Good day, everyone, and welcome to the Pegasystems' fourth quarter 2019 earnings results conference call. Today's call is being recorded. At this time, I would like to turn the conference over to Ken Stillwell, CFO. Please go ahead.
Thank you. Good evening, ladies and gentlemen, and welcome to Pegasystems' Q4 2019 earnings call. Before we begin, I'd like to read our safe harbor statement. Certain statements contained in this presentation may be construed as forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. The words "expects," "anticipates," "intend," "plan," "believes," "will," "could," "should," "estimate," "may," "targets," "strategy," "intends to," "projects," "forecasts," "guidance," "likely," and "usually," or variations of such words and other similar expressions identify forward-looking statements, which speak only as of the date such statement is made and are based on current expectations and assumptions. Because such statements deal with future events, they are subject to various risks and uncertainties. Actual results for fiscal year 2019 and beyond could differ materially from the company's current expectations.
Factors that could cause the company's results to differ materially from those expressed in forward-looking statements are contained in the company's press release announcing its Q4 2019 earnings and in the documents filing with the Securities and Exchange Commission, including our annual report on Form 10-K for the year ended December 31st, 2019, and other recent filings with the SEC. Investors are cautioned not to place undue reliance on such forward-looking statements, there are no assurances that the matters contained in such statements will be achieved. Although subsequent events may cause our view to change, except as required by applicable law, we should not undertake and specifically disclaim any obligation to publicly update or revise these forward-looking statements, whether as a result of new information, future events, or otherwise. With that, I'll turn the call over to Alan Trefler, Founder and CEO of Pegasystems.
Thank you, Ken. As the team in the earnings release, we delivered a very strong Q4, which capped off strong results throughout 2019. In 2019, we made significant progress on our key goals, accelerating growth and moving to a recurring model, beginning to see a payoff on our go-to-market investments, and creating broader and deeper client engagement and positive business results. I'm pleased with how we're executing on our strategy to help clients achieve their digital transformation goals. That optimism is validated by clients and prospects, and it's also reflected in our ACV and backlog growth, which is driven by increasing Pega adoption with both new and long-standing clients. We're very happy to see the ACV growth in total accelerated in Q4 to 22% year-over-year. As we've said, we believe ACV is a leading measure that most closely reflects our underlying business momentum.
I want to congratulate the entire Pega team for solid execution in 2019, and I am very confident in our ability to execute. We also know there's so much more we can do to capitalize on the immense opportunity to help clients succeed with their digital transformation initiatives. In 2019, I met with dozens of C-level execs, most recently at Davos, and, well, it was 2020, technically. We see a number of key trends affecting our clients. Regardless of industry, a common thread is their ongoing struggle with true digital transformation. They're thinking about how to survive competitive onslaughts and what will take to thrive over the next three, five, or more years, especially with the lack of predictability we see in so much of the world and in the economy.
There are three very clear common challenges that are emerging, and they line up perfectly with Pega capabilities. First, organizations need to build the right business and technology architectures to support business models that are evolving. They must pull together capabilities and assets from multiple sources, including outside their organizations, to build open platforms that will support these new business models. There are tactical challenges involved in weaving together an enterprise-wide and open ecosystem of people, processes, and data, perfectly aligned with what we do exceptionally well. Second, organizations are dealing with a shift from traditional product-oriented transactional models to a world where everything is offered as a service. The conventional idea of product, something that was bought and owned, is being turned upside down, and organizations are realizing the importance of a shift to this as-a-service mindset.
They're adapting to be more customer-centric, frictionless, easier to engage, and ultimately accountable in different ways. This trend aligns equally well with our ability to enable organizational speed through intelligent automation and deliver powerful and hyper-personalized customer experiences, which just brings everything together in new ways. Third, powered by ubiquitous connectivity, mobile compute power, and increased customer expectations, enterprises are shifting from a culture of reactive fulfillment to focus on proactive and even preemptive engagement, using analytical principles that leverage information well beyond what's captured in the traditional CRM system to not just anticipate the needs, but also to actually preempt potential negative customer issues or interactions. The old adage of, quote, "Fix the problem before the customer knows they have it," is finally achievable. Whether you're actioning your customer or satisfying or preempting a call, these challenges are common across industries, though expressed in different ways.
For example, in telecommunications, the industry is moving from selling phones to selling connectivity and content services. They understand the old-style data plan is going to be a race to the bottom, and are looking for ways to better understand what customers want and deliver contextual engagements and offers for an expanded portfolio of services and content across channels. Not all know how to do it, but they all know that they need it. A great example has been one of our largest 2019 deals with one of the world's largest telecommunication companies. They chose Pega to help them achieve strategic digital transformation. Services in the telecom sector are becoming more commoditized. They are intent on differentiating through superior proactive and preemptive service to deliver those customer experiences, increase their revenue, and massively drop cost out of the business. Exactly the type of initiative we were suited for.
They chose Pega because we were the vendor that could best help them meet their multifaceted needs: achieving scale, moving to the cloud, realizing low-code speed of delivery, differentiating customer service, and integrating AI naturally into their customer journey. They expect to generate cases at a 1 billion a year rate in 2021, each able to take the next-step action and ensure fulfillment for the customers in the moment. This will remove tens of billions of next-step action decisions each year. In financial services, many firms are still organized in silos. The credit card division thinks it owns its customers, and doesn't talk to the mortgage group, or doesn't talk with the checking and savings. These silos are going to be shattered by the emergence of open banking.
These stacks of interbank standards will make it easy for organizations to compete, and will require that organizations put together a package with multiple products from across their own bank, as well as from other institutions. This can create better customer loyalty and help customers manage from a centralized touchpoint or environment, it also opens the bank's app to significant risk. It's a real driver of forcing organizations to make the call. The healthcare industry, the final one, has historically been transactional and ultimately incredibly reactive. Snaps into action around a specific event, an acute illness or a hospital admission. The industry is rapidly shifting to wellness and preemptive health outcomes, which means delivering a continuous proactive and nurturing wellness experience and being able to measure the results.
Common to all of these organizations is that they need a platform on which to build their own business platforms, and they need to respond and adapt quickly. With competitors using similar and sometimes identical language to us to describe themselves, I want to remind you of the true power and promise and differentiation of our solutions. We're a modern, scalable platform that has both the brain, the intelligence to make brilliant decisions, and the muscle, the ability to get work done in a common architecture. Pega Infinity is the only software that truly unifies these capabilities. Our architecture, technology, and experience in intelligent automation is miles ahead of alternatives, and we continue to invest, not taking anything for granted. I find it amusing to see some companies now dredging up terms from the 1990s, like workflow.
Even as we were the highest-rated company in that segment back then, or were, I always found the word ironic and frankly sad. Especially today, though, it shouldn't be about workflow, it should be about work due. That's exactly what Pega delivers. Pega's unique capabilities position us to be the platform of platforms for enterprises that want to create real digital transformation and evolve as required. Never has our brand promise, "Build for change," been more relevant. To touch a bit on 2019 accomplishments, we continue to focus on the solutions, markets, and industries that we think will generate the best returns for our people. We both deepen our commitment to traditionally strong markets while expanding in newer markets with high potential.
We continue to invest in product features to ensure our platform remains best in industry, providing clients with the most innovative and differentiating capabilities in the market with the fastest time to value, while building on our relatively very unique model-driven approach that makes it easier to take clients with us, even as we make massive changes and introduce concepts like cloud of choice. At the core of this offering is Pega Infinity, this single, unified, powerful, intelligent automation platform, increasingly adopted by our clients and prospects as the platform that they want to use to deliver their business platforms. This month, we're releasing the latest version of Pega Infinity with exciting new capabilities in our core areas of one-to-one client engagement, customer service, and intelligent automation, with some really exciting new features.
Built-in design thinking concepts directly incorporated into the software to make low-code and highly collaborative development faster and easier. Called Pega Express, we literally take the development process and guide users step by step to quickly design and deploy their projects. Ranging from minimum lovable projects, small quick things, to the traditional projects that can handle the mission-critical things that drive a business. This lets customers start small but take advantage of Pega's strength and scale and evolve applications based on business needs. We think this capability is going to be especially important as organizations develop new and more platform-oriented ways of thinking. In 2019, results show strategy is working. We saw good momentum, and we continued to develop customer engagement capabilities with new messaging and data visualization. We did major AI enhancements to make it easier and faster for clients to develop smart applications.
We continually rank highly in the major industry reports and analytics in this category. Gartner and Forrester customer engagement, multi-channel marketing hubs, real-time interaction management, industry awards for CRM, customer case management, and customer service. We recently commissioned a report from Forrester that calculated the value of working with Pega on transforming customer engagement. Among clients Forrester analyzed, the average return on investment is a whopping 489% over a three-year period, with six months to break even. There's an extraordinary amount of quantifiable value our customer engagement solutions are driving here, and you can feel free to check out the Forrester report on our website. We continue to enhance the Pega Platform in intelligent automation with our robotic process automation solutions. As I mentioned, we introduced the Enterprise Low-Code Factory, which makes it possible for citizen developers to create enterprise-compliant, IT-blessed low-code solutions.
This continues to garner industry recognition by major analysts. We were identified as being excellent in a number of key categories that are critical to our clients. We have continued to invest in Pega Cloud to ensure we have awesome cloud solutions while still supporting cloud choice for customers who want to run a private or partner cloud. In 2019, we expanded our cloud choice guarantee with Kubernetes support, and we added several important security certifications, including HITRUST, IRAP, and FedRAMP, making it much easier to do business in healthcare and with the government. More importantly, as seen in results, demand for Pega Cloud and cloud choice continues to grow. We're thrilled to see. 2019 was a year of quality growth, and we continued to focus on expanding the field organization to better capture the remarkable opportunity in front of us.
This includes our client success organization, helping to capitalize on the opportunity for expansion within our client base. We have also increased engagement, which we judge based on high-quality interactions on the web or meetings or email conversations by more than 30% with our target organizations, and we expanded our certified ecosystem by more than 25%. You may recall that in 2017, we launched our Pega Ventures program to invest in emerging Pega partners and help accelerate the Pega ecosystem. Since then, we've invested in nine companies in the U.S. and EMEA, all of whom are doing well and growing. We just had an announcement that we're really pleased to see that TeleTech, a leading digital global consumer experience technology and services company, just bought one of these partners, Serendebyte. TeleTech has more than 48,000 employees on six continents focused on delivering transformative customer experiences, engagement, and great solutions.
The fact that they see an opportunity to grow their business through the Pega focused practice is exactly the kind of results we were looking for when we established this program, and a great validation. The final topic is PegaWorld. This is a significant event of the year. It's our flagship conference, and it's going to be very, very exciting this year. We have terrific clients signed up to present, over 100. For example, UnitedHealthcare will be speaking about how to use AI for next-generation customer care. Ford will be talking about how they are harnessing Pega across the enterprise to enable citizen development. HSBC will be talking about how it's rolling Pega out globally based on the successes they saw in their early regions.
Meetup Group will be talking about using Pega to build the future of insurance through what they call insurance in a box. This year, we'll be in our hometown of Boston, and we hope you'll be able to join us at what will be the biggest and best PegaWorld ever on June 1st and 2nd. In summary, we're very happy with our 2019 performance. I'm pleased to see our license and cloud ACV growth in the way that it has. In 2020, you can see us operate with an ongoing rhythm of continuous improvement to improve our products, expand our ecosystem, invest in sales and marketing to capture the full potential of the opportunity while being mindful of costs and profitability.
I continue to be very positive about how our software is being adopted, and we have really excellent visibility to our revenue for next year, and are thus guiding to be over $1 billion in revenue. I'm excited to see this milestone and grateful to the entire Pega team that has gotten us where we are today and carries us into the future. I'm thankful to our clients and shareholders for continuing to trust us. With that, I'll turn the call over to Ken.
Thank you, Alan. We've reached an important milestone in the history of Pega's evolution as a business, arriving at the approximate midpoint of our cloud transition. Back in late 2017, we consciously shifted Pega's business model, moving from a company that primarily sold software on a perpetual license basis, to a much larger company that sells mostly on a subscription basis. We've made great progress on our transition so far. Two of the most important success metrics that we've been tracking to show the impact and progress of our strategic execution during this transition are annual contract value, or ACV, and remaining performance obligation, RPO, or sometimes referred to as backlog. Let me first talk about ACV. Just to remind you, we entered 2019 with a target of increasing total ACV by about 20% in 2019. I'm pleased to report that total ACV growth exceeded our expectations.
At the end of 2019, our total ACV was $693 million, a solid increase of 22% from 2018's total ACV of $570 million. Pega Cloud ACV grew 54%, from $110 million in 2018 to $169 million in 2019. This impressive result drove this total ACV growth rate up to 22%. ACV growth continues to be our most important metric, reflecting the successful execution of our strategy. Total ACV is the sum of recurring Pega Cloud and client cloud commitments, representing the annualized recurring spend from our clients for cloud, term license, and maintenance. Another reason ACV growth is so important is because it's the best leading indicator for our future revenue growth. Now, let's turn to remaining performance obligation, RPO, also called backlog, which is another important metric.
In 2019, Pega Cloud backlog increased by 41%, going from $299 million, as of December 31st, 2018, to $422 million, as of December 31st, 2019. Backlog reflects client commitments not recorded as revenue as of the period reported, providing visibility into where a significant portion of our future revenue will come from. Total backlog increased by $205 million, from $631 million to $836 million, an increase of about 33% when compared to the balance at the end of fiscal 2018. A robust backlog is another benefit of our cloud transition. Historically, much of our bookings were taken as revenue in the current period, causing variability in our quarterly results. These days, the largest portion of our bookings are cloud, most of which goes into backlog, creating a more predictable revenue and cash flow stream.
You can see further evidence of our successful transition to a recurring revenue business by looking at the change in our total revenue mix. Over the past four years, we've moved from a business that was about 50% recurring revenue to a business that's over 67% recurring revenue at the end of 2019. That's a pretty spectacular shift in a relatively short period of time. When you include Pega Consulting, we have almost 90% visibility to our 2020 revenue target. A core element of our strategy continues to be to build a more valuable business by shifting a greater percentage of our annual revenue to the subscription model.
We believe that satisfying demand for recurring arrangements not only enables us to capture significant lifetime value from existing customers, but also unlocks previously untapped customer segments, which can include business units that would prefer operating rather than capital expenses, or companies whose cash constraints prevent them from making big advance investments. We also enable our clients to start fast and scale, which aligns very well with a subscription-based model. I want to drive home this point. We will continue to provide flexibility to our clients, who see tremendous value in our cloud choice differentiator, and our clients continue to invest in Pega on a recurring basis. Our deliberate, ongoing transformation to a recurring business model continues to track to plan. As we've discussed in the past, a cloud transition typically takes a software company about four to five years to complete.
Today, we're at the approximate midpoint of our cloud transition. If our cloud transition continues at this pace, we will expect revenue and profitability optics to improve noticeably in 2020 and 2021, and to normalize during 2022. We continue to invest in sales capacity and build out our cloud infrastructure to continue to scale this significant growth engine, which in the near term, has temporarily slowed our margin improvement. We expect the lag between the business we win and its revenue, and the resulting mismatch between revenue and cost, to diminish over time as we exit this transition. We remain very confident that the long-term benefits of a recurring business model, including a more predictable future revenue and cash flow stream, far outweigh the skewed short-term optics around reported revenue growth and the impact to short-term cash flow, EPS, margin, and profitability.
For 2019, we're reporting both GAAP and non-GAAP results. A full reconciliation of all GAAP to non-GAAP measures is provided in the financial tables in the press release issued earlier today. Those are also available on the investor relations section of our website. Let's turn to a few other details. In 2019, we returned about $74 million to shareholders, comprised of about $9 million of dividends and approximately $65 million in share buybacks and net settlements of equity. We finished the quarter with just over 5,100 employees worldwide, an increase of approximately 13% from one year ago. More than half of the new hires joined our go-to-market organization. This growth reflects the fact that Pega continues to be seen by candidates as an extremely attractive place to work. Turning to our fiscal year 2020 guidance.
Given our strong ACV growth in 2019, it's clear that Pega's annual revenue will exceed $1 billion for the first time in the company's history, an important milestone. Assuming that Pega Cloud continues at approximately half of new client commitments, we expect $1.1 billion of revenue, representing total annual revenue growth of about 20% for 2020. From an earnings perspective, we expect to achieve approximately $0.20 of non-GAAP EPS. We believe that the quarterly revenue and cost linearity for 2020 should resemble our quarterly linearity for 2019. We anticipate a slightly better gross margin in 2020 as our cloud business achieves better scale efficiency. The impact of the cloud shift will be significant to revenue and margins in 2020 as we cross the midway point of this cloud transition.
Continuing to drive significant ACV growth is a priority and is the ultimate measure of the successful execution of our strategy. In 2020 and beyond, we're focused on achieving several key goals. First, we aspire to increase our growth rate. The market for digital transformation is huge, and Pega is well-positioned for continued success given our outstanding team, our best-in-class product portfolio, and our proven track record of customer success. Second, we will continue to shift our business to an increasingly recurring model, improving our revenue and cash flow visibility. Third, we will continue to differentiate by offering cloud choice to our clients.
Fourth, we are focused on building a business that can sustain greater improvement in profitability as we scale, allowing us to make progress running the business under the rule of 40 theme, balancing growth and margin while we continue to invest in sales and marketing to capture this massive market opportunity in front of us. Before opening the call for questions, I'd like to invite each of you to our annual investor day on Monday, June 1st, during our annual conference, PegaWorld iNspire, which is in Boston, as Alan mentioned. To attend, please send an email to pegainvestorrelations@pega.com. For those who cannot join in person, we'll hold a webcast the day of the event, accessible on the investor relations section of our website. With that, operator, we will open the call to questions.
Thank you. If you would like to ask a question, please press star followed by the number one on your telephone keypad. If you're calling from a speakerphone, please make sure your mute function is off to ensure your signal can reach our equipment. Again, star one to ask a question. We'll go first to Rishi Jaluria from D.A. Davidson. Your line is open.
Hey, guys, thanks so much for taking my questions and nice to see a strong finish to the year. Couple ones. First, in thinking about the cloud gross margin side, I know we've talked about it, and there's the investments on the cloud infrastructure side. It was down a little bit this year. How should we be thinking about the opportunity for cloud gross margin expansion heading into next year and beyond?
Hey, Rishi, again. It's a great question. We originally had kind of envisioned this cloud margin being much more of a linear scaling between 2018 through 2022, as we start to achieve more normalized margin. The reality is, as we've talked about, we made some significant investments in 2019, like our FedRAMP certification, but also getting ahead of some of the accelerated growth in cloud to make sure we have the right infrastructure support. I think 2019, we've mentioned before, and we firmly believe is really a trough year for us, and that gross margin will improve in 2020 and 2021 and 2022 in a fairly kind of linear fashion each year, getting up to where our kind of more steady state margins are. You will definitely see improvement in cloud margin. Some of that is scale improvement because the cloud is bigger.
It's also some specific things that we've done to really run our cloud more efficiently at the end of 2019.
Yeah. That's very helpful. On the hiring side, you mentioned the growth in both total employees and go-to-market. Looks like headcount this quarter is up about 33% versus last year and has been accelerating pretty steadily for the past couple of quarters. Can you give us a sense for how do you feel you are in terms of sales and go-to-market hires? When, I think, should we kind of expect the catch-up curve to be over and see sales hiring rates maybe drop back in line with ACV growth?
Yeah, I think the solution to that problem, to be candid, is to get the ACV growth up. If that doesn't happen, then we're going to not continue to accelerate if we can't get to a high level of confidence that we're going to get to a return. I think what's happened in the last 18 months in particular, to give sort of a little subjective flavor to it, as we've really deepened our engagements with some of these enormous companies we deal with, we're, A, finding way more opportunity, and B, it's a reminder that it takes a while to get introduced, reintroduced, and build those relationships.
I actually had a meeting at the beginning of 2019 where a very senior executive of one of the world's largest banks, who was already a customer. He heard what we did, had a discussion, and he looked at me, he said, "Where the hell have you guys been?" He said, "I can't escape you can get through the constant because you can't escape from us. What you have is way better than what they have." Frankly, there's business that will be coming from that. Hit a certain critical mass. This is going to be an important test year for us to demonstrate that we can get returns and get them more reliably, and we're committed to showing that.
All right, great. That's helpful. In terms of maybe a cash flow question for you, Ken. It did look a little light in the quarter, and then just going through the balance sheet, looks like that may be a little bit on the receivable side. Can you maybe shed a little bit more light on cash flow? Based on guidance, you're talking about something in the neighborhood of 600 basis points of margin expansion on the income statement, but how should we be thinking about cash flow margins next year?
As you go through a cloud transition, there's some people that talk about it, they refer to this concept of financing the transition, right? You're going away from receiving all your perpetual revenue up front. Not only do you have the revenue trough, you actually do create a natural delay in billing because the billing really matches the revenue a little bit more closely for a cloud business. We're about halfway through our cloud transition, and we've largely funded that through cash and out of the balance sheet, et cetera. We believe that 2020 will be better than 2019, and 2021 will be better than 2020, and 2022 will be back to more normal levels. Naturally, as you go through a cloud transition, there is a pressure on cash flow, just like there is on the optics of top-line revenue.
It's nothing unusual, and we're well-positioned to get through the transition.
All right. Got it. Last one from me, and I'll hop. Just in terms of the guidance for next year, apologize if I missed this, what are you assuming in terms of Pega Cloud as a % of new sales in 2020 versus what we saw in 2019? Thanks.
We have assumed a 50% mix of Pega Cloud again, because that would seem directionally in line with what we saw in 2019. With Cloud Choice, we really feel that there's a lot of choice and a lot of flexibility our clients need and want. We believe that Cloud, Pega Cloud, excuse me, will be somewhere in the 50% range again for next year.
All right. Perfect. Thank you so much, guys.
Thanks, Rishi.
Next we'll go to Steve Koenig from Wedbush Securities. Your line is open.
Hi, gentlemen. Thanks for taking my questions. I'll just give you two here, maybe one more for Ken, one more for Alan. Ken, apologies, I dropped a couple times, if you already answered this. Talk to me a little bit about your ACV expectations. You did 22% year-on-year in Q4. Was that a result of some large deals coming in, or was it the result of you feel solidly that the hiring you've done is now becoming more productive, and we've got a new baseline for next year, or do you have to improve upon? Maybe some thoughts on how that could trend.
Yeah, Steve, the ACV that we did in 2019, I would not attribute to a small number of deals that skewed the number. We always do sales of size, as everyone probably knows on this call. There's always a certain amount of our bookings that are with larger transactions. I wouldn't have said that 2019 was skewed in that direction. In terms of what's hopefully the new normal, in terms of the ACV number, naturally, we want that number to, at a minimum, be above 20%, because if we can keep it above that, we can really stay close to our longer-term target. However, we're investing at a go-to-market that we should yield something higher than that. Seeing 22% for fiscal 2019 is really promising, can suggest that maybe this is the start of an acceleration of that number, which would then really validate the strategy of us increasing go-to-market.
Well, we make no secret that we really think that for companies with high quality executing well, that the right number for growth should be meaningfully above 20% to 22% or 30s, I would say at a minimum. We're investing in working to do that. The good news is that the pipeline, what we consider to be a qualified pipeline, actually grew at a faster rate than our ACV growth. That, I think, sets us up well and suggests that if we can even convert at the current rate, we should be able to certainly not slip back.
Great. That's really helpful. I appreciate both you guys weighing in on that. Great. Then for the follow-up, kind of change of pace here. Alan, as you look at your development work on Project FNX how should we think about the rollout, when that goes GA, how it goes GA? Does it replace Infinity? Is it incremental to Infinity? Kind of help us understand the shape of that development as it goes to market.
Yeah. When we announced and had the deep dive with a lot of the architects from our clients at PegaWorld last year, we did a whole extra day on the Wednesday to really do a deep dive with about 150 clients and architects. One of the stuff we want to be really clear about is, A, this is something that is rolled out in increments, and we have already rolled out some meaningful pieces of Infinity in terms of being able to, frankly, modernize and interoperate with our client systems. It is not going to be something we just rip out and replace Infinity with. Project FNX is a project, not a product. It's a project to really actually take advantage of cognitive technologies, take advantage of state-of-the-art new user experiences.
If you want to see an example of what we're talking about, if you go to design.pega.com, you can see an entirely new design system we put up, and that Project FNX will bring that into the absolutely latest state-of-the-art front end organized around React, which in fact, because we're model driven, we'll be able to take huge amounts of what our customers have already done with us. This is not a replacement plan. This is entirely a build for change, built into the architecture plan. I'm really happy with how it's going. As you can imagine, I'm actually personally pretty close to it.
I could imagine. Great. Well, thank you very much, guys, and congrats on the Q4.
Thank you.
Next we'll go to Yun Kim from Rosenblatt Securities. Your line is open.
Thank you. Congrats on a strong quarter, Alan and Ken. Alan, can you just qualitatively talk about the trend around large deals? I know Steve talked about it in the previous question, but I'm not sure if you guys qualify large deals as $1 million-plus deals or not, but has that been trending up or has that been trending down as you move away from the perpetual license business? Just want to better understand the overall dynamics there. Or if the large deal activity or the mega deal activity is the one that's been trending down. Thanks.
I would say that the total contract value, if you wanted to sort of normalize that, is similar or frankly a little smaller because we're more open. We changed our attitude about a bunch of things. If you think about December of 2017 before we flipped, our sales comp plans and everything else that we did was geared to try to get the salespeople to shove a fifth year on, even if the customer only wanted to go for three. Duration used to be routinely really close to five years. Naturally, a lot of customers in an as-a-service business really are more accustomed to signing up typically for a three or four-year term. Whereas we used to overcompensate, frankly, in hindsight for that extra fifth year's commitment, we're now, I think, doing it much smarter. It means duration's going down a little.
It didn't have to if we'd been stubborn about some of the stuff. We could have kept it up. The reality is the fact that duration has gone down to be in the two-something sort of range means actually two things. Number one, I think we're writing better business. Two, the RPO, the backlog, if we had forced like we were duration to be five years, would be at least a third higher, right? Those numbers which are already good would look really terrific. Of course, a bunch of it would have come in as perpetual, so it would have gotten the cash up front. The tenor of the business is exactly the way we want it to look, and it's not dependent on big deals. By the way, I don't consider a million-dollar deal that big.
In fact, in many ways with the clients who we do business with, that's kind of an off-trade deal that will be. Instead of working real hard to sell them a $4 million a year deal up front, let them buy the half a million or million dollar deal and then work on being successful upselling them. I think that's going to be a lot more reliable too.
Great. Thanks for that detail. That does really help. Then, on the professional services or consulting services line, obviously that's been trending down as you try to offload some of that work to your system integrator channel. Can you just update us on the progress there? Should we continue to expect the revenue trend to trend down in 2020? Thanks.
No, I'll take that one, Yun. I don't suspect the professional services will decline in 2020 like it did in 2019. We're also not expecting professional services to grow at the pace that our ACV would be growing because I think quite frankly, that would be a failure with our ecosystem build to be able to make sure that we're encouraging lots more people entering the ecosystem to help support Pega solutions. I don't believe you'll see a decline. I think we've been thinking about professional services being more of a single digit grower year-over-year for the next few years, which then would of course bring the total mix in our favor from more towards software-related subscription.
Okay, great. Thanks for that. Just quickly, Ken, also on cash flow. Besides the billing chart being the biggest driver of the cash flow dynamics, is there any other component that could potentially have an impact in 2020? Do you expect receivables to have an impact or any other item?
No, not at all. Our receivables are well in check. Sometimes the receivables peak up in terms of year, just because the timing of annual maintenance billings, et cetera, they tend to be more skewed towards Q4. The ARR tends to jump up in a Q4 and then kind of cheap down through the year. If you look at our last few years, you'll see that trend. There's no DSO or collection issues whatsoever. The real challenge as you go through a cloud transition is just going from billing many years up front in a perpetual and going to billing year by year, and you have to kind of get through that transition to normalize things. That's just what's going on with the billing, maybe like flapping over the last few years as we get through that transition.
Okay, great. Thank you so much.
Thank you.
Next, we'll go to Mark Schappel from Benchmark. Your line is open.
Hi. Thank you for taking my question, and nice job on the quarter. Ken, starting with you, during the past 12, 18 months or so, reducing contract durations has been a focus of the company or something you've been working on. I was just wondering if you could just give us an update of where you are on your contract durations today. I think you started off 12 months or so ago, about three and a half years.
Just one clarification, Mark, just so there's no misunderstanding with that. We aren't dropping duration, and I don't think you were implying this, just for sake of dropping duration. It's that what happens is when you push for longer duration, something has to give, and typically, you have to give deeper price discount to get that longer commitment. That's just kind of the way it works in software. Given our retention rates being very high, there really isn't a necessary counter that. There's not a benefit for us to really push hard for that five, six, seven-year contract because you're giving up ACV to get that.
What happened is, when we pushed more to be more agile and nimble with selling and really not try to force or, as Alan said, be stubborn around pushing for longer duration, it's actually freed up market opportunity for us to sell, and actually higher ACV. The duration question that you asked is, we started this journey, we were a little bit north of four years on average duration, and now we're probably kind of closer to just a little bit above three years. The great thing about that is we went through that and backlog has still grown handily, and ACV has still grown, and we've seen good pricing and unit economics on the deals that we've done. Our duration has come down by somewhere north of four to maybe somewhere north of three years.
Thank you. That's helpful. Alan, moving on here, it's been 8 or 9 months since you bought a small little messaging broker vendor. I think it was in the chat. Anyway, I was wondering if you could just give us an update of where that product stands right now, that's kind of a growing and kind of emerging space these days.
Yeah, that's an example of bringing in both talent and technology that we tend to do the work upfront to really work to incorporate it into a really sensible and coherent platform. Part of our announcements in the next week is going to highlight some really impressive new capabilities that brings us in this area of what's sometimes referred to as direct messaging, where organizations want to communicate with their customers through chat, but do it personally and effectively. That's been a very nice add-in. We're also very pleased with the talent that we got. I think that's a perfect example of types of things we're going to continue to do more of that are not very controversial, and I think still allow us to improve the offering to our clients.
Great. Thanks. Finally, I was wondering if you could just give us a sense of where you view the demand environment today versus, say, a year or so ago.
Pipeline's meaningfully up, and customers are really interested in having these conversations. You're never sure what the future's going to be, but right now it looks pretty darn good. I think the demand environment is excellent. We're able to both complement and, in some cases, compete with some of the players like the Salesforce and whatever that are out there. We find there's a lot of gap filling that we can do with those organizations. Companies that had thought that they might go one place for a solution realize that sometimes they need a little bit more. We're having the right conversations with the right people. Go on our website and take a look at some of the videos that have been posted in the last six months. Some of these clients are saying. Look at Commonwealth Bank of Australia. It's mind-numbingly good. I think the demand environment is strong.
Great. Thank you.
Next, we'll go to Steve Enders from KeyBanc. Your line is open.
Hi, guys. Thanks for taking the question. Just wondering how the sales ramp that you guys have been implementing over the past couple of years, how those investments and those hires are ramping, and how you feel about their ability to execute on the strong pipeline growth that you've been seeing.
I'll take part of that, and then I'll give the second to Alan. One of the things that I think we've been watching closely is as we hire more of our go-to-market team, how fast are they able to build pipe? What's the quality of that pipe? Then, naturally, the next part of that is how quickly can they convert that pipe into their first and their second and their third deal, right? What's the time? We traditionally had a relatively longer ramping for new sales staff. Previous to the last couple of years, what's really encouraging is that we started this bigger push for sales capacity about 18 months ago. Not only have we had good pipe deals, but we've already seen ACVs accelerate above the 20% target that we've been operating.
That gives us a level of optimism that there is this increased capacity to certainly help to drive and accelerate growth. Now, we're not seeing the full yield of that yet because a lot of people are still ramping. I'll hand it over to Alan on that other thoughts.
Yeah, look, this is a business where having great experience, having great confidence, et cetera, can help. People do need some time to come up to curve. We've also been putting quite a bit of effort. We've invested, frankly, a lot in really improving our enablement, making it so that it is better and more structured. We just had a sales kickoff in January that was entirely really organized around getting organization, getting account executives to really understand what the strategy is for every one of the organizations. We pretty uniformly heard that it was the best education, the best training, and the most practical advice that we've ever received. We've really seen things that make me quite optimistic that we'll see increased growth. Frankly, we need to figure out how to accelerate.
Okay. That's really helpful. Just on that same front, how are you thinking about these same kind of sales force investments into next year and, I guess how you think about incremental OpEx growth on the sales front?
Let me make a comment about OpEx in total. OpEx will grow at a slower pace than our revenue growth, obviously, because now you got EPS improvement. That will be the case in 2021, likely, and the case in 2022 as well. You will start to see operating leverage over the next three years. If you look at where that OpEx growth is coming from, it will be largely skewed towards the markets. The increase, the investments that we will do, assuming that we are getting the yield and the return, as Alan mentioned earlier, on those investments, we are certainly skewing it that way because even growing at 22% or even 25% in the markets we're in and our scale, there's still a lot more cannibalization we can do for our competitors in those markets.
We feel like that is an investment worth making.
Okay, great. Thanks, guys.
Thank you.
Next, we'll go to Pat Walravens from JMP Securities. Your line is open.
Hi, this is Mark for Pat. Thank you so much for taking the question. Just wondering in terms of the market trend, if you see any new CRM or BPM trends in 2020, or if there's any change in competitive dynamics there? Thank you.
I think it's pretty much as it has been historically. In the process space, in the automation space, we're pretty advantaged with our technology. There's still some competitors running around, competitors willing to drop prices. Dropping prices doesn't deliver outcomes. We've found that we've been able to be quite successful at maintaining a rational price model, and also having clients be successful. I think the biggest competitive dynamic has been the change in our behavior, whereas historically, we were just so skewed and in hindsight, I would say, just naturally biased to whale deals. We really have an openness, and we've really staffed the company with people who understand that in an ACV world and an as-a-service world, it's great to eat the whale in lots of bites. I would say that behavior has meaningfully changed in the last 24 months.
I think that's all for the best. There's lots of noise out in the market. Everyone's talking about stuff, but I'm not seeing a material change.
Great. Thank you.
Thanks.
At this time, I'd like to turn the call back over to Alan Trefler for closing remarks.
Yeah. Thank you very much, everybody. I think that we worked hard in 2019. We'd like to have seen it close the way that it did. We're already deeply into 2020, and 2019 actually feels like a long time ago. I will end with a final pitch for PegaWorld. We're expecting orders of magnitude over 7,000 people. It should be terrific. There are just awesome presentations already on the docket with new companies like Procter & Gamble talking about what they're doing and existing clients like Sainsbury's and Unilever and a whole variety of governmental functions, which is a big business for us. If you go online at PegaWorld, you can see what they're going to be talking about. It's not this BS pie in the sky stuff.
I will tell you that many of our customers compete with each other, so we're not really allowed to talk about what they do. When they come to this conference, they'll usually be remarkably transparent, and it's a great opportunity to see how these forward-thinking companies are actually really getting it done. Thank you for listening and hope to see you June 1st and second at PegaWorld, and obviously, we'll be talking to you before that. Thank you very much.
That does conclude our call for today. Thank you for your participation. You may now disconnect.