Systems Incorporated Second Quarter 2019 Earnings Call. At this time, all participants are in a listen only mode. A question and answer session will follow the formal presentation. Please note this conference is being recorded. I'll now turn the conference over to your host, James Orescia, Director of Investor Relations.
Mr. Orescia, you may begin.
Thank you, operator. Good afternoon. Thank you for joining us today to review Varonis' Q2 2019 financial results. With me on the call today are Yaki Faitelson, Chief Executive Officer and Guy Melamed, Chief Financial Officer and Chief Operating Officer. After preliminary remarks, we will open up the call to a question and answer session.
During this call, we may make statements related to our business that would be considered forward looking statements under federal securities laws, including projections of future operating results for our Q3 fiscal year ending December 31, 2019. Actual results may differ materially from those set forth in such statements. Important factors such as risks associated with anticipated growth in our addressable market competitive factors, including increased sales cycle time changes in the competitive environment pricing changes transition in sales from perpetual licenses to a subscription based model and increased competition the risk that we may not be able to attract or retain employees, including sales personnel and engineers general economic and industry conditions, including expenditure trends for data and cybersecurity solutions risks associated with the closing of large transactions, including our ability to close large transactions consistently on a quarterly basis our ability to build and expand our direct sales efforts and reseller distribution channels new product introductions and our ability to develop and deliver innovative products, risks associated with international operations and our ability to provide high quality service and support offerings could cause actual results to differ materially from those contained in forward looking statements. These factors are addressed in the earnings press release that we issued today under the section captioned Forward Looking Statements, and these and other important risk factors are described more fully in our reports filed with the Securities and Exchange Commission.
We encourage all investors to read our SEC filings. These statements reflect our views only as of today and should not be relied upon as representing our views as of any subsequent date. Varonis expressly disclaims any application or undertaking to release publicly any updates or revisions to any forward looking statements made herein. Additionally, non GAAP financial measures will be discussed on this conference call. A reconciliation for the most directly comparable GAAP financial measures is also available in our Q2 2019 earnings press release, which can be found at www.vironis.com in the Investor Relations section.
Also, please note that a webcast of today's call will be available on our website in the Investor Relations section. With that, I'd like to turn the call over to our Chief Executive Officer, Yaki Faitelson. Yaki?
Thanks, Jamie, and good afternoon, everyone. I'm excited to update you today on the success we are having with our transition to a subscription company, which is proceeding better and faster than we could have ever imagined. For Q2, I'm pleased to report that 56% of our license revenues were from subscription. This obviously far exceeded our guidance of 25%. So we are again raising our expectations for the full year mix from 25% to 45%.
When we raised the 2019 mix to 25% a quarter ago, we said that this put us a year ahead of schedule. Today, we raised the guidance to 45%. We continue to shorten the traditional timeline to complete such a transition, and we are building a much stronger business with greater visibility and predictability. We are also very pleased that EMEA had a solid quarter as a result of the changes we made in Q1. In fact, the subscription percentage for both North America and EMEA were in line with the reported mix.
Most importantly, the business overall is very healthy as we estimated that normalized license and subscription revenue growth in Q2 was above 25%. In short, we are going the way we knew we could. Subscription is unleashing the full potential of our platform. I will talk more about business growth shortly, but let's quickly touch on our results. 2nd quarter total revenues were 59.6 $1,000,000 Q2 subscription revenues was $14,800,000 while perpetual license revenues were $11,500,000 In just our Q2 of the transition, we generated more subscription revenues than perpetual license revenues, confirming the customer demand to consume the platform under our new model.
Maintenance on our perpetual licenses and services revenues were $33,300,000 Consistent with Q1, the larger mix of subscription revenues clearly impacted our reported license revenue this quarter. We estimate that had the subscription mix been in line with the 25% guidance we provided, our Q2 reported revenues would have been approximately $68,000,000 well above the high end of our guidance. Let's talk more about the transition. The key drivers, of course, that we are seeing in some examples of customers who are benefiting from the subscription model and our platform. Data continue to explode across all data stores, both on prem and in the cloud, creating an increasingly complex hybrid environment.
With the number of high profile breaches we have seen, data centric solution are a priority for CSOs. In the face of current and pending regulation, compliance has never been more important. We are starting to see signs for GDPR infractions that have real consequences for company's financial results and reputation. Security and compliance concerns open up many opportunities for thoughtful discussion with customers in which we can demonstrate the full value of our platform. For example, a large investment company in Europe who has relied on Varonis since 2013 added GDPR pattern as well as data answers for Windows and SharePoint to pinpoint customer information for data subject access requests under GDPR.
With our subscription offering, the customer was able to better maintain breaches and went from 4 licenses to 8. Another customer, a major non profit organization, started to reduce risk, brought towards compliance with HIPAA GDPR and the California Consumer Privacy Act and boost their threat detection and response capability. Without visibility into a sensitive data resizing their environment and who had access, they were blind. Data classification engine with GDPR and CCPA support will identify regulated and sensitive data throughout their environment. They will also use data alert to detect breaches and of course, data advantage and automation agent to reduce risk as our subscription model allow them to buy 5 licenses in this initial deal.
This final example is a large regional health care provider that has spent 3 years trying to clean up global access groups and lock down sensitive data. A trusted partner recommended Varonis. The data risk assessment found over 750,000 folders and 2,000 sensitive files open to every user in the entire organization, a potential nightmare under HIPAA. With our automation engine, we showed how Varonix could clean up global access within weeks. With Edge, we opened their eyes to the danger of DNS styling, a very stealthy way that attackers exploit sensitive data.
Our subscription model allowed them to purchase 6 licenses and almost instantly realize benefits in data protection, compliance and fraud detection, with premium business concern. Through the subscription model, customer who buy more initially can realize the value of the licenses we have, we can continue to upsell over time. In other words, subscription is leading to both broader initial deployment and the expansion of existing deployment. We added 162 customers this quarter and added approximately 300 in the first half of this year. Almost all the data new customers have versus last year is in the 0 to 500 customers group.
This is in line with our strategy to focus our time and attention on customers who can make larger initial commitments and expand with us over time, and we saw that happen this quarter. Additionally, it is important to remember that half of our revenue comes from our existing customers with whom we remain underpenetrated. We are spending more time with these customers and becoming much more strategic and efficient in our coverage. This focus on the right customers will translate to greater efficiencies in our model as we expect to see significant leverage from the sales force over time as we complete our subscription transition. These larger customers have moved up the adoption curve and have a greater awareness of the full value we can provide them around data protection, compliance and security analytics.
We have proven technology and approach, and we are confident that the secular trend and industry changes that we see should serve as a tailwind for years to come. As we have said, moving to subscription is our top priority, which requires discipline, focus on execution. The results this quarter demonstrate that we are well underway and we want to be a case study in how companies can successfully move to subscription as rapidly as possible. Our customers and channel partners are happy, and I would like to thank our sales force and sales leadership for embracing this transition and doing better than ever. At the same time, we believe the addressable market is ours.
The asset is scarce and the transition will allow us to more quickly and efficiently reach a $1,000,000,000 sales target. As we are truly unlocking the potential of our platform, we are building a stronger company with greater long term value for stockholders. And we look forward to a strong second half of twenty nineteen. With that, let me turn the call over to Guy. Guy?
Thanks, Yaki. Good afternoon, everyone. This quarter's highlights include subscription revenues representing 56% of total license revenues compared to 4% a year ago and subscription and maintenance from perpetual license revenues representing 78% of total revenues compared to 45% a year ago. We continue to maintain a 3 year breakeven period even with a significant higher dollar amount of subscription and a continuation of the increased license adoption trend. The bottom line is this: the transition is unleashing the potential of our platform while delivering greater long term value for our stockholders.
For Q2, total revenues were $59,600,000 a decrease of 4% year over year. 2nd quarter license revenues were $26,400,000 which included nearly $15,000,000 of subscription revenue. In only the 2nd full quarter of this transition, our subscription revenues exceeded perpetual license revenues. Guidance was for 25% and with a continued outperformance, we again validate why the move to subscription makes so much sense for our customers and Cloveronis. To remind you, our subscription price list is set between 40% to 45% of the perpetual price list, including 1st year maintenance.
This equals a 3 year breakeven period, which we saw in our Q1 and Q2 results. Using that 3 year breakeven period, which yields a 2.2 factor, license and subscription revenues growth was 26% on a normalized basis. Subscription adoption for both existing and new customers remained strong, with new customers continuing to buy on average between 45 licenses in the initial deal as opposed to 23 licenses under the old perpetual model. And like Q1, we saw existing customers more than happy to purchase upsell via subscription. Maintenance and services revenues were $33,300,000 increasing 16% compared to the same period last year.
I'd like to make a few comments about the maintenance and services line. 1st, to remind everyone, maintenance related to subscription is included in the subscription line in our financial statements. 2nd, as our subscription mix increases, we expect less maintenance revenues associated with perpetual license revenues. Maintenance renewal rates on perpetual license once again exceeded 90%, and we expect them to stay at these high levels. Lastly, included in the maintenance is a small professional services component that historically has been low single digit as a percentage of total revenues.
We expect this professional service component to become even smaller going forward as we offer licenses that provide greater automation and as our channel partners take on more services work. Annualized recurring revenues or ARR, a key performance indicator for subscription companies is defined as the annualized value of active term based subscription license plus maintenance contracts related to perpetual license in effect at the end of the reported period. As of June 30, 2019, ARR was $155,200,000 compared to $111,900,000 at the same time last year, representing growth of 39%. This increase reflects the strength of the business as we transition to a subscription based license model. Turning back to our results.
Looking at the business geographically, North America's revenues increased 4% to $40,000,000 or 67 percent of total revenue. In EMEA, revenues decreased 18.3% to $17,600,000 representing 29% of total revenues, but the subscription mix for that region was in line with our reported mix. Our sales team in EMEA and across the world have now fully embraced the business model transition and the impact is noticeable. Rest of world revenues were $2,100,000 or 4% of total revenues.
For the
Q2, existing customer license and 1st year maintenance revenues contribution was 51%, up from 42% in Q2 'eighteen. During the quarter, we added 162 new customers, and we ended Q2 with approximately 6,800 customers. As of June 30, 2019, 74% of our customers have purchased 2 or more product families, up from 71% at the same time last year. 42% of our customers purchased 3 or more product families compared with 38% in Q2 of 2018. Moving to the income statement, I'd like to point out that I'll be discussing non GAAP results going forward unless otherwise stated, which for Q2 exclude $14,800,000 in stock based compensation expense and $261,000 of related payroll tax expense.
Also excluded are foreign exchange losses of $426,000 related to FX differences from the revaluation of assets and liabilities denominated in non U. S. Dollars. Gross profit for the Q2 was $52,000,000 representing a gross margin of 87.3% compared to 90.5% in the Q2 of 2018. Operating expenses in the Q2 totaled $61,000,000 As a result, our operating loss was $8,900,000 or an operating margin of negative 15% for the 2nd quarter compared to an operating loss of $1,000,000 or an operating margin of negative 1.6% in the same period last year.
The move to subscription impacts our short term operating results, but we have been and remain committed to profitability and believe we'll come out of the other side of this transition with a healthy margin profile. During the quarter, we had financial income of $491,000 compared to financial income of $321,000 in the Q2 of 2018, both primarily due to interest income. Our guidance does not consider any potential impact to the financial and other income and expense associated with foreign exchange gains or losses as we don't estimate movements in foreign currency rates. Our net loss was $9,000,000 for the Q2 of 2019 or loss of $0.30 per basic and diluted share compared to a net loss of 1 point $4 per basic and diluted share for the Q2 of 2018. This is based on 30,300,000 28,900,000 basic and diluted shares outstanding for Q2 'nineteen and Q2 'eighteen, respectively.
Turning to the balance sheet. We ended the quarter with $146,300,000 in cash, cash equivalent, marketable securities and short term deposits. For the 6 months of 2019, we generated operating cash flow of $3,000,000 compared to operating cash flow of $20,400,000 in the 1st 6 months of 2018. In this transition, we're collecting on ACV amounts and therefore see a short term impact on cash flow. We ended the quarter with 1448 employees, a 6% increase from the Q2 of 2018.
Before I turn to guidance, I would note that we have added a few new slides to our investor presentation found in the IR section of our website that provides additional visibility into the real strength of our business. Slide 78 shows a mix that subscription and maintenance from perpetual license revenues represent out of total revenues for Q2 and the first half of twenty nineteen. The substantial growth in this mix this year demonstrates how rapidly we are building a stronger and more sustainable business. The normalized license and subscription revenues I mentioned before is illustrated in Slide 10, showing growth of approximately 26% for Q2. Slide 11 illustrates that at 25% subscription revenue mix we originally expected, Q2 revenue would have been comfortably above the high end of our guidance.
Moving to guidance. Given the impressive results we are seeing with subscription adoption, we are again significantly increasing our expectation for subscription mix as a percentage of license revenues. For the Q3, we expect the mix to be approximately 55 percent or $15,500,000 in subscription revenues. For the full year, we now expect the subscription mix as a percentage of license revenues to be approximately 45% or $56,000,000 This is a substantial increase from our previous guidance of 25%. For the Q3 of 2019, we expect total revenues of $61,000,000 to $62,500,000 We expect our non GAAP operating loss to range between negative $10,500,000 to negative $9,500,000 and non GAAP loss per basic and diluted share in the range of $0.36 to 0 $0.34 dollars This assumes a tax provision of $500,000 to $700,000 30,400,000 basic and diluted shares outstanding.
I'd like to provide more detail on our updated guidance. We are effectively raising our guidance on a normalized basis for the 3rd quarter versus what was implied in our prior full year guidance. Our Q3 guidance assumes a 2.2 conversion factor and a 3 year breakeven. And for Q4, we expect the conversion factors to range between 2.2 and 2.5. Consistent with this, we still estimate that for every incremental $1,000,000 of subscription revenues we generate versus our guidance, we will see a $1,200,000 to $1,500,000 headwind to reported revenues, which we expect to equally impact operating margin.
As a result, for the full year 2019, we now expect total revenues in the range of $255,500,000 to $259,500,000 We now expect our full year non GAAP operating loss to be in the range of negative $27,000,000 to negative $25,000,000 and non GAAP net loss per basic and diluted share in the range of $0.93 to 0 point 9 0 dollars This assumes a tax provision of $2,200,000 to $3,200,000 and $30,200,000 basic and diluted shares outstanding. We have summarized our guidance for the remainder of 2019 on Slide 16 of our investor presentation. In summary, Q2 results greatly exceeded our expectations and we are fully committed to continuing the subscription transition. We feel confident about the strength of our business and are excited by the implied raise of the Q3 guidance. With that, we'll be happy to take questions.
Operator?
Our first question comes from the line of John DiFucci from Jefferies. Please proceed with your question.
Thank you. I have a
question for Guy and a follow-up for Yaki. So Guy, thank you for all this information. You've given us a lot of information. It's just really helpful.
The one thing and it all
makes sense. The one thing that doesn't make sense to me is deferred revenue this quarter. Like I would have thought it with a greater mix of subscription and subscription on an annual basis being a higher price than maintenance, deferred revenue would have been better than what we were looking for instead of a little bit less than what we were looking for. So can you sort of talk to that?
Absolutely. So our deferred revenue is impacted by our subscription move. And don't forget that the 2nd and third year auto renewal component in our deals are not part of our deferred revenue. So we only recognize the 1st year maintenance portion that hasn't been recognized, not the license portion. So when you look at our long term deferred revenue, that actually went down in Q2 2019 compared to Q2 2018, which is kind of in line with this story.
And when you look at long term deferred revenue, it's single digits, and that's kind of the way it's been for a while. So it's very consistent and is impacted by the transition.
Okay. So actually, you just said something to help here. So there's a even with subscription because of ASC 606 accounting, you're recognizing an upfront portion of license from those deals. So that's actually not in deferred. It's just the maintenance from the subscription that's in deferred.
So thank you. That's helpful. That's very helpful. And Yaki, so Yaki, people have been talking a lot and
Guy, you can chime in on this too,
a lot about GDPR over the last, I don't know, year and a half.
And you've often said, hey, listen, it comes up a
lot and whether it's driving revenue, it certainly drives discussion. And we've just been sort of waiting for the bite of GDPR, meaning the fines being like some major fines. In this month, we just had and I know it's this month, so it's really early, but we just had 2 major fines, one to BA at British Airways and one to Marriott. And I'm just curious, and I know it's really soon, but have you noticed anything? Has anything come back from your sales force that, hey, listen, we're getting more inquiries on the back end of these major fines being levied?
Anything like that happening that you can detect at this point?
Hi, John. It's still early, But I can tell you in general that we see that the sales motion and the perceived value becoming significantly, significantly more strategic. Like everything we are doing becoming just more predictable. And these are 3 use cases, the data protection and compliance and the threat detection is just working extremely well. More budgeted projects and customer with the subscription understand how they can consume the whole platform and it's worked very well.
And now the GDPR, you have GDPR, now you have the California Consumer Privacy Act, everything that's going on around us and we have so many breaches that with these advanced APTs that organizations are losing terabytes of terabytes of unstructured data. Everything is working for us as a tailwind and it works as a tailwind. And the subscription and the adoption curve really integrated extremely well in the right timing and it's working very well for us. We can spend time with customers. They understand.
We see more C level people, more people on the business side seeing the dashboard, getting the reports. So it's really working very well. Okay. Thanks. Thanks, guys.
And so we'll just keep this has been certainly
an interesting ride and it certainly will remain that way. So thanks for everything. Thank you.
Our next question comes from the line of Matt Hedberg from RBC Capital. Please proceed with your question.
Hey, guys. Thanks. Well done on
the quarter. Yaki, obviously, subscription revenue was a lot better than we were expecting and you're gaining a lot of traction there. As this mix to subscription continues to increase, Guy also mentioned 90% plus renewal rates on maintenance contracts. I'm wondering, are we going to get to a point here where buying a license and maintenance contract isn't an option and maybe you look to convert sort of legacy license contracts to pure subscription?
Yes, Max. It's still early. Definitely, the subscription transition is going so much better than we anticipated. It's just going very well. And we are intensely focused on the execution.
But we need we have almost 7,000 customers that most of them bought perpetual. We need to be careful with the customer relationships. So, and every deal now, we are trying to make sure that it will be subscriptions. From all the indicators that we have. This is the fastest transition to subscription that we are aware of.
But I can't come with a voice paper now and tell you that we'll not sell any more perpetual, but we are definitely underway to be a very strong subscription business and definitely shortening the time and increasing the predictability and the probability for us to get to $1,000,000,000 in sales and more.
That's great. And then sort of that dovetails into my follow-up, which was we've been seeing success in bigger customers. You've alluded to it on the call saying deemphasizing 0 to 500, which makes a lot of sense. I guess, could you talk about maybe the success, are you in these larger customers, are you seeing new subscription? Are there shorter contract cycles?
And then maybe talk about the level of investment here. Are there additional investments needed to sort of even further penetrate the high end of the market?
Yes. So sales cycles relatively stay the same. They just can buy more upfront and over time. So this works very well for us. And still we barely contest it.
That we don't have a lot of competition, but there are just so many budget buckets that finding APTs, everything that related for compliance, data protection. There is just so much budget for us and a lot of it is under the CISO. But just the compliance officer, the BPO, so it makes a lot of sense for us to spend time with the customers. And they have a clear path how they can get 10 licenses and more. The budget makes sense.
The economics makes sense. Definitely, the move to subscription with all the automation that customers want from us makes everything more predictable for us and for the customers.
Got it. Well done.
Our next question comes from the line of Saket Kalia from Barclays. Please proceed with your question.
Hi, guys. Thanks for taking my questions here. Maybe just for you, Yaki, first. Clearly, a lot of success in selling subscription and that reflects the execution. I guess I'm curious what the customer feedback has been on subscription, meaning are customers finding that additional benefit in subscription for the higher value, of course, compared to what you were offering them on perpetual?
I realize that that it's more products than an initial sale. But talk about the other beneficial points that a customer is getting beyond sort of the pricing and the upfront versus subscription?
The pricing is definitely the more licenses, the byproduct of the overall value. At the end, in the heart of everything is a lot of automation, automation in high fidelity alerts, automation in remediation, automation in classification on one end and on the other end is visibility to understand what is going on with this massive amount of data and the overall data support. And what's going on when we can when customers can buy the security package with many more platforms, the value is exponentially bigger. And they can have more reports and they don't have too many holes. They also can get immediate time to value and ongoing value.
And when they are going to the cloud and they have different infrastructure, it's clear for them how they are going to expand. So now everybody understand the problems and from compliance and insider threat and vast system threat and everything that's just going on around us, we're just benefiting from very strong awareness. So once we are demonstrating the product, they really want to consume the platform. And when we sell them enough licenses right off the bat, they have this automation in security, remediation and visibility. And this is really what you see and this is, except a lot of discipline in the execution, this is what is driving this very fast transition to subscription.
Got it. Got it. So my follow-up maybe for you, Guy. Can you just talk a little bit about the mix of license from existing customers? It's generally been in that same range we've seen of about fifty-fifty.
But I guess just as subscription becomes even an even bigger part of the business, can you just talk about how that higher subscription mix could potentially impact that metric as we think about it going forward, if at all?
Absolutely. So as you remember, we've priced the subscription price list as 40%, 45% of the perpetual price list, including that 1st year maintenance. And when you look at the behavior of new customers, we definitely see that new customers are buying between 4 to 5 licenses in that first initial purchase compared to what we saw under the perpetual model where they bought between 2 to 3 licenses. So that what we see from our ability of a breakeven period is that 45%, which is that 3 year breakeven period, we see that breakeven period be lower than 3 years. But we're very, very happy with the adoption of our existing Existing customers are buying licenses under Existing customers are buying licenses under the subscription model and that breakeven is slightly higher than 3 years, but that gets us to a very healthy mix of 3 year breakeven.
So we're very happy with the fact that both new customers and existing customers are adopting.
Very helpful. Thanks guys.
Thank you.
Next question comes from the line of Alex Henderson from Needham. Please proceed with your question.
Thanks. I actually wanted to ask a question in the back of your slide deck, where you talk about the implied Q4. And in that context, you imply a much lower rate of conversion in that period? I was just wondering if you could go or I was hoping you could go through the reasons why that's a lower transition to subscription in that quarter versus the other quarters? I'm assuming it's year end budget flush, but that would be helpful.
Thanks.
Absolutely. So as you remember, we gave some commentary last quarter when we gave guidance on the subscription mix. We expected Q3 last quarter to be 27% and then expected Q4 to be in the low 20s. So we're actually approximately doubling the subscription mix for the 2nd part of the year, and that's a great indication that we feel very good about this transition and that's the reason we're approximately doubling that percentage. But similar to the commentary that we gave last quarter, Q4 is more of a CapEx weighted quarter.
So we just don't know. And we just want to be a bit cautious. And that's, by the way, part of the reason that on the conversion factor, we're expecting Q3 to be at that 2.2 factor, which is at 3 year breakeven. And for Q4, we're taking the range of 2.2 to 2.5. So we just don't know.
We feel very good about this transition and very happy to increase our subscription mix for the 2nd part of the year.
Makes good sense. One more question, if I could. So this sales channel approach, so as a Verona sales guy does a transaction say with a 3 year subscription and the customer agrees to say just to hypothetically pay $300,000 on a deal over 3 years. How does that roll through the compensation to the salespeople? How does that change with respect to what you would have seen otherwise?
So I don't want to bore everyone to death with 606, but to keep it very simple, you match the commission expense with the revenue recognition. So if I take your example of $100,000 annual ACV for 3 years, we will recognize the license portion when we ship the license in year 1, which would be about $83,000 and then about $17,000 is the maintenance portion, which would be recognized over that 1st year period. And in year 2, we would have that $83,000 again. In the quarter, we shipped the invoices and the maintenance again. And we have the commission in the same ratio.
So kind of matching principle between the revenue and the commission, and that's the way 606 requires you to do this.
So that's how 606 requires it, but is that how the salesperson is compensated in year 1?
No. So we have I don't want to get into too much detail, but the sales rep have a portion that is paid in year 1 and a portion that is paid in year 2 after we collect the 2nd year payment.
I see. Okay. Thank you very much.
Thank you.
Our next question comes from the line of Shaul Eyal from Oppenheimer. Please proceed with your question.
Thank you. Good afternoon, gentlemen. Congrats on results. Yaki, when we think about Varonis down the road as the $1,000,000,000 revenue company you talk about over the course of the past few quarters, and we understand this is without a doubt a longer term vision without committing to a specific time frame. But what level of profitability should we be anticipating, single digit, double digit operating margins?
I would imagine that with a quick ramp up we're seeing in the shift to subscription, we should be in probably the double digit ZIP code. Am I looking at it correctly?
I would let Guy answer what ZIP code we are going to be in. But from my end, I would see that just think about overall about the business, very fast move to subscription, a platform play. We have a lot of licenses to sell with a lot of value and a lot of just data spoil over on prem and in the cloud that works very well. Look at a lot of our revenues coming from the customer base. On perpetual on the perpetual business, we have more than 90% renewal rate.
We just think that we can be a very, very strong and very unique subscription business. And profitability is very, very important for us. And we also believe that over time, just with the subscription, everything becomes so much more efficient that we can realize much better efficiencies. And all of these, the balancing act between being profitable and growing, and we want to make sure that it's we're constantly inching forward. So the philosophy didn't change there.
Everything we are doing now will give us much better profitability. But as fast as we can build this slide, it's going to kick in. So this is really the overall philosophy, and we are very focused on executing on it.
And Charles, just to add on that. We said all along that as we exit this transition, we feel very comfortable going back to the revenue growth levels that we've seen in the past, which is 20 plus percent. I think that this quarter, when you look at a normalized basis and we specifically provided those to really compare apples to apples. We wanted to make sure that investors understand kind of how strong the business is And having a Q2 normalized growth of license and subscription of approximately 26% is very good. We're very happy with that.
And don't forget, we're only in kind of the we're starting our Q3 of this transition. I know it feels like we've been in subscription mode for years, but this is only our Q3. Got it. Okay. That's fair.
That's fair. And sticking with the ship to subscription, any major bundles that you're seeing as becoming more preferred by converting customers? So we actually don't go to our existing are willing to buy additional licenses under the subscription model, but we're not going to existing customers and trying to convert them to what they already own from perpetual to subscription.
And in terms of the licenses mix, it's everything. It can be the data analytics with Edge and 365. It can be the content classification with the automation engine. Everything is so much connected, and it just depends on what is what use case is more pressing for the customer and needs more automation.
Understood. Thank you. Good job. Congrats.
Our next question comes from the line of Keith Weiss from Morgan Stanley. Please proceed with your question.
Excellent. Thank you guys for taking the question. Keith Weiss filling in for Melissa Franchi. Just wanted to dig in one
on sort of the execution side of the equation,
one on the subscription. On the execution, I was hoping you can give us an update in terms of kind of how the changes that you guys put into place in the first half of the year in Europe are taking hold? How you guys feel about kind of the execution and your kind of sales capacity and how that's been doing in Europe on the execution side? And on the subscription transition side of the equation, been a really fast ramp and I agree as fast as I've ever seen anything ramp in terms of subscriptions. But given the fact that you're not pushing existing customers to go over towards subscriptions and the Q4 commentary on that, it would likely to be CapEx intensive.
How should we think about kind of the longer term dynamic? Where do you think perpetual versus subscription kind of starts to level out? Or what would be a normalized rate given what you see in your customer base today?
So I'll start and then I'll let Yaki chip in. From when we look at EMEA, looking at the Q2 performance, the subscription mix was very much in line with the reported mix, and we're very happy with that mix. We're happy that our sales force has adopted this and we're happy that they're allowing customers to really utilize and unleash the potential of this platform. This subscription transition is truly about the customers, allowing them to utilize and purchase more licenses upfront. And I'm very happy we're very happy that the European team has kind of done very well in this adoption in the 2nd part of the year.
In terms of where does this go ahead, yes, we have existing customers. But as we saw during the pilot and Q1 and Q2, those existing customers are buying or enjoying this subscription offering. So, we are aiming to be a subscription company. That's what we're targeting. That's what we're trying to be, and we see that working very well.
As I said, the upstream in the subscription is working extremely well. The customers are very excited from the platform play, just the budgets and the way their overall budgets are working. But we just need the empirical evidence of Q4. This is early in the transition. It's working extremely well.
But just as we are moving forward in this transition and have more visibility, we are telling you exactly what we see, and we'll do the same with the Q4. We are very prudent management, and we just need to be careful.
Excellent. Very nice quarter, guys.
Thank you.
Our next question comes from the line of Gur Talpaz from Stifel. Please proceed with your question.
Hi. This is actually Chris Speros on for Yaki, you noted that CITOs are increasingly prioritizing data centric security projects. Has this trend has this trend of increased awareness altered the competitive landscape to any degree? Or does the frequency in which you do encounter a competitor in a transaction, does that still remain quite low?
Yes. It's slow. It's even less than we saw in the past. But we definitely see a lot of awareness for data centric security approach, and it's working very well for us.
And another one for D. G. Yaki. Growth and adoption of both DataAlert and the data classification engine continue to be impressive. You've noted that new subscription customers are now adopting 4 to 5 licenses on average.
Outside of DataAlert and V Data classification engine, which solutions have most
benefited from this trend?
Yes. It seems that overall, all of them, the Cloud 365 is doing very well for us, everything that's related to Active Directory and Azure AD, with all the compliance, we see nice deals with data answers. Edge is doing very well. Just we're really benefiting from all the platform.
Great. Thanks guys.
Thank you.
Our next question comes from the line of Dan Ives from Wedbush Securities. Please proceed with your question.
Yes, thanks. Look, I think many of us have seen trends, a lot of transitions, and I can never remember one this quick from a subscription perspective. Maybe can you give me maybe the 1 or 2 key things that have driven the success, call it, over the last 6 months? I'll start there.
Yes. 1st and foremost is the innovation and the market condition. Just we innovated a lot and the customers understand it and all the investment in automation, the way that they can get tremendous value fast works very well for us. And our version 7 was just a monumental engineering achievement in the right time. This is 1st and foremost.
So the adoption curve for all the licenses, the understanding that these are 3 premium use cases, business use cases. So this works extremely well. And the second thing is the execution. We did we were very focused to make sure that everything is working and that the company is working very well, the way that we are quoting works very well, how to move the sales motion to sales motion that is very strategic. And also in places that we had resistance, the people who are not 100% onboard, we made sure that they will not deal.
So we just it's as I said, 1st and foremost, it's just the fitness of the platform to the market condition. And after that is just intense execution and great attention to detail. Great. And what do you think has
been the biggest hurdle to overcome and maybe something next, call it, few quarters? If you think about sales cycles or partners, what would you think the biggest hurdle that you're seeing in terms of the move to subscription?
There are no hurdles. All this success is just to do a lot of small many, many small things right every single day. And this is something that I think we see. The partners are happy because the annual just revenues for them makes a lot of sense. And it also makes a lot of sense for our sales force and primarily for our customers, which is the most important thing.
We just need to keep doing what we are doing. And regarding Q4, we just don't know how much it will be CapEx heavy. But I will tell you that the top priority for all the leadership team here and also every employee in the company is to move to Thank you.
Our next question comes from the line of Rishi Jaluria from D. A. Davidson. Please proceed with your question.
Hi, guys. Thanks for taking my questions and great to see some continued progress on the subscription transition. Wanted to start with you, Guy, on the guidance for the full year. If we go through the kind of implied Q4 guidance, I second your suggestion that maintenance and services line will decline year over year in Q4. As I understand, there's the maintenance related to subscription deals is on the subscription line.
And then you talked a little bit about the headwind from services itself declining as you offer more partners and you have more automation out of the box. Since you're not converting existing perpetual maintenance to subscription just yet, can you really can you just help us understand why should that maintenance component related to perpetual decline on a year over year basis?
Absolutely. So the maintenance and services line, as you said, is comprised of 2 components. And when you look at the maintenance portion, it's obviously derived by the perpetual sales that are sold there. And it's very important to remind everyone that the maintenance portion of subscription is part of the subscription line item in the P and L. So in the services and maintenance line item, the only thing you have is what's related to professional services and what's related to maintenance from perpetual license.
So that's one reason. When we're selling and moving as quickly as we are, obviously, the maintenance portion of the perpetual license will be impacted. And our renewal rates have been consistently over 90%. So we're very happy with that. On the professional services side, yes, it
used to
be historically in the low to mid single digits out of total revenue. And we've actually seen that percentage slightly go down. And that's for two main reasons. One is that our license offerings are becoming much more on the automated side. So that requires less professional services days from our customers.
And the second reason is that our VARs are doing some of those professional services days on their own POs. So that's the reason we're seeing that. It's part of our strategy. We're happy with that trend, and it's kind of normal with this fast transition.
Okay, got it. That's helpful. And then just I don't want to get too out of our skeetops here, right? But I'm just kind of thinking about the CCPA opportunity. And clearly, GDPR has been, at least from an awareness perspective, think, important for you.
And I'm sure over time, it will be a maybe a contributor to actual business. But how should we be thinking about CCPA as an opportunity given that it's going to take a while to actually kick in? But is this something that could be equivalent to a GDPR type opportunity? Or is there another way you should be thinking about that?
No. In a very just tangible way, we are never trying to predict it. But we can tell you that in the digital world and digital economy and the overall cyber universe without very strong privacy laws that you can enforce, you will have massive consequences and diminish productivity. And this is what we see. Just think about it.
Open every Tier 1 newspaper every day and you see privacy and data security and what will happen with the election and how we can get value from data. This is a big thing.
And I
think that we are in the midst of it. In order to make sure that productivity and security can really coexist, you need the technologies like Varonis. And this is something that I think with the explosion of information, this is something that we are going to see. So I can't tell you what it will do in the next 2, 3 quarters, but I something that I can tell you that this is a top of mind for every board and every organization, hence it also makes sense for us to go up market. And it became a massive just business driver because if you can't protect the data, you just you can't protect the enterprise.
And this is what we believe that more awareness like that will happen, more fines. And as mentioned before, we come to regular companies from all of our suppliers like Marriott, like British Airways, and this is something that works very, very well for once.
Great. That's helpful. Thanks, Yaki. Thanks, guys.
Thank you.
Our next question comes from the line of Chad Bennett from Craig Hallum. Please proceed with your question. Great.
Thanks for taking my questions. So not to kind of throw water on the pace of the model conversion, but I mean a significant part of this is the accounting change, right, under 606. We're 2nd year into that. And effectively, you're recognizing term license or subscription revenue when it's booked in a quarter like a perpetual license, right? And so that's good, right, because it accelerates the conversion process a lot relative to companies that had to do it under 605.
But as we look out a year, when we're kind of on I don't even know if we'll be on normalized subscription run rates back then. But is it fair to say when we look out a year or 2 that quarter to quarter volatility in the subscription line will still be there because of revenue rec?
So let me answer it in several ways. First of all, 606 requires you to recognize the license portion when you ship the license and the maintenance is recognized over that 1 year period. When we have a 3 year deal with year 2 year 3, kind of that auto renewal component, we only recognize the first portion of year 1. We don't recognize year 2 year 3. And when you talk about the subscription shift being impacted by 606, I think that's slightly misleading the way you present it because when you look at other companies that have transitioned and they have provided their percentage of subscription mix, they did it out of booking.
When you look at the 606 way, you're basically kind of comparing the same way. So, the essence of our transition is basically representing and mimicking the way you would recognize it on a booking perspective. And we don't provide the booking color, but it's very similar because we're only recognizing that 1 year portion. So from a recurring revenue component, you will see the shift from quarter to quarter because of the maintenance that is recognized ratably. But you have significantly more predictability and visibility because of that year 2 year 3 that come to us.
Right. Correct. No, I appreciate the color. And then if we think about the subscription performance year to date, how much of it was from pipeline conversion exiting last year? That was possibly perpetual license base that converted to subscription versus just net new pipeline that you guys booked and recognized?
So our sales cycle is between 3 to 9 months. And on the larger deals, it's up to 12 months. So when you think about the pipeline and the way it's evolved, most of the deals during the year have either been socialized with the customer under the perpetual pricing or perpetual quotes have been provided to customers. So our sales force is actually having to go back and change those quotes, operate to customers. And as you can see, customers are embracing the change because it allows them to buy more licenses.
And I'm going back to kind of the prepared remarks. The fact that customers are new customers are buying between 4 to 5 licenses as opposed to 2 to 3 allows them to recognize significant more value than what they would recognize under the perpetual. So that's been working very well. But it is important to remember that throughout the 2019 year, we are still going through pipeline that has either been introduced or discussed or even presented to customers with perpetual pricing.
Got it. And then maybe one last one. Great to see the improvement, I mean, market improvement out of EMEA sequentially. I think you guys are alluding to this, but I just want to make sure, do we feel like EMEA has fully adopted the model change and we should knock on wood would be kind of up into the right from here, so to speak? Thanks.
Yes.
Okay. Thanks.
Thank you. Thank you.
Our next question comes from the line of Jonathan Reichheimer from Baird. Please proceed with your question.
Yes, congrats on strong underlying performance. I only have one question. We continue to hear really positive feedback from the channel regarding the significant increase in the amount of data and also the rate at which Varonis can respond to events occurring within that data with version 7.0? And I kind of asked a similar question last quarter. But can you provide an update on where you see the adoption within the installed base for 7.0?
And then also, it might be hard to answer this just because of the changes that are occurring around the subscription pricing, but just the impact it might be having on broader license adoption in ASPs?
The customer base is upgrading fairly fast to version 7. It's working as you said, it's working very well. All the use cases are just reflected very well in this version and much easier for them to buy overall more licenses. And maybe, Iaki, you
could just speak to some of the improvements you've made around automation and incident response. That's the other feature we hear from the channel that seems to be quite attractive
organizational level, once you really bypass the perimeter security, we added just a lot of machine learning and models based on the very reliable streams that we have, starting with understanding critical content, how everybody in the organization is using data, classifying users to service account and then really mix everything with a lot of analysis on Active Directory, VPN and the VPN and the DNS and proxy. And it's working extremely well. So our ability to give extremely good alerts that are human readable and after that, make sure that everybody that have some very basic knowledge and security will be able to catch the most sophisticated attacks and also do very advanced forensics. And this is something that works extremely well. The customers are starting to realize that on the organizational level, what we call is completely new innovation and that user behavior analytics can really work.
And it's just very exciting for us. And I think that also slowly but surely investors starting to understand it because this is a place that we put a lot of effort and it's working extremely well. Like the subscription, we had very good surprises. So it just works extremely well. I think that what the team did here on security analytics, it's just amazing.
That's helpful. Thank you very much.
Thank you. Thank you.
We have reached the end of
the question and answer session. And I will now turn the call over to management for closing remarks.
Before we end the call, I would like to thank all of our employees for their hard work and contribution to our success this past quarter. Also, I would like to thank all of our customers and partners for their continued support. Thank you all for joining us today, and we're looking forward to speaking with you again soon.
This concludes today's conference, and you may disconnect your lines at this time. Thank you for your participation.