Good day, ladies and gentlemen, welcome to the ServiceNow Q2 2015 earnings conference call. My name is Mida, I'll be your operator for today. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session. If at any time you require operator assistance, please press star zero, I will be happy to assist you. As a reminder, this conference is being recorded for replay purposes. I would now like to introduce your host for today, Mr. Michael Scarpelli, Chief Financial Officer. Please proceed.
Good afternoon, thank you for joining us. On the call with me today is Frank Slootman, our Chief Executive Officer. Our press release, our quarterly IR deck, the simultaneous broadcast of this call can be accessed at investors.servicenow.com. We may make forward-looking statements on this conference call, such as those using the words may, will, expects, believes, pipeline, prospects, or similar phrases to convey that this information is not historical fact. These statements are subject to risks, uncertainties and assumptions. Please refer to the press release and risk factors in documents filed with the Securities and Exchange Commission, including our most recent annual report on Form 10-K, for information on risks and uncertainties that may cause actual results to differ materially from those set forth in such statements. I would now like to turn the call over to Frank.
Thanks, Mike, good afternoon. Total revenues for the second quarter were $247 million, up 48% over the same period last year. During the quarter, we saw strong renewals at 97% and healthy upsells at 43%. We recorded 9 new transactions with ACV above $1 million. The company now has 186 customers with ACV in excess of $1 million, a 68% increase from last year. This reflects both new customers with larger initial contracts, as well as customers who expanded their use of ServiceNow. We also landed 21 new Global 2000 customers, including Caterpillar, Novo Nordisk and Alliant Energy. One of our existing Global 2000 customers, a financial institution, signed our largest upsell transaction ever, with ACV in excess of $6 million.
They are focused on modernizing service by providing employees with an online user experience and structured workflow for managing requests across the entire bank. This initiative was driven by the CEO with a vision to transform the entire organization. During Q2, we saw strong performance of the emerging products that are outside our core service management offerings. Our Performance Analytics solutions set a quarterly record for new customers and ACV, including its largest single transaction ever. The ACV for our IT operations management portfolio nearly doubled year-over-year, driven by 21 deals larger than $100,000. The ServiceWatch solution had a record quarter, was our best performing product in the ITOM portfolio, with strong interest from our existing customer base.
On the heels of our acquisition of Intrepid, our GRC solution recorded its largest transaction with ACV of nearly $2 million and growing interest from our existing customers. During the quarter, our ServiceNow Express product landed 74 new customers, including its largest. Seven of our existing Express customers upgraded to our enterprise version in Q2. We also booked the first transactions for our new financial management application with six customers in a robust pipeline of pilots and prospects. Finally, we set new attendance records at our Knowledge15 conference in Las Vegas, with more than 30% growth. Our conference is branching out beyond the boundaries of IT, with 25% of the breakout sessions focused on topics outside of IT. Our inaugural developer conference, CreatorCon, exceeded our expectations, with nearly 1,500 registered professional developers and application architects. We certified more than 400 developers at the event.
Since we launched our CreateNow developer program, we have nearly 10,000 sign-ups and provisioned more than 4,000 developer instances, an essential resource to help developers learn, build, and market applications on the ServiceNow platform. To help these developers monetize their applications, we also launched the ServiceNow Store. We now have 96 applications and integrations published on the store, with almost as many in the pipeline going through certification. With that, I will now turn the call over to Mike.
Thank you, Frank. During today's call, we will review our second quarter financial results and discuss our financial guidance for Q3 and full year 2015. We would like to point out that the company reports non-GAAP results in addition to, and not as a substitute for or superior to, financial measures calculated in accordance with GAAP. All financial figures we will discuss today are non-GAAP unless stated otherwise. To see the reconciliation between these non-GAAP and GAAP results, please refer to our press release filed earlier today and, for prior quarters, previously filed press releases, all of which are posted at investors.servicenow.com. Our total revenues for the second quarter were $247 million, increasing 48% year-over-year and 59% in constant currency, an $18 million FX impact.
We now have 186 customers that pay us more than $1 million in annualized contract value, an increase of 18 customers or 11% quarter-over-quarter, and 75 customers or 68% year-over-year. Our average contract terms for new customers, upsells and renewals were 31.1, 26.0 and 22.6 months respectively. Our annualized contract value per Global 2000 customer as of Q2 was $804,000, up 34% from the prior year and up 7% from the prior quarter. Total revenues based on geography were $174 million in North America, $56 million in EMEA, and $17 million in Asia Pacific and Other, representing 71%, 22%, and 7% of total revenues respectively.
Our calculated billings using the change in deferred revenue from the statement of cash flows was $281 million in the quarter, increasing 50% year-over-year and 62% in constant currency, a $23 million FX impact. We also noted that several analysts and investors continue to calculate our billings using the change in deferred revenue from the balance sheet. As we previously mentioned, calculated billings derived from the statement of cash flows better aligns with our actual billings. Our foreign currency statement of cash flows translate into U.S. dollars using an average quarterly FX rate, where our foreign currency balance sheets translate into U.S. dollars using the spot rate at the end of the quarter. We bill throughout the quarter, so the calculated billings using an average FX rate from the statement of cash flows better represents and is consistently closer to our actual billings.
Our weighted average subscription billings term was 12.2 months for the second quarter compared to 11.7 months in the prior year. Subscription gross margin in the quarter was 82% compared to 78% in the prior year. Professional services and other gross margin was 38% compared to 34% in the prior year. This includes $11 million of revenue related to Knowledge, while all related expenses run through sales and marketing. Excluding the Knowledge revenue, our professional services and other gross margin was 19% compared to 13% in the prior year. Our overall gross margin was 74% compared to 69% in the prior year. Excluding the Knowledge revenue, overall gross margin was 72% compared to 67% in the prior year. Operating margin was 6% compared to -3% in the prior year, including net expenses of $10 million related to Knowledge.
We ended the quarter with 3,187 total employees, a net increase of 140 from the prior quarter. We continue to expect between 850 and 900 net employee additions in 2015. Net income for the second quarter was $7 million or $0.05 per basic and $0.04 per diluted share, compared to a net loss of $9 million or -$0.07 per basic and diluted share in the prior year. Our basic weighted average shares outstanding was 154 million, and our diluted weighted average shares outstanding was 168. During the second quarter, we generated $79 million in cash flow from operations, and we used $15 million for capital expenditures, resulting in $64 million in free cash flow. This compares to $26 million of free cash flow in the prior year. We ended the quarter with $1.1 billion in cash, short-term, and long-term investments.
Let's turn to guidance for the third quarter and full year 2015 based on FX rates as of the end of Q2. For the third quarter 2015, we expect total revenues between $252 million and $257 million, representing year-over-year growth between 41% and 44%, and between 49% and 52% in constant currency, and approximately $14 million FX impact. We expect subscription revenues between $216 million and $220 million, and professional services and other revenues between $36 million and $37 million. We expect billings between $280 million and $285 million, representing year-over-year growth between 35% and 37%, and between 42% and 45% in constant currency, and approximately $15 million FX impact. We expect subscription gross margins of approximately 80%, professional services and other gross margin of approximately 14%, and overall gross margin of approximately 71%. We expect an operating margin of approximately 8% and free cash flow of approximately $35 million.
For full year 2015, we expect total revenues between $985 million and $1 billion, representing year-over-year growth of between 44% and 47%, and between 52% and 55% in constant currency, and approximately $54 million FX impact. Our total annual revenue estimates consist of subscription revenues between $830 million and $840 million and professional services and other revenues between $155 million and $160 million. We expect full year 2015 billings of approximately $1.2 billion, representing year-over-year growth of approximately 41% and approximately 49% in constant currency, and approximately $70 million FX impact. We expect approximately 6% operating margin for the full year and to end the year with approximately 180 million fully diluted gross shares outstanding, which includes all basic shares, stock options, and RSUs outstanding before applying the treasury stock method.
As a final reminder, we've included a high-level reconciliation of constant currency for Q2 results and guidance in the appendix of our quarterly investor deck posted at investors.servicenow.com. With that, operator, you can now open up the line for questions.
Ladies and gentlemen, if you would like to ask a question, please press star one on your phone. If your question has been answered or you wish to withdraw your question, please press star two. Questions will be taken in the order received, and we will pause briefly to compile a list of questions. Please press star one to begin. Your first question comes from the line of Brent Thill with UBS. Please proceed.
Thanks. Good afternoon. Mike, just on the billings guide, I'm curious, obviously the constant currency you gave was a healthy metric, but anything else that you're looking at that's having an impact as it relates to how you look at billings and realizing you've got the FX headwinds and the bigger comp from last year?
No, a lot of it has to do with timing of renewals and other things in billing our backlog. Remember, the biggest chunk of our billings is actually billing our contracted backlog and based upon the historical billings terms that they had, as well as new renewals that we do, and it does get impacted. There is potential upside in any quarter in billings if you're able to pull some renewals into a current quarter with upsells, and we just don't forecast that.
Okay. Maybe for Frank, just as it relates to the traction among the Global 2000, you continue to make very good progress there. I'm curious if you could just shed what you're seeing as it relates to some of the larger enterprise contracts and how you think about the pipeline in the back half of the year.
I'm feeling good about it, Brent. We've consistently been skewed toward the very large enterprise in our business, more and more so over the last several years, and we continue to do well there. It's not just the new logos that we're landing, it's also that our footprint in the Global 2000 logos that we already have continues to expand very nicely. It's really a key part of our strategy to land in those enterprises and then grow our footprint in them. It's one of the reasons why we highlighted the traction that we're having with our emerging products, because that all flows into those large institutions as well. It's really an ongoing opportunity for the company to sell new and existing products.
Thank you.
Your next question comes from the line of Raimo Lens how with Barclays. Please proceed.
Thanks for taking my question. Frank, you obviously launched a Store at the customer conference. Could you give us any initial feedback you've seen from customers and partners? Thank you.
Raimo, people are pretty happy with the fact that we have a monetization feature in our community at this point. As you know, we had our share facility allow people to upload and share content. What's new, of course, is the ability to monetize. It really becomes a route to market for professional software developers, people that not just build software for a living, but also have to sell it for a living. It really opens things up. It really goes hand-in-hand with a bigger program that we have to attract professional developers to our platform. That's why we made a whole bunch of other announcements around it as well. We signed up 10,000 developers to the program. We're now provisioning developer instances to developers for free. All we need is an email address.
We've really lowered the bar to allow people to come in, stay a while, learn, really explore, and experience what it's like to be on our platform. I think the Store is just one aspect of that overall strategy for us, and so far it's been well received.
Perfect. One quick one from Mike. Your gross margins are trending obviously nicely in the right direction. Could you just talk about the puts and takes you see there for the second half, please? Thank you.
The second half is really just as we continue to expand within some of our data centers. There is some new capacity coming online that is going to hit us with depreciation. That is reflected. Also, we plan on stepping up some of our hiring in the second half of the year within both our support and our cloud infrastructure that will negatively impact the subscription margin line, hence why we guided to 80% from the 82 that we achieved last quarter. Long term, I will reiterate the guidance we gave at our Analyst Day. Long term, I see the leverage we will be able to get out of our subscription line.
Lovely. Thank you. Well done.
Your next question comes from the line of Keith Weiss with Morgan Stanley. Please proceed.
Excellent. Very nice quarter, guys, and thank you for taking the question. Just in terms of the sales reorg at the beginning of the year, it looks like any sort of issues in terms of getting people online have been solved. Can we just get an update there? You guys feel comfortable that those issues have been smoothed over and sales force is operating as expected or sort of to plan on a go-forward basis? Related to that, on the hiring front, given that you haven't changed your targets for the full year, it seems like you have a lot of work to do in terms of hiring into the back half of the year. To what extent are you having issues or having trouble sort of meeting the targets for sales hiring in particular, or are you on target there? Does that have any impact?
Is there any kind of supply constraint, if you will, or capacity constraint on the business based upon hiring?
Yeah. Keith, this is Frank. On the reorg, as we sort of emphasized during the quarter, this is something that sort of straightens itself out in normal course of business. For example, in the big reorg was to really split our organization between enterprise business and commercial business. We saw our commercial business between Q1 and Q2 grow sequentially about 72%, which really is a fairly healthy indicator that things are normalizing and straightening themselves out. We think that's really behind us. In terms of your other question, hiring obviously is an enormous responsibility and a huge task that we have every quarter to bring so many people on all different categories that we're hiring. We were certainly under where we would have liked to have been in Q2, but we reiterated our guidance for the full year.
We have not backed off of our intentions to hire in all the categories. Obviously, having things like big conferences like Knowledge in the mix doesn't help. We had a good start on hiring coming into Q3, and we'll have pedal down for the rest of the year.
Excellent. Thank you.
Your next question comes from the line of Kirk Materne with Evercore ISI. Please proceed.
Thanks very much. Frank, I was just wondering, along with the launch of the store, obviously you guys are trying to build out more of an ISV community on top of your platform. I was wondering if you could just give us an update on how that's going and what we should maybe be thinking about in terms of seeing some ISVs sign up to build more, I guess, discrete solutions on top of the platform. Mike, I was wondering if you could just talk about the government business. Last year you guys had a really strong third quarter. Just what are your expectations heading into what is obviously a strong seasonal time for the government? Thanks.
Kirk, there's really no update beyond what I talked about in the prepared remarks. It's very early going. This sort of thing has a slow fuse on it. We've really started sort of seeding the marketplace with developer programs, with free developer instances. As I said, we're approaching 100 apps and integrations on the store. There's another number like that in the pipeline. We're at the very beginning, I feel, in terms of that entire process. Before people fully sign up, build applications, are ready to go to market, quite a bit of time goes. You got to get started, and that's what we've done here. We'll be updating you in future calls on where we are with this.
On the federal government, Kirk, as you know, Q3 generally is one of the stronger quarters for the federal government. As of right now it looks like we will have a good quarter, but we really don't talk about individual lines of business in terms of segmentation, how they do. As you know, we have a big investment in our federal organization, not just on the sales side, but our data centers. We're very hopeful long term that will be very meaningful for us.
Great. Thanks for the color. Congrats on the results.
Thank you.
Your next question comes from a line of Justin Furby with William Blair & Company. Please proceed.
Great. Thanks, guys, and congrats. I wanted to ask about rep productivity. Frank, you talked about it a bit sequentially, but on a year-on-year basis within the entire sales team, what did you see from a productivity standpoint? Then on the hiring side of things, it sounds like no change. Is that the same with the sales rep side of things in terms of your expectations of hiring for full year?
Yeah. In terms of our reps and our sales, and when we talk about headcount, we always talk about sales and marketing headcounts in total, and we are continuing to add with what we've said before, and that's not changing. In terms of productivity, we did see an increase in productivity sequentially from Q1 to Q2, which we were very pleased with, and it was pretty much flat from the year-ago quarter.
Okay. What about, you called out the revenue side from geography, but from a new business standpoint, was there anything that was particularly strong, weak across Europe, U.S., APAC that stood out?
From a geography standpoint, no. It was pretty much consistent as you saw on our revenue side. Some of our big deals, I will say that big financial institution we talked about was a European one. So upsells were very strong in EMEA, and we were pleased with our results in Asia Pacific as well last quarter.
Okay, great. Just one last one on free cash flow. I think at your Analyst Day, you kind of put up $160 million as sort of a proxy for this year. It seems like you're tracking well above that. I know you're not necessarily guiding to it, what's the right way to think about growth in free cash flow looking out the back half of this year and then over the next few years relative to maybe your P&L or anything else?
Stay tuned for long-term guidance on free cash flow in January for 2016. We really don't give long-term guidance there. As we said earlier, we're expecting about $35 million in free cash flow in Q3. One of the reasons it's down quite a bit from the $65 million we just did is, as we mentioned at our Analyst Day, we were off to a very strong start in Q2, and as a result, we did a lot of billing early in the quarter and collected, where historically we would have done the billing in the quarter and collected in Q3, for instance. That's one of the reasons why our free cash flow is there. We're very pleased and we're tracking well ahead of where we thought we would be at this time in the year and for the full year.
Okay, great. Thanks, guys, and congrats.
Your next question comes from the line of Michael Turits with Raymond James. Please proceed.
Hey, guys. Michael Turits. Mike, during the reorg, there were some changes, I think, in the way that you rolled up the pipe and looked at visibility and adjustments that had to be made there. Where are we? Do you feel like you've got visibility back where we want it?
As Frank Slootman mentioned, we're very pleased with what we saw, the growth in our commercial business. We think it's back to where it needs to be right now, we think that's behind us now, obviously time will tell.
Okay. I'm not sure if it was in the prepared remarks, Frank Slootman, did you mention platform licenses and where you are with those? What progress you made on getting those going?
No, it was not in the prepared remarks. The thing that I keep emphasizing, all of the ServiceNow business is platform business, right? It's only one thing. You're referring specifically to the licenses for custom bespoke applications, which is something separate. We did not disclose the data. I don't have that on me either. No, that continues to do very well. We have 85% of our customers have on average six and a half, seven applications deployed on our platform. It's just something that's very part and parcel of virtually all our customers, the way they use our platform. They have a lot of services on there that are standard that they buy from us, there are a lot of services that they either built themselves or they have partners build for them. That continues very well.
Great. Thanks a lot.
Your next question comes from the line of Philip Winslow with Credit Suisse. Please proceed.
Hi, guys. I wonder if you'd give us, I know you have a, pardon me, a single SKU now, but just sort of some color on feedback from both existing and potential customers on field service management, HR, just the newer functionality to the platform.
Yeah. This is Frank. You're correct. We've really made a strong push to skew ourselves around service management to allow customers to really embrace that enterprise-wide and not for them to have to keep track of licenses that they use for IT versus Human Resources versus facilities, and so on. The downside of that, of course, is we don't necessarily know what people are using it for or how they're moving it around. We just know anecdotally that Human Resources is still by far the area outside of IT that has the most traction, and we're putting a lot of resources behind that as well. We're very optimistic about the momentum that we have in those areas. Some of the others are trailing behind that in terms of procurement, facilities, legal, marketing. You mentioned field management. There's obviously a lot of other areas.
One of the things that we released in the current release of our software is a set of templated capabilities to allow people to stand up their own service management applications because it's a very, very fragmented business in the sense that there's all kinds of service domains that people can build service management capabilities for. It's not always as discrete and big bucketed as it is with things like human resources and facilities, which is sort of the bigger go-to items, if you will, after the IT category.
Got it. Thanks, guys.
You bet.
Your next question comes from the line of Matt Hedberg with RBC Capital Markets. Please proceed.
Yeah, thanks for taking my questions, guys, and congrats on the quarter as well. Mike, you alluded to, in the last quarter, Q2 got off to a very strong start. I'm wondering if you could talk about the linearity in the quarter. Certainly as deals get larger and cross-sell increases, is it becoming more back-end-loaded? As a follow-up, has Q3 gotten off to a similar strong start that you saw in Q2?
I apologize, Matt, you cut out a little bit, so if I don't answer your question properly, I couldn't really hear the first part. I think you were asking the linearity in Q2, how was that? Yes, it was one of our fastest starts to the quarter, as we had mentioned before, hence one of the beats in our subscription because the revenue came in or the deals closed sooner, so we were able to recognize more of that revenue in the current quarter. In terms of Q3, we're pleased with the start where we are today. It's not as fast as last quarter, but we weren't expecting that to be. I would say it's slightly ahead of where we have normally been in the past in Q3.
That's helpful. Frank, hopefully you can hear me on my last question here, but can you talk about the competitive landscape, be it the legacy vendors or more of your emerging competitors like Salesforce.com on the platform or services side?
Yes. The competitive dynamic is really not changing that much. When we look at our top five brands that we replace, that mix has consistently been the same. Most of the energy, if you will, in the marketplace is at the low end, especially the extreme low end, all the way down on the SMB side. One of the reasons that we stood up a whole commercial sales organization alongside our enterprise sales organization is because we're going to become much stronger in that marketplace. That's also why we launched the Express product to be very, very active in that opportunity. That's sort of where that all stands. I forgot what the other half of the question was.
Maybe just more on Salesforce.com.
Yeah. Salesforce obviously they show up in platform situations. There aren't that many sort of head-on collisions where people go out to bid on platform opportunities. ServiceNow platform is sort of something that happens as an extension of the deployment that they already have. They typically are not brand-new procurements. It does happen In those cases, it tends to be competitive with people like Salesforce. Most of the time, they're really follow-on contracts and opportunities that are not competitively contested, which is actually a great advantage for us. It isn't really a marketplace where you're out and out contesting platform opportunities. It's really growth from existing deployments. That's probably something that people really need to appreciate and understand more, because if you go to Gartner, Inc., they always wonder why they don't get more questions about us.
The reason is, the questions have already been answered, as a byproduct of people already buying into ServiceNow. They already own it. They're already using it. They're just buying incremental licenses to be able to do more things with it.
Thanks a lot, Frank.
Yep.
Your next question comes from the line of Rob Owens with Pacific Crest. Please proceed.
Great. Thank you very much. Good afternoon. If I look at the first half of the year, you guys have either hit or exceeded the high end of your revenue range. As you guide for the remainder of the year, what keeps you from increasing the high end of the range at this point? It's not like you guys, with your subscription-based model, can pull things forward.
I would just say, Rob, we're comfortable with the guidance that we gave for Q3 on the revenue side and the balance of the year. You got to remember where FX-
You're not foreshadowing anything happening with the pipeline?
No, not foreshadowing anything happening with the pipeline.
I'm sorry, I cut you off, Mike. You were saying something about FX?
You also see where FX rates are today as well.
Sure. They've been pretty consistent for the last couple of quarters.
Yes.
Second, on the free cash flow side, if I look at the trailing 12 months, you've had a free cash flow margin of roughly 15%, I think. Is there any reason to think as the business continues to grow, especially at this rate and the scale, why that might decline? Again, I'm looking at a 12-month basis just to kind of take out some of the one-time things that can happen with cash flow.
For quite some time, our free cash flow margin will exceed our operating cash flow margin as we continue to grow here. I don't see it long term coming down below that number we're at, because obviously we're showing margin expansion on the operating margin line on a non-GAAP basis. There is nothing that you wouldn't expect it to go down from there.
Great. Thank you very much.
Welcome.
Your next question comes from the line of Sarah Hindlian with Brean Capital. Please proceed.
Thanks for providing all of the constant currency numbers and reconciliations. I think we all appreciate that. Just a couple questions for you. Can you talk a little bit more about your sales cycles and any dynamics you've seen there that are different versus Q1? Mike, I think you recently noted it was about a nine-month sales cycle, and I'm just wondering if that's still kind of what you're seeing there. My second question is for Frank, and that is, I think the mid-market opportunity is really interesting, and I'm wondering if you could talk a little bit more about the demand you're seeing there and where you think that could trend.
On the sales cycles, obviously, commercial accounts can have a much shorter sales cycle. On average, though, we're still seeing nine-plus month sales cycle. Large Global 2000 accounts, you could have two-year-plus sales cycles. It does vary quite a bit by the type of customer we're selling into, and I really don't expect that initial sales cycle is going to change anytime soon, especially on large accounts, because remember, there are no greenfield opportunities in the initial sale when we're selling into many of these people on an ITSM replacement. Upsells tend to happen much quicker within accounts, once again, it varies by customer.
Okay.
This is Frank. The only other thing I'll say about it is, it's not always as neat as the sales cycle is X number of months. Sometimes transactions can just disappear because there's turnover in the executive ranks, there's other priorities, and they literally go dormant or even just go away for a period of time, then they get hot again. I mean, these are ERP-grade type undertakings, and they have a bit of an unpredictable character to them. It's really incumbent upon us to sort of have the volume of business to be able to absorb the ebbs and flows of the business. It's very hard to say it is exactly this number. They are really averages, there's a huge range.
We have seen very large transactions happen very, very quickly, we've seen all kinds of transactions just come sort of wax and wane and not happen. I mean, we had one transaction close this quarter that I think got pushed like five or six quarters in a row. That's the kind of crazy stuff that happens in our business. The good news is they always happen. I mean, time is our friend, and typically it's.
Cool.
On your question on the mid-market, that is the reason why we sort of pulled through that entire sales reorg that's been talked about so much, to have a full-on commercial sales organization that operates completely separately from our enterprise organization. We're also following that up with different approaches, different types of people, and different product, quite frankly. A product that is often simpler, that is more aggressively priced, and that really goes after a customer that looks very different than the large enterprise customer, where we've been very successful. We're really very specifically taking aim at that commercial mid-market with our products and our sales organization.
Your next question comes from the line of Walter Pritchard with Citi. Please proceed.
Hi, thanks. Mike, you're seeing some pretty good leverage in the business at this point, and I know you've always talked about that would come through. I'm wondering, as we look at sort of the type of leverage that your guidance implies into Q3 and presumably into Q4, is there anything that we should expect that would work against that might not let that continue, for example, into Q4 and into next year as we model forward?
No, I think on a quarter-over-quarter basis, you won't always see that type of leverage, but you should expect to see it year-over-year quarter. We will continue to show leverage in our model.
Got it.
It's the nature of the revenue is growing faster than our costs.
Got it. Okay. Frank, you sound like you're seeing, I don't know, maybe I characterize this as a little bit of an inflection on the non-IT apps this quarter. I'm wondering if that's caused you to do anything mid-year, sort of reprioritize some of your development efforts or put incremental investment into some of those areas like the financial management app, the HR onboarding app, and other areas that you may be developing apps that you haven't talked about at this point.
We've been in the mode for some time, commonly one product, one market, to multiple products, multiple markets, we've completely reorganized ourselves on the product side to be able to execute that way. We're following through in all the other functions, sales, pre-sales, service, and so on to be able to support that so that we have multiple growth engines executing simultaneously in the businesses that are not in the core service management area. That is very much part of our vision. It's very strategic to sort of move us from that $1 billion run rate to the $4 billion run rate that Mike characterized that the Financial Analyst Day back in April in 2020 timeframe. We have to make that transition successfully to really fully take advantage of our total addressable market opportunity.
We're seeing some evidence that is beginning to contribute to the overall business.
Great. Thank you.
Your next question comes from the line of Steve Ashley with Robert W. Baird. Please proceed.
Thank you so much. I would just like to ask a little bit, following on Walter's question there, about the ITOM business specifically. You've now baked in ServiceWatch. Has that helped kind of change the trajectory of that business? Has that allowed you to have conversations you haven't had before? If maybe we could just get an update on what's going on there.
Yes. This is Frank. ServiceWatch has been a very hot product for us. It's become the lead product. That's what the sales organization sort of tees up first and likes to talk about. It attracts the attention of the entire organization. It is something that we feel everybody has to have. It's really understanding the impacts of all kinds of incidents and how it affects the services and the users that are supported by those physical assets. It is a component everybody has to have. We're having a lot of traction with the ServiceWatch, had a great quarter. We have a tremendous pipeline for that product. We're very excited to have it, and it is the tip of the spear of the entire ITOM portfolio because it then drags the other components right along with it.
Notably Discovery, because Discovery and ServiceWatch go hand-in-hand. Also Event Management had a very strong quarter, Orchestration and so on. We're finding in general that selling ITOM is a very natural sales motion after Service Management, and our sales organization is really winding up worldwide in that way. We're excited with the momentum that we're seeing in that way.
I'd just like to ask about your developer program. If we were to juxtapose your platform and development program against some of your competitors, like Salesforce1, are there any key differences you might point out to us?
Yeah. One key difference that I would point out is that our platform caters to a much broader set of skill sets. We cater to professional developers. Government groups sometimes refer to them as code developers. That's actually a relatively small group. Secondly, we cater to what we call low-code developers, which is a much larger group. That's been the traditional ServiceNow group. These are people that are mostly people that understand data, that know how to handle declarative constructs, but have very light scripting skills. They're not hardcore programmers. That's a group of people that ServiceNow has stood out with and sort of what put us on the map. We also cater to no-code developers at all. In other words, people that just have to define and publish services and have absolutely no procedural skills whatsoever.
by the way, we outlined it at our conference, that is really the big difference between ServiceNow and everybody else out there, is that we have a very broad spectrum of developers that our platform can cater to, and that is absolutely not the case with the competition.
Thanks so much.
Your next question comes from the line of Derrick Wood with Susquehanna. Please proceed.
Great. Thanks. Frank, exciting to hear about the, I guess, the largest upsell ACV deal ever. Just be curious to hear a bit more about this transaction, how it came to fruition.
Why you won, who you displaced, the breadth of the product adoption. Just a little bit more color on this would be great.
Well, as we said, it's a large financial institution in Europe, and just by the very scale of that institution, it ended up being a very large deal. Alongside of that is we sold virtually everything we had in that transaction as well, including Performance Analytics and GRC and so on. It was a very successful platform sell. It was the entire enchilada, if you will, which is our favorite way to sell, where people really embrace the entire platform and are not picking and choosing a few components. That's really what made it big. It was a replacement of one of our large legacy people that we typically displace. What was interesting about this account is that it wasn't just driven from the IT side, which is sort of traditionally where our bigger deals come from.
We had a lot of stakeholders all the way up to the CEO office, as well as the CTO. Very broad-based executive involvement in this transaction. They were looking for a big transformation on how they were doing things inside that institution. It's just nice to see transactions of that magnitude where it's becoming that strategic for that large an organization. We're looking for a lot more of those.
That's great. I guess as a follow-up, as customers are looking to adopt a platform, a breadth of modules, it would seem that there'd be more of a need to help bring in best practices and more focus on ITIL frameworks and such. How do you weigh the need to have that internal consulting expertise versus leaning on partners? Maybe if you could just give an update on the partner front, that'd be great.
Well, our general posture is we're very partner friendly. We're not driving scale in our services business for the sake of it, because we all know it is a drag on margin. We're basically running our services business at the pace that we feel is appropriate for the strategic need that it serves. That is, we have to be able to step up. When a customer says to us, "You have to lead the engagement," then we have to have the ability to do it. That requires a certain level of mass for us to have that and also have all the skill sets that you mentioned that we can bring those to the table. For a services organization, that's becoming a little bit more challenging because they now also need to know about project management.
They need to know about ITOM, the whole operations side of the house. They need to be specialists on ServiceWatch. We have a much greater diversity of skills now that we're asking for from our own services organization, as well as from our ecosystem. Our first order of business is always we don't want to crowd out our partners. We want them to be heavily invested in our business, and we always make room for our partners when we have an opportunity to do so. It's a balance. It's a mix, and we will continue down that path.
Great. Thank you.
Your next question comes from the line of Karl Keirstead with Deutsche Bank. Please proceed.
Thanks. I just wanted to return, Mike, to the operating margins. I think on the Q1 call, you had guided to full-year non-GAAP operating margins of 5%. I might have missed it on this call, but did you update that guide? It feels like you're tracking well above that. I'd love an update. Secondly, related question. You materially outperformed against your operating margin guide for 2Q. Just so I understand that, was that primarily because you underhired? Thank you.
Thanks, Karl. Full-year guidance we gave was 6% for operating margin. In terms of the Q2 beat, there was a combination. One was we came under quite a bit in our expenses around our Knowledge15 event, which we managed that very well. The other thing is hiring, as you did mention. Thirdly, there were just some expenses, particularly around some of our legal expenses, and it was the timing of those where we were expecting were going to come in Q2, and they pushed into Q3.
That's super helpful. If I could just follow up on that second one, Mike or Frank, just on the hiring front. Just in terms of why it might be a little bit more back-end loaded, is that because it's a pretty tough competitive hiring market out there, and if that's the case, we're certainly hearing that from plenty of other technology companies? Is it a little bit more internal where you feel like you need to fine-tune the funneling and recruiting process? Thank you.
This is Frank. It's mostly internal. Hiring is always hard. It's never easy. It hasn't been easy for all the time that we've been in here. We've been very good at it. From time to time, we have stronger quarters, we have weaker quarters. That's why we always sort of focus you back on what the annual commitment is, because whatever we lose in one quarter, we make it up in the next. I would not read that much into it. It's an internal execution issue for us. We don't think the external conditions have materially changed.
Got it. Good color. Thank you both.
Your next question comes from the line of Alex Zukin with Stephens. Please proceed.
Hey, guys. Thanks for taking my questions. First question on renewals, just being a bit of a variable with respect to the billings guidance. I wanted to ask about the effect of this greater renewal activity in the back half on maybe sales rep productivity with respect to new business. Are they having to spend more and more time on that aspect? Is there a separate team handling that? Just any color would be good.
There is a separate team that handles renewals, but the salespeople are actively involved in those renewals, especially on our larger accounts. What I was referring to on the billings around renewals, many times our salespeople are negotiating upsells with customers, and we end up doing the renewal early with those upsells that relate in billings that is very hard to forecast, is what I was referring to. That's been something that we've been dealing with for years as a company.
Got it. That's helpful. Just can you maybe talk a little bit more about the traction with the Express product and the fact that you have some customers that actually in the enterprise, you get upsold or convert to the enterprise version of that product. Is that more of a strategy that you're building out? Maybe the competitive environment in that segment as well.
Yeah. This is Frank. We really built Express because we felt there was a sort of a section at the lower end of the marketplace where we weren't as good a fit with our enterprise products, both in terms of the feature set, the user experience, the pricing, the contractual model, how automated the provisioning was, the low touch nature of the whole marketing and sales model, because people typically don't go on site for those kind of things. We've been off to a very strong start with the Express product. The sequential growth is very fast. It's also a product that we're focusing very much on the commercial markets, probably more so than the SMB side of it.
The SMB side is very low end, whereas in the commercial market, it really becomes a product where that sales organization can be much more aggressive with that product than they can be with the enterprise product. It's just a different model altogether in terms of the user experience, the feature set that it has, the pricing model, the contractual model, all those kinds of things. We're excited to have that. The competitive dynamic is different. There's different people that show up in that space. Interestingly enough, we do see people graduate from, and we highlighted that in the prepared remarks, they graduate from the Express product to the enterprise product. Before we had that product, we might have just never seen those people and lost them altogether.
This has really sort of grown a core capability to the overall product line that we think is super helpful.
Your next question comes from Linus Abayomi with Mizuho Securities. Please proceed.
Yeah, thanks. Frank, I think you mentioned 96 applications in the ServiceNow Store. Can you discuss what type of functionality are they addressing? What's the common thread in those applications, and how do you expect your momentum in that area to progress from here?
A lot of those applications are not brand new. They've come over from the previous share capabilities. There are a lot of our partners that have been with us for a long time. A lot of them are integrations. In other words, capabilities that really help ServiceNow work with other products. The traction that we're having, yes, we had about 96 of those in the system. There is another number in that order of magnitude of people that are going through various phases of certification. It's a little bit too early to give a good characterization. We may do that in a future call and then give you a little bit more color on exactly what that is. Alternatively, if you feel like getting on the site and looking at it, you're welcome to do that as well.
Thanks. Mike, your sequential billings growth rate expectations of roughly flat in Q3 seem conservative as you normally experience growth in the third quarter. Was there any pull forward of deals from third quarter to second quarter or any other factors in play here that could result in below normal seasonality in third and fourth quarters?
Well, what I would say in Q2, as we mentioned, our weighted average billing term was 12.2 months versus 11.7 months in the previous quarter. As a result, that was about a $10 million pickup we had because we had some multi-year billings in the quarter. We don't forecast multi-year billings in our billings guidance.
All right. Thank you.
Your next question comes from line of Greg McDowell with JMP Securities. Please proceed.
Great. Thank you very much. You had mentioned that new customers are starting with larger initial transactions. I was hoping you could just give a little color on whether that's more a function of adopting a lot more users upfront versus adoption of some of the emerging products you had mentioned. Thank you.
Well, I think, this is Frank. We're selling broader and higher these days than we ever have. It was a sort of a key thrust for us coming in 2015, to not sell sort of tactically in narrow categories, but really position the company broadly and widely, and that does drive bigger transactions upfront. This is what we expect to see happen. It doesn't always happen that way. We talked about our largest upsell project we've ever seen. That was an upsell. That was not an initial deal. It's happened many times that we may have an ACV contract with somebody for a couple hundred thousand, and then we have an upsell that's worth millions.
It doesn't really matter all that much, whether we land with a small transaction first and do a much bigger transaction afterwards, because what we really look at is, and what we really track and measure, is really how many customers we have in that ACV range. I think we said we had 168 customers now that are over $1 million in ACV. That's really what matters. How they got there and how many transactions is really not as important, because we will campaign the customer for the entire product line, regardless of whether they get started with us small or whether they sort of bite off the whole thing upfront.
Thank you.
Your next question comes from line of Kash Rangan with Merrill Lynch. Please proceed.
Hi, thank you. I was curious to drill into the ACV of $6 million in the financial services sector. Can you talk about when you look at companies like Salesforce that have been through your phase, they're a comparable size, I think a little bit larger. They signed a big deal with HP, some $10 million-$15 million in ACV per year, something like that. Could this be the beginning of a turn in the way big deals are done by ServiceNow? In other words, is this a one-off, or do you see validation for what could be building in the pipeline for more of these mega deals?
My second follow-up was, if you were to look at a new ACV that is renewally back on the renewal and look at new ACVs, was there a change in the composition of new ACVs by the core ITSM versus the non-core? Thank you.
In terms of the mega, this is Frank. I always take the position that if I can do one, I can do more than one, if not hundreds. I'm not just saying that in regards to this particular transaction, but we saw an almost $2 million transaction with our GRC product. If we can do one, we can do more. The same thing on the ITOM side with ServiceWatch. If we do a handful, we can do a lot more. It's really proving to yourself that you can do it, and then we will scale it broadly and deeply. The answer generally to your question is yes. I mean, we can do it once. We believe that becomes the evidence that we can do it many more times.
As a follow-up to your other part of your question. Initial deals still tend to have a bigger service management component, the follow-on deals tend to be more skewed towards products outside of service management. That doesn't surprise us because our land and expand strategy all along has been, we sell into IT, it's generally an ITSM replacement. We are starting to do more beyond that initial deals. Remember, because we have so many old customers that started with ITSM, a big portion of upsells tends to be outside of service management.
I see. When you look at the upsells specifically, is there a change in the composition of the new products versus existing ITSM add-on?
Yeah-
I guess that's a second derivative question. Yeah.
Yeah, I would generally say yes. I will add to that, what Mike's saying is absolutely correct, that has been our historical go-to-market motion and still very much dominates in how we do things. As we fully transition to a multi-product, multi-market model, I would not be surprised to see us lead with transactions that are not service management at all. That is going to happen. We've already seen, we've done human resources deals, for example, in accounts where we've done absolutely nothing on the IT side. That's going to happen as a byproduct of how we're organized and the multiple prongs that we have going into our sales campaigns.
Sounds very exciting. Thank you.
It is.
Next question comes from line of Timothy Klasell with Northland Securities. Please proceed.
Yeah. Two quick questions here. On the Express customers who migrated to the Enterprise, what features or capabilities were they looking for? I know it's a small sample size. How did that affect their ACV?
Well, this is Frank. It affects their ACV immediately. That's a much bigger bill. The features that make them graduate, usually it has to do with client or server-side scripting, and the ability to really take advantage of the platform. As you recall, Express was very much designed as a product that can deploy in hours and days, not weeks and months. We do that because there's really nothing to do other than loading in your users and their credentials, and you just hit the button, and you go. All the processes are predefined. That's the concept behind Express. That's why it's called Express. When customers get into that, then they all of a sudden are starting to develop all kinds of requirements that don't fit that highly standardized model. Now we're going into the enterprise model. It costs more money, and it's a much more powerful product.
That's typically what happens. People often think going into the process that that product will suit their needs very well, and then they get into the process, and they develop requirements that they did not originally envision. It's not a bait and switch. It's just that as people learn what it is that they really want to do, sometimes that triggers an upgrade. The great thing about the way the product is architected is It's a push-button upgrade. We can take people's instances from Express to Enterprise in a very simple, straightforward manner. There is no painful conversion migration associated with that process.
Okay. Can you give us maybe a percentage on the ACV increase?
Well, generally, our minimum deal on the Enterprise is $42,000 a year. The average ACV on Express is somewhere between $10,000 to $15,000. You can see the uplift.
Okay. That's very helpful. Then just one, in the past, you guys used to give sort of a cohort analysis on the number of apps that were used on the platform. I think you mentioned that earlier, Frank. Do you guys still track that and can share it with us?
We do track that. I don't have the latest and greatest data on me, but I think we said, the average is about six and a half apps. Right now, 85% of our customers have, on average, six and a half apps on the platform. We will update that again, that data. We look at that sort of in every six months on a cohort basis to see how that is progressing.
Okay, great. Thank you.
Yep.
Your next question comes from the line of John Rizzuto with SunTrust. Please proceed.
Hi. I want to ask a question about Platform as a Service, not yours in particular, but the movement toward it. It's been very slow for enterprise adoption, but that seems to be accelerating. As that changes, the face of the IT industry changes. I'm really looking for two indications. A, if you think it's going to make a change, good, bad, or indifferent to your business, and then B, has anything happened as more enterprises, perhaps even your own customers starting to go toward the cloud for their own development needs and their own IT needs?
Yeah. This is Frank. I find that delineation between Platform as a Service and Software as a Service is just too stark a contrast because the reality is that people would love to have standard services that they don't have to build because it's obviously a lot quicker and easier to take things off the shelf. You configure, modify for your needs, and you go. We typically see that people get started with standard services, and then as they learn how things work and they develop new requirements, they start to add custom services where they are now using the platform as a platform, and they add that to it. It's a very fluid mix of using platform and standard services. That, to us, is typical. It is not typical to see pure platform deals where people are not using any standard services and everything is from scratch.
We have those customers, they exist, that is not the main mode of our business. The main mode of our business is very much mixed use between standard and custom.
Right. Frank, what I was asking about was, if the Procter & Gamble, one of your customers, starts to do some of its own custom application on Microsoft's Azure, certainly the service desk components, different components of the IT that it may have as a customer of yours, it can still use. I'm just wondering if that's a catalyst as some of your existing customers or potential customers go to another PaaS service, again, migrating to cloud adoption more broadly, how that might have an effect, or you don't think it may, or it might not.
Well, our use cases on the platform are much more associated with the service model in general. We sort of have not ventured into the very broad world of custom application development where sort of any type of project can be attempted. I mean, that is a totally different market. Our platform applications are always downstream from where we already are with the domains that we're serving. Okay? We're not a general purpose Infrastructure as a Service capability like an Azure or Amazon Web Services, where it's the infrastructure and then some ancillary services to help people along. Our platform orientation is very different from those kind of offerings.
Correct. Okay. Thank you.
There are no more questions in the queue. I will now turn the call back to you, Michael, for any closing remarks.
Thank you. As a reminder, a replay of this call will be available in the Investors section of our website. Thank you for joining us today.
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