across the board. As they scale, the value they're getting from HubSpot is scaling up with them. It's not just about scalability for a customer. It's all about creating a better experience for their customers. Now that Stella is using Marketing Hub, Sales Hub, and Service Hub together, every team at their company is working off the same shared understanding of their customers, too. That kind of alignment pays off in so many ways.
All these new products in our flywheel mentality is working all over, not just at Stella. At HubSpot, we are seeing lots of new customers buying multiple products up front. Our new products have improved our cross-sell motion, allowing us to reach nearly 20,000 multiple-product customers in Q4, up 90% year-over-year. Customers are also responding to our new Growth Suite bundled pricing, with nearly 50% of our new triple-product customers in the quarter buying all three products up front through the bundle. We think customers will find more value by using the full suite. Multi-product customers carry better unit economics for HubSpot than single-product customers. In addition, the relaunched Marketing Starter product continues to get great traction, with customers on this product up 3x year-over-year. This, in turn, has helped drive a nearly twofold increase in upgrades from Marketing Starter to the professional and enterprise tiers over the last year.
The nice thing about how these hubs and tiers work together is that they enable customers to grow and use more of HubSpot on their terms when they need it. As excited as I am about the progress we have made transitioning HubSpot from an app company to a suite company in 2018, I am even more excited about the momentum we have going into 2019. In 2019, we will again be focused on two parts of that flywheel equation. First, increasing the force applied to our flywheel by word of mouth from existing customers. We are working on a long list of funded, high-return projects in 2019 that we think will make an existing suite even more valuable to our customers, particularly at that enterprise tier.
Second, decreasing the friction in our flywheel by making HubSpot easier to do business with for companies of all sizes, with a particular emphasis on our freemium model. We want to match the way we go to market with the way modern humans buy these days. There is lots of low-hanging fruit left for us on both these flywheel initiatives in 2019. HubSpot is still in its very early innings in its development. One more thing about 2019. We have used a Warren Buffett quote with you before that goes something like, "Someone is sitting in the shade today because a seed was planted several years ago." Several years ago, we planted the suite seed. It is starting to throw off some shade for us today, with much more shade to come in the future.
In 2019, you will start to see a new seed we are planting as we shift HubSpot from an all-in-one suite to much more of an all-on-one platform. We want to be able to help our customers grow better. Although we would love for them to completely rely on HubSpot's applications to do so, the reality is that a modern business has lots of important applications. What we want to do over time is enable our customers to use all of their applications with HubSpot.
Today, HubSpot manages its own applications data, its own applications workflow, and reports on all of its own data. In the future, we expect HubSpot to manage all of our customers' front office applications data, all of their front office workflow, and report on that entire experience. You are starting to see the beginning of the shift. We announced a strategic partnership with our friends at AWS.
We've greatly expanded our API endpoint footprint and support. We built some killer integrations of our own to commonly used applications like Stripe and Slack, and we welcomed a couple hundred Connect partners into our program, who have integrated their applications into HubSpot. All this will further expand the value we can create for our customers and would open up new growth opportunities for us. Stay tuned for more on this front over time. Okay. With that, I'll turn it over to Kate to run through our financials and our guidance.
Thank you, Brian. Let's turn to our fourth quarter and full-year financial results and our guidance for the first quarter and full-year of 2019. Q4 was a very strong quarter for HubSpot. We delivered strong revenue growth, over $25 million of free cash flow, and $14 million of non-GAAP operating profit. Fourth quarter revenue grew 35% year-over-year on an as-reported basis, and 37% in constant currency, up nearly two points from Q3 2018 constant currency revenue growth. The sequential increase in the quarter is the result of continued traction from our 2018 product launches and strong install-based sales. Q4 subscription revenues grew 35% year-over-year as reported, while services revenue grew 49% year-over-year. Services revenue growth in Q4 benefited from a mix shift towards our professional and Enterprise SKUs and an uptick in classroom training.
While we're pleased with this overall performance, keep in mind that services revenue represents a small percentage of our overall revenue, and we expect services revenue to grow more slowly than subscription revenue in 2019. full-year 2018 revenue grew 37% as reported and 35% in constant currency. As Brian discussed, we had a really strong year of revenue growth overall in 2018, driven by several factors, including strong lead generation, new product releases, and a seasoned sales force that executed very well. HubSpot ended 2018 with 56,628 total customers, which was up 36% year-over-year. Average subscription revenue per customer in Q4 was $10,012, down 2.4% year-over-year and up slightly compared to Q3. While we are encouraged by the sequential increase, we continue to expect this metric to bounce around depending on product mix and the amount of new versus install-based selling in any quarter.
International performance also continued to be strong in Q4, with international revenue growth of 48% year-over-year on an as-reported basis, and 52% in constant currency. Domestic revenue growth re-accelerated in Q4 to 28%, up two points from Q3. International revenue represented 38% of total revenue in Q4, up three points from last year. During 2018, we opened a new office in Bogotá and announced plans to open an office in Paris later this year. We continue to see lots of opportunity for more growth outside the United States. Deferred revenue as of the end of December was $185.5 million, a 33% increase year-over-year, while calculated billings, defined as revenue plus the change in deferred revenue, was $166.9 million, up 33% year-over-year.
Currency movements within the quarter resulted in a headwind to calculated billings, which grew 35% in constant currency, up a point compared to Q3 constant currency billings growth. The remainder of my comments will refer to non-GAAP measures. Fourth quarter gross margin was 82.3%, up slightly sequentially and up a point year-over-year. Subscription gross margin was 86.5%, flat sequentially, while services gross margin was 2.5%, up nearly 16 points sequentially and up 20 points year-over-year. full-year gross margin was 81.6%, up nearly a point compared to 2017. Fourth quarter operating margin was 9.8%, up 5.8 and 5.4 points from Q3 and Q4 of last year respectively. full-year operating margin was 6.3%, up four points versus 2017.
As we've talked about in prior quarters, the adoption of ASC 606 had a positive impact on operating margin for the year, because we extended the period of time over which we recognized commissions expense. This contributed three points of margin expansion to our 2018 results, while the underlying business delivered one point of leverage. We continue to drive operating leverage in the business that is consistent with our long-term framework for growth and profitability and we remain committed to the framework going forward. At the end of the fourth quarter, we had 2,638 employees, up 27% year-over-year. Attrition remained favorable throughout 2018, which positions us well to execute on our 2019 growth plans. CapEx, including capitalized software development costs, was $8.1 million in the quarter and $33.5 million for the full-year.
Moving on to earnings, net income in the fourth quarter was $15.8 million, or $0.37 per diluted share. full-year net income was $36.9 million, or $0.89 per diluted share. With that, let's dive into guidance for the first quarter of 2019. Total revenue is expected to be in the range of $146.5 million-$147.5 million. Non-GAAP operating income is expected to be between $9.5 million and $10.5 million. Non-GAAP diluted net income per share is expected to be between $0.23-$0.25. This assumes approximately 44.4 million fully diluted shares outstanding. For the full-year of 2019, total revenue is expected to be in the range of $648 million-$652 million. Non-GAAP operating profit is expected to be between $46 million-$50 million. Non-GAAP diluted net income per share is expected to be between $1.08 and $1.16. This assumes approximately 45.6 million fully diluted shares outstanding.
We expect full-year free cash flow to be about $60 million. As you adjust your models, keep in mind the following. Currency movements created a four-point positive impact on reported revenue growth in both Q1 and Q2 of 2018, was roughly neutral in Q3, and was a headwind of a little more than a point in Q4. Given the volatility in FX rates throughout 2018, we thought it would be helpful to provide some additional context for how FX will impact our as-reported growth rates in 2019. At current spot rates, we're forecasting for an exchange headwind of approximately $8 million to as-reported 2019 revenue, which would equate to a one- to two-point negative impact to as-reported growth. Substantially all of this currency impact will occur in the first two quarters of the year.
Our 2019 guidance implies two points of normal course operating margin improvement, offset by one point of margin pressure from the amortization of sales commissions expense under ASC 606. This will result in one point of operating margin improvement on an as-reported basis. Furthermore, we expect to realize the majority of our operating leverage in the first and fourth quarters. CapEx as a percentage of revenue for 2018 was 6.5%, which is a couple of points below our historic average. We expect CapEx as a percentage of revenue to return to 8% in 2019, primarily as a result of the build-out of our new Dublin facility. To close, 2018 was an especially strong year of operational and financial performance, and we believe we are well positioned to build on this momentum in 2019. With that, I'll hand the call back over to Brian for his closing remarks.
Thanks, Kate. 2018 was a great year for us, with the business performing well, and I'm bullish on the outlook for our business entering 2019. There's a lot that goes into driving the results we've gone over today, and the credit goes to the HubSpot team behind these results. We've invested a lot of energy these days into making our HubSpot team a more diverse and inclusive place for employees to work. That investment's starting to pay off. In Q4, we were recognized again as a top company for diversity in women by Comparably. We were recognized for the first time by Fortune as a best workplace for parents. We have a lot more work to do in 2019 on diversity, inclusion, and belonging at HubSpot, but I'm encouraged by our recent progress and excited about all the good stuff to come.
With that in mind, I want to close by thanking all those HubSpotters for the work they do and the different passions and perspectives they bring to their jobs, thank all of our customers, partners, and investors for a really great year in 2018. I'm super excited about 2019. Operator, could we please open the call for some questions?
At this time, I'd like to remind everyone, in order to ask a question, press star one on your telephone keypad. To withdraw your question, press the pound key. We will pause for a moment to compile the Q&A roster. Your first question comes from Mark Murphy from JP Morgan.
Thank you very much. Congratulations on a great finish to the year. Kate, I was wondering how material of an uplift you think the premium marketing edition can be for you this year, if there's any way to pencil out some math on that. As well, Brian, I think you've hinted in the past that there are other things out there after marketing, sales, and service. I was just curious how you feel about the bandwidth of your engineering team to go after that, just given all the product they developed last year, and just whether that's mostly a reference to this all-in-one platform, or are you looking at other markets like commerce or content or anything else? Thank you.
Hey, Mark. It's Brian. I can take those. In terms of the, you called it the premium marketing edition, we call it the Enterprise SKU. So far so good. We announced, just to kind of take you through it, at INBOUND, we announced a new Marketing Hub, a bunch of new features in Marketing Hub at a new price point, and it sold pretty well in Q4. That product, I think, is priced well and will sell well throughout 2019. I think the introduction of the Sales Hub and the Service Hub alongside that will make it a very powerful combination. Off to the races there, feeling good. That Marketing Hub product on the enterprise side got a lot better. It's going to get even better over the course of this year.
I sat with the product folks today, there's a bunch of cool stuff coming in that throughout 2019, I'm psyched about that. In terms of new hubs, yep, we got three now. I guess I would say we're not done. We have really solid ideas for new hubs in our heads now. I guess I would give you guidance that over maybe the next three to five years, we'll add a bunch more hubs. I want to stay away from forecasting too short-term on that, but there's more hubs coming, more opportunity there. At the same time, we're investing in the platform side, and we're investing heavily in our APIs and the support of those APIs. We're enabling third parties to integrate really nicely into HubSpot. We're building some really nice integrations to HubSpot.
Things are really hopping on the R&D side at HubSpot. The R&D team's really performing well. The recruiting's going well. I think the team's well-managed, feeling really good about that.
Thank you very much.
Your next question comes from Brad Sills from Bank of America Merrill Lynch.
Oh, thanks, guys. Just a question, please, on the ISV opportunity you were just speaking about there, Brian, with the work on the APIs. Is the expectation that you are expecting more custom sales apps from third parties, or is this more of a marketing play? Where do you see the most opportunity for some of these third-party applications?
That's a really good question. I think it's across the board. It started when we first started opening things up a couple of years ago on marketing, but we're starting to see a lot of activity on the sales app side, and it's early, but we're starting to see some on the service side as well. I think you're going to see integrations across the platform. Some are cross-platform entirely or some are department-specific. It's starting to pop kind of everywhere. Really psyched about that. It creates a lot of value with our customers.
For the first really eight, nine years of HubSpot, we were in the business of selling an application that helped our customers generate leads, then we've moved to selling a suite of applications that help our customers really orchestrate their customer experience and try to improve that. Over time, we want to let our customers not just use our applications, but weave in many other applications that they're already using or could potentially use to really create beautiful end-to-end customer experiences that help them grow better. We're on a journey here at HubSpot. Still early. Going quite well. I think you're going to see that partner program really pop over the next year or two.
Great. Thanks, Brian. One more if I may, please. Just on Sales Pro, now that it's been some time since the product's been in the market, the new version. What are you seeing in terms of uptake there, and what is the interplay with Sales Pro with existing CRM applications? Is this more greenfield opportunity, or is it Sales Pro running alongside what these customers might already be running?
That's a good question. To remind everyone, we came out with the Sales Pro product last November, Chuck?
Last INBOUND.
Yeah, last INBOUND.
Okay, last INBOUND. No. The Sales Pro product, not the Service Pro product. A year ago.
Yeah, Sales Pro.
Yeah, a year ago.
November of 2017.
Yes, November of 2017. That thing's gone really well. Really, really well. The reps love selling it, the customers are picking it up and running with it. That thing is a very popular product. Most of the time, people are using Sales Hub Pro on top of our CRM. Sometimes people use Sales Hub Pro on top of other CRMs. More and more, we're seeing the trend in our install base, I think this'll happen industry-wide, that kind of people pick up a platform or a hub, and then they use some of our apps and other applications and weave the whole thing together. In some cases, there's mixed environments, but I think the trend will be one platform-level partner that you'll build around. Lots of Sales Hub Pro sold with our free CRM.
Great. Thanks, Brian.
Your next question comes from Samad Samana from Jefferies.
Hi, good evening. Thanks for taking my questions. Brian, one for you, then a follow-up for Kate. On the expanded AWS partnership, I think it was announced in mid-4Q, can you help us think about how we should think about that impacting the customer funnel in 2019? Could you expound on some of the joint go-to-market efforts, and how you think that's going to drive kind of either new customers or if it's already driving new customers? How should we think about that opportunity? I have a follow-up for Kate.
I'm super psyched about that partnership. We're a big customer of theirs, of course, and we've designed some unique go-to-market things with them. You might have noticed, Samad, that they were a giant sponsor at INBOUND this year, and they will be for the next couple of years. They're particularly interested in our HubSpot for Startups track. That's a program inside of HubSpot that's going really, really well. Our HubSpot for Startups team and their AWS for Startups program are working on a whole bunch of stuff that we're doing together that are really interesting and unique that are starting to get rolled out. I think that's a pretty cool partnership. Really, really excited about it.
Great. Kate, ASRPC increased quarter-over-quarter for the first time since 3Q 2017, kind of conversely, net adds was small, but it was down slightly year-over-year. I'm just wondering, can you just help us understand if that's just kind of timing related, or just help us understand the seasonality of why, if either one should be seen as an inflection? Obviously, they're both doing well, but we're just trying to get some color as we think about modeling forward for 2019.
Yeah. We're obviously very happy with the customer growth this quarter. We saw continued strength in the growth of our customers from the marketing starter. What we're probably more excited about is that you get sort of a positive impact on ASRPC from a sequential perspective on top of the continued robust growth of the net additions. I don't think we're going to be able to do that every quarter. As we've said in the past, there'll be pushes and pulls at the high and low end of our customer base. I wouldn't view either result as an inflection point for us. I think over the next set of quarters, we're going to continue to see ebbs and flows.
Great. That's really helpful. Thanks again for taking my questions. Congrats on a great quarter.
Thank you.
Thanks, Samad.
Your next question comes from Alex Zukin from Piper Jaffray.
Hey, guys. Thanks for taking my question. Maybe just a question on the freemium, and low-touch customer acquisition strategy that you talked about and deployed in 2018, how you plan to expand on that in 2019, and how do you see that impacting margins in 2019 and beyond?
I can start with that.
Sure.
Yeah, one of our big goals this year is to really just match the way we sell with the way people buy, and part of that is the freemium edition. You roll back the clock, the freemium edition got started three years ago, really on the Sales Hub side of the business and worked real well. We rolled it out with the Service Hub product. Just now, we're really getting quite serious about rolling that out within the Marketing Hub product. It's still early days on it, but it's working really well. Really happy with that shift to freemium.
We want to see this year more and more of our starter business come in with, frankly, no touch, a little touch or no touch, where people can start on the freemium and play around and get a good feel with it and just buy that starter without having to talk to a sales rep. The company I really admire who's really good at this stuff is, you probably admire them, too, is Atlassian. We've got the president of Atlassian on our board, Jay Simons, and they've been very influential on us as we move our model closer to where they are.
I think from a margin perspective.
Then just maybe a.
No, I would say from a margin perspective, I think we're very bullish at the long-term benefits of the freemium model. I think in the near term, we continue to talk and look at the unit economics, which remain robust for the company. So at these sort of returns on our investments, we will continue to invest in our go-to-market on both the freemium side and with our direct and partner ecosystem.
Great. Then just if I could squeeze one in on the competitive environment. What are you seeing from both the larger vendors, Salesforce and Adobe, with their recent acquisition of Marketo, as well as any kind of coopetition with vendors such as Zendesk and any other small direct competitors coming into the market? How do you see the environment kind of playing out, and win rates, for 2019?
We haven't seen a whole lot of change, frankly. We see a fair amount of salesforce.com and win our fair share of deals. We never see Adobe. They're pretty much up market. We see a little bit of Marketo, but they're very enterprise-y. The truth of it is, our products have gotten really good. We're well-positioned in the market. We're unique in the market. Our value prop really pops. Our implementation team does a nice job. Buying HubSpot, I remember the start of the company 13 years ago, it was pretty risky buying HubSpot. What is this HubSpot thing? Who are these HubSpot guys? Nowadays, man, the value prop is super strong. It's a no-brainer to buy HubSpot these days. Feeling good about our position in the market.
Your next question comes from Richard Davis from Canaccord Genuity.
Hey, thanks. Maybe just drill in a little bit on Mark Murphy's question. Do you guys, just logically, do you draw a line, kind of a bright line, between kind of front office and back office? Because when we talk to companies, they're like, "Man, we'd like to be able to get paid." That's a financial app, which is oftentimes considered back office. Do you guys say, "Listen, all we are is front office," or how do you think about that? Thanks.
Yeah. Hi, Richard. It's primarily we think of ourselves as front office. We have recently added an integration with Stripe. It's nascent, but it's pretty slick, it gets a little gray in there, but we consider ourselves a front-office platform, and we consider ourselves a platform to help people really create remarkable go-to-market motions. That's how I would think about it. It's a little bit of grayness there on the payment and the invoicing. A little bit of grayness on the payment and the proposal layer, but we're a front office company.
Got it. Quick question on the CapEx, you improved that really nicely. Is there a component that we should think about that would improve with your partnership with AWS? Generally you see that happen. Is 8% kind of a trend line? Should it go to six over time? Or how do you think about that? Thanks.
Yeah. If you think about our CapEx specifically, there's really two components of our CapEx. One is the spend on our facilities, and the other is software capitalization associated with our internal development activities. I think underlying your question is really, we had a very strong free cash flow quarter.
Right.
The operating performance of the company obviously drove that result, but we did have a one-time benefit in Q4 from the restructuring of the deal we signed with AWS.
In addition, 2018 was a light year for us in terms of facilities build-outs, and I did note in my opening comments that there is a material build-out in Dublin in 2019 that will help to support our continued growth internationally.
Super. Thank you so much.
Your next question comes from Brian Peterson from Raymond James.
Hi, guys. Thanks for taking the question. I want to hit on the Marketing Starter product a bit. You mentioned that two FC upgrades this year. How are customers typically on the Starter package before they upgrade to the higher tiers? Does that change at all if they're coming on from self-service?
Okay, Brian, I'll take that one. The reality of the Starter product is it was a pretty small, the Marketing Starter product is pretty small business until, I guess, July of 2018 when we really shored it up, and the big thing we added was email marketing to it. We dramatically increased the amount of people using it and the ARPU of that's gone up. That's, in my mind, it's almost like a brand-new business starting last summer. We're watching very carefully the trend of how long do they use Starter before they go to Pro and whatnot. The reality is, in my mind, it's only a six-month-old business at this point, so it's hard to say.
Having said that is an initiative going on inside the marketing team, the general manager of our Marketing Hub, it's on his list to really figure out how to get that flow going from Free to Starter to Pro and Enterprise. That's not something we had focused on previously on the marketing side, and he's really focused on it this year, and I think he'll get that machine rolling.
Got it. Thanks, Brian. Just wanted to hit on linearity. Anything that we should think about in terms of how the quarter developed through December and then anything that's changed thus far in January? Thanks, guys.
Wanna take that?
I think Q4 is probably a little bit unique in that sense because we rolled out some pricing increases as of November 1st, so there was some positive benefit to October as a result of some of the pricing increases. Q4 is generally a very strong quarter for the company.
Thank you.
Your next question comes from Bhavan Suri from William Blair.
Hey, guys, this is actually Arjun Bhatia on for Bhavan. Thanks for taking the question. Just wanted to touch on your customer profile a little bit. You've talked about going after customers that have about 2,000 employees or in that range. Can you just talk about how your customer profile has changed over the past few quarters as you've targeted this larger base?
Arjun, I'll take this. Brian, that's a good question. Here's how, if I just step way back, how I think about it is we have three segments inside of HubSpot. We have the small business segment, which is kind of between, call it two employees and 20 employees. Mid, which is 20- 200, and Enterprise, which is 200- 2,000. Historically, our sweet spot's been at that middle layer, the pro layer, 20- 200. I would say we've got kind of perfect product market fit in there, products that we give an A or go to market. Everything's really nice. What we've done over the last 12 months is really invest below that in the 2- 20 and above that in the 200- 2,000.
I would give our product market fit, for example, two years ago in those two layers, maybe a C. I don't know if we're an A yet, but we're getting closer and closer to an A on the starter layer and the enterprise layer. In terms of the median and mean employee size, I haven't looked at it recently, but it hasn't changed materially. The products have gotten stronger up on both ends, they kind of push and pull on the metrics, and you see some of that in some of Kate's remarks.
Yeah, that's helpful. Then just on customer expansion trends, how should we think about the dynamic between what's driving customer dollar expansion between increased usage, tier upgrades, and maybe multi-product adoption?
Sure. Why don't I take that? I think what we have said about retention is that we think over the long- term, retention can stay above 100%. We did see that retention in Q4 was above 100%. Customer dollar retention remains in sort of the low to mid-80s for the company. I think the big contributors to the increased retention overall were the upsell, the addition upgrades that we've been seeing, as well as continued cross-sell into the install base.
Very helpful. Thanks.
Your next question comes from James Rutherford from Stephens Inc.
Hey, good afternoon. I wanted to start and get an update on the go-to-market strategy around Service Hub. Just curious if you lean more on direct selling into 2019 or if you kind of think you've gotten the channel to a place where that's going to be a big sales motion for you all.
Yeah, I think the reality is when we come out with these new hubs, our direct sales force grabs and runs with them very fast. It takes us a little longer to get that into the partner channel. Some of the partners are selling full stack, and they sell Sales and Marketing and Service, the whole thing together. Some of the partners are really Marketing agencies, and they always want to be Marketing agencies. I think out of the box, probably in 2019, little bit heavier push on the direct side, but over the long haul, I think it'll look pretty similar to the Sales business and the Marketing business.
Okay, thanks. Then one more, if I may. On the market-
I'm just curious, your read on small business sentiment and the health of that market seems to be very positive based on the revenue guide, just hoping you could provide some commentary on SMB appetite to invest in new software, both domestically, perhaps more importantly on your international markets. Thank you.
I think that's an excellent question. I haven't noticed any change. I sit on the sales floor here at HubSpot, and I talk to the reps a lot, and I talk to prospects and customers a lot. I just haven't seen any pullback in demand or hedging with budgets that's unusual, or we're worried about a recession. It doesn't mean it's not happening, but I haven't heard it really at all so far. Feels solid.
Thank you. Very helpful.
Your next question comes from Ross MacMillan from RBC Capital Markets.
Thank you. My congratulations on the re-acceleration of growth. Maybe I can start with some of the changes you made around pricing. I think there are three main ones, Marketing Hub Enterprise, there's a price increase, the growth bundle that you introduced, the Growth Suite bundle, and then the elimination of Basic. Brian, I'm just curious, if you think about those three things, which ended up having the kind of biggest surprise to you in terms of impact on the business? Maybe you could explain why.
I don't know. They're all pretty similar. The Marketing Hub, you had a good November because we were going to raise the price, but we do that a lot in Q4 every year with the different products. I think we got to the price point that the market kind of expects in there. I think we're in good shape there. I think the Growth Suite worked. We're getting a ton of Growth Suite business, which is really encouraging to see. It was like Billy I talked about in the opening remarks, where he started with marketing, and then he added sales, and then he brought the full Enterprise Growth Suite. I think we're going to see a lot of that. Eliminating the Basic, I feel good about that. That Basic product was a little awkward in there. It wasn't packaged quite right.
There was a sort of a heavy touch sale involved with it. I like the fact that we've got the Starter in there and the Pro with the heavier touch. I wouldn't say any of them really caught us by surprise, would you?
I agree.
Yeah.
I think kind of as expected.
I guess specifically on Basic.
Did you see a good trade-up effect to Pro, versus a trade down, if you will? Was that a good outcome in terms of that Basic price point?
Kind of a mix. If you were using Basic, we're pretty aggressive grandparents, so we grandparent people in pretty aggressively.
If you're coming in now and you normally would've bought Basic, you're seeing some go to Pro and some go to Starter. It's sort of a wash, frankly, when we peel back the numbers.
That's helpful. Can I just add one other one, just on platform?
Sure.
If I'm an existing customer, and as we think about platform, is this just that I'm going to have access to a set of third-party applications that I can plug in through APIs, or is there something else that I will experience as a customer as you make this journey from suite to platform?
Yeah. I think over time, this will be a big change, Ross, where if you looked at HubSpot two years ago, pretty much people used HubSpot with HubSpot. They didn't really have it connected to anything else, and it was a pretty monolithic, standalone application. If you look at our real good customers today, maybe someone who's using the pro suite, man, they're plugging all sorts of other applications into HubSpot in a really cool way, whether it's they're plugging Slack in, they're plugging Eventbrite in, they're connecting their WordPress website. They've got all these different applications that they're plugging in, and the way they're going to be able to do that is very powerful. Traditionally, HubSpot, we've managed the data inside of HubSpot, we've managed the workflow between your different HubSpot applications, and we've reported on all that stuff inside of HubSpot.
Imagine in the future, we'll manage the data from all your front-office applications. You'd be surprised how many front-office applications people use. We'll manage the workflow across all of those applications, then we'll report on all the things happening in there. It's a non-trivial shift that's going on inside the company and the value prop for our customers. It's already started, and I think it's going to be a big tailwind for us over the long haul.
Your next question comes from Scott Berg from Needham and Company.
Hi, this is Ryan MacDonald on for Scott Berg. Talking more about the platform approach going forward, as you're looking at sort of net new customer opportunities, does there actually then have to be a shift in the selling motion at all for those customers to sell the platform approach? If so, is there a prioritization that goes into sort of the three core modules, given the existing selling motion?
Yeah. The selling motion hasn't dramatically changed yet. There's some small incentive tweaks we're making to try to encourage some folks in our organization to really encourage our customers to use HubSpot writ large, not just our applications, but really use it to manage the whole customer experience. We'll probably lean into that harder in 2020 as the platform gets more developed, as our marketplace gets more developed, as our APIs get better. The thing about the platform that's interesting is there's three ways it kind of comes to life. One way it comes to life is we'll build an integration, like we build an integration to Slack or Stripe, for example. The other way it comes to life is there's lots and lots of little applications out there, sales and marketing applications, where they're using our APIs, the same APIs, to integrate their product.
The third is there's lots and lots of our partners and customers who have relatively advanced use cases who want to just build functionality using our APIs today. It's really opening up a lot of opportunity to expand the value prop for us.
Got it. Then, just one quick follow-up on Sales Hub. I think last quarter you talked about that most of the adoption was really around net new customers, or that had been sort of the early trend there. Can you talk about if that still sort of remained the trend, or if you've been able to drive more up-sells or if there's any initiatives in place to sort of switch that focus?
I think it's a nice combination of new and cross-sell. There's a lot of cross-sell going on with that. "Okay, I'm using the Marketing Pro product. I'm interested in that Sales Hub product." There's definitely some up-sell too, where I'm using the free CRM, and, "Oh, I could use the Sales Starter. Oh, it looks like Sales Pro might be a good fit." It's kind of coming in from three different directions on it. That Sales Hub product's going remarkably well for us.
Your next question comes from Tom Roderick from Stifel.
Hi, it's actually Parker Lane for Tom. Thanks for taking my question. As we think about the move into new markets like Colombia and then the Paris office opening this year, is much of your early momentum in these markets sort of on the free and the starter program, then it starts to move upstream to professional and enterprise as your channel starts to grow and the awareness of HubSpot builds? Or is it sort of whole hog early days? Then, has there been a substantial mix shift towards net customer growth in international markets, or has it held pretty steady between international and domestic? Thanks.
I can answer the first one.
I would say Colombia and Paris, those are two market. Colombia is really the hub for Latin America. We've been in Latin America for a long time with a very small direct sales organization and an agency partner organization. We've been selling into Paris from Dublin for a long time. It's sort of similar, where we've got some direct sellers in there and some agencies. The way that it typically goes when we enter a new office is that market is, let's say, and this is a rough number, 70% of the revenue coming out of that market is through partners, agencies, and 30% is direct. When we open an office, they both grow, but the direct tends to grow a little bit faster, and the mix will shift a bit over time. I think over time, France and Latin Am will get to 50/50-ish, is my guess.
Yeah, I'm excited about both of those. We get a lot of business out of Paris and a lot of business out of Latin America. I think we can turn up the volume in both those markets.
On the mix of product and new versus install-based selling, domestic versus internationally, they're actually pretty similar, which was a bit surprising to me at the beginning, but they track each other quite closely.
Your next question comes from Jennifer Lowe from UBS.
Great. I actually wanted to ask a question to Kate about just sort of parsing through the operating margin guidance and the ASC 606 impacts. I think you had said that, looking at 2018, there was about one point of core expansion and then three points benefit for ASC 606. Looking at 2019, it sounded like there's sort of two points of core with the one point of offset from ASC 606. Just sort of focusing on sort of that cash basis, the one point of expansion last year versus the two points, assuming I understood that correctly, next year. How should we sort of think about that? Because clearly, there's still a lot of investment going into the business. Are you sort of managing around the optics of the ASC 606 number, and that's how we should be thinking about it?
I guess I'm just trying to piece through what sounds like a bit less incremental cash investment once you pick through the pieces there.
Yeah, I would say two things. One. You have the dynamics of 606 correct. When we adopted the 606 standard, we chose not to go back and restate our historical results, which means that when you look at 2018, there's about $16 million of commissions expense that we would have under the old standard expensed through the P&L that we capitalize and will amortize over a period of two to three years. In 2019, we will continue to capitalize commissions expense, but we'll start to see some of the expense from 2018 flow through the P&L. Net versus like a status quo, there was some benefit, but there's a headwind to margin year-over-year. We aren't managing around 606 per se.
We actually look at the financial framework that we've laid out around growth and profitability, and we invest to make sure that we're aligned to that framework over the long- term.
Okay. That's helpful. Thank you.
Your next question comes from Michael Turrin from Deutsche Bank.
Hey, great. Good afternoon. Thanks. I was hoping we could spend a minute on the up-market opportunity and some of your observations around how having the broader suite of enterprise products could be influencing that opportunity set, as well as whether that's also adding the potential for you to maybe hold on to some of the existing customers even longer. Thanks.
I can take that, Michael. Thank you. I think the up-market opportunity is interesting. I just kind of want to caution you, when I say up-market, I'm really talking about what most people would call mid-market, a company between 200 and 2,000 employees. There's a lot of them out there, and they're buying HubSpot. They're really seeing the value in it. At INBOUND, we announced some new features in Marketing Hub that they like. There's more new features coming there. We come with the Sales Hub Enterprise, which is a good product, and that Service Hub Enterprise. We're expecting that segment, the 200- 2,000, we're expecting it to perform well and to get some really nice traction over time.
We're closing some nice deals there, we're not doing the traditional, "Hey, let's go upmarket and compete with Oracle and SAP and Salesforce and Adobe," and a lot of those larger companies. We think the opportunity for HubSpot is in that mid-market to build a big company in the middle, where those companies are underserved, and we want to bring really sophisticated, powerful technology to them and make it simple for them to adopt and grow their business.
Yep, understood. That's great. Thanks, guys.
Your next question comes from Derrick Wood from Cowen and Company.
Great, thanks. Kate, as you, I guess, dovetailing on that, as you guys focus more on selling your enterprise versions and going up into the mid-market, are you finding any shift in invoicing structure? I guess specifically, are more deals being invoiced annually? If so, how should we think about the impact on overall deferred revenue growth?
Yeah, we haven't seen a material shift in the composition of our sort of install base of customers around contractor payment terms. I think that frankly stems from the fact that as we're going upmarket, we're also going downmarket, so there's a balancing act that's happening.
Okay. Then, curious on your guidance for Q1. It implies about 2% sequential growth. If you look historically, it's typically been a decent amount higher than this. Are there some puts and takes you're considering for Q1 this year that may look different than past years?
Yeah, I think there's probably a couple things to talk about. Obviously, we're feeling good about our guidance coming off of a strong Q4, we've taken a very similar approach to guidance as we have in the past. A couple of things from Q4 to Q1. One is currency, which we've talked about at length in the prepared remarks, there's a headwind from Q4 to Q1 on the currency side. The other thing of note is what's happening in the services business. We talked about Q4 as being a particularly strong quarter for, not our Service Hub, but our services business. We do not expect that to repeat in Q1.
Okay. Thank you.
Your next question comes from Stan Zlotsky from Morgan Stanley.
Hi, this is Hamza Fodderwala in for Stan Zlotsky. Thank you for taking my question. Just a couple of quick ones from me. As you move into larger customers, as you talked about earlier, are you seeing any material changes or elongation in your overall sales cycles?
I can take it. I think what you're seeing inside of HubSpot is up in that 200- 2,000 segment. It's probably getting a hair longer, but in that 2- 20 segment, it's probably getting a hair shorter, and overall, it's staying pretty similar.
Your next question comes from Terry Tillman from SunTrust.
Hey, this is Eric Rambo on for Terry. Thanks for taking the question. Brian, I wanted to touch on something you said in your prepared remarks and on an earlier question, talking about handling the workflow and reporting on the entire experience. As the product suite starts to progress and you gain more customers more in that enterprise market, now how important is it to have a deeper reporting or analytics types tool? As you look at the overall roadmap, how would you prioritize reporting and analytics in the future?
Eric, I think it's very important. In fact, we just had a meeting about that this morning, where we were talking all about reporting and analytics. I would say we're good at it. I think there's an opportunity to get great at it and add a lot of value to our customers. We've got a good-sized team working on it, and we hope to make a bunch of progress in 2019 on it. I'm glad you asked about that.
Our next question comes from Kirk Materne from Evercore.
Great. Thanks. This is Peter Levine in for Kirk. Just one quick follow-up here. On you talked about the initiatives on your channel partner. Can you maybe share with us any updates on any notable partners you've signed that are outside of your traditional marketing agency network? And then for Kate, if you can you tell us the percentage of revenue contribution that come from channel partners? Thanks.
I would say the mix has been shifting over time, and it used to be obviously 100% marketing agencies, website designers, SEO consultants, folks like that. More recently, there's a whole slew of companies out there that all they do is implement CRM systems. We signed up a bunch of those folks. I think we signed up a bunch of folks who implement G Suite and Microsoft Office, folks like that, a little more technical. Let's see. Then we've signed up a lot of ISV partners that are integrating into our API and building extensions on HubSpot that are pretty interesting. Yeah, the partner profiles change, like HubSpot.
We said a few years ago on calls like this, we're shifting from an apps company to a suite company. We're very much a suite company today. The partner channels evolved alongside us. They're probably a half step behind our direct org, but they're right there and doing quite well.
There are no further.
Just to answer your second question, about 40% of our revenue comes from partners.
Yeah, which is flat with where it was in the third quarter.
All right. Thanks everybody for joining the call. Talk to you soon.
This concludes today's conference call. You may now disconnect.