Salesforce Inc (CRM) — Q1 2019 Earnings Call Transcript

Thank you, Erica. Thanks so much. Good afternoon, everyone. Thanks for joining us for our fiscal first quarter 2019 results conference call. Our results press release and SEC filings, including our Form 8-K which contains recasted financial information under new accounting standards ASC 606 and ASC 340-40, and a replay of today's call can be found on our IR website at www.salesforce.com/investor. With me on the call today is Marc Benioff, Chairman and CEO; Keith Block, Vice Chairman, President and COO; Mark Hawkins, President and CFO; and Bret Taylor, President and Chief Product Officer. As a reminder, our commentary today will primarily be in non-GAAP terms. Reconciliations between our GAAP and non-GAAP results and guidance can be found in our earnings press release. Additionally, our commentary and our guidance today are under accounting standards, ASC 606, ASC 340-40 and ASC 2016-01, all of which we adopted in the first quarter. Some of our comments today may contain forward-looking statements, which are subject to risks, uncertainties and assumptions. Should any of these materialize or should our assumptions prove to be incorrect, actual company results could differ materially from these forward-looking statements. A description of these risks, uncertainties and assumptions and other factors that could affect our financial results are included in our SEC filings, including our most recent report on Form 10-Q. With that, let me turn the call over to you, Marc.

Well, thank you so much, John. And thank you to everyone on today’s call for being here with us. As you’ll recall, fiscal 2018 was a record year for Salesforce and Q4 was our best quarter ever. In fact, in the most recent Fortune 500 ranking, Salesforce has moved up nearly 200 positions over the last two years, and based on last year's revenue, we’re now the 285th largest company in the United States. We’re thrilled that our phenomenal momentum continued right now in the first quarter of fiscal year ’19. Revenue for the quarter rose to more than $3 billion, up 25%, putting us on a $12 billion revenue run rate, which is just amazing. We now have $20.4 billion of future revenues under contract, which is the remaining transaction price, and that's up 36% from a year ago. Based on these strong results, we’re raising our full year top line revenue guidance to $13.125 billion at the high end of our range, 25% growth for this year. Just as we’ll be the fastest enterprise software company to reach $13 billion, we’re well on our way to surpassing the $20 billion revenue goal faster than any other enterprise software company in history. With another quarter of amazing growth, we’ve strengthened our position as the world's leading CRM company. Earlier this month, IDC named Salesforce the number one CRM provider for the fifth consecutive year. We increased our CRM market share in 2017 by more percentage points than the rest of the top 20 CRM vendors combined. We’re number one in sales, number one in service, number one in marketing, and we have the number one CRM platform. We continue to be the fastest growing of all the top five enterprise software companies. These incredible results are because of our relentless focus on customer success. In fact, I’ve just returned from a series of meetings with customers around the world. I was in Tokyo, Minneapolis, Chicago, New York, and Washington DC. Every CEO wants to talk about digital transformation which begins and ends with the customer. Only Salesforce can deliver a highly personalized engaged B2B and B2C customer experiences, powered by the world's number one CRM customer success platform, across sales, service, marketing, commerce, analytics, and even application development. Only Salesforce is giving customers an intelligent 360-degree view of their customer. This month, we closed our acquisition of MuleSoft, giving us the industry’s leading integration platform as well. Integration has never been more strategic. Many CEOs told me that data remains locked in their legacy systems, holding them back. With MuleSoft, we’re now enabling our customers to connect all of their data across any public or private cloud, and on-premise, to radically enhance innovation and create incredible customer experiences. We couldn’t be more excited to welcome MuleSoft to Salesforce. Just this morning, Forbes named Salesforce again one of the world’s most innovative companies for the eighth year in a row. Since Forbes started listing in 2011, Salesforce was placed in the top three every single year. Our innovation in artificial intelligence is delivering incredible value to our customers. Salesforce Einstein now delivers nearly 2 billion predictions every day, which is double our daily predictions just last quarter. This is the most strategic technology for our customers. How are we growing so consistently quarter-after-quarter? Staying true to our values, including customer success and innovation. But our number one value at Salesforce is trust, earning and keeping the trust of our stakeholders, our employees, customers, partners, shareholders, and communities. That's why I called for a national privacy law to protect the personal data of American consumers and to help restore trust in the tech industry similar to what's happening in Europe with GDPR. CRM is the fastest growing enterprise software category, with a massive $120 billion market opportunity and we are determined to continue leading the way for our customers and their success. We're focused on the future after record world tours and looking forward to welcoming 10,000 attendees to Connections in Chicago in two weeks. I hope you all attend, it will be the digital marketing, commerce, and customer success event of the year. We're well on our way to surpassing $20 billion in revenue and doing it faster than any other enterprise software company. You can see that in the numbers this quarter, the trajectory is clear. Anyone who sees these financial results can see it's going to happen and we could not be more excited. We're incredibly proud of another quarter of remarkable growth. None of this would be possible without the partnership and dedication of all of our stakeholders, especially our 30,000 Salesforce employees. Thank you to all of our Ohana. We're number one in CRM because our employees and customers are number one, and to all of them, again, I say thank you. With that, I'll hand it over to Keith.

Thanks, Marc. Good afternoon, everybody. As Marc said, we're off to a fast start to the year and we're taking share through our relentless focus on the customer. We continue to grow internationally and expand across industries and leverage our partners in our drive towards $20 billion and beyond. Our momentum from Q4 carried over into Q1, and we signed several significant deals in the quarter, including the largest transaction in the Company's history. We delivered outstanding performance across all of our clouds. Sales Cloud grew 16%, 33% faster than the market, a clear indicator of the strength of our core business, and we are taking share. Service Cloud grew 29% in the quarter as creating connected customer experiences became a priority for every company worldwide. Field Service Lightning is a key part of that growth. One of the world's largest food and beverage companies selected Field Service Lightning to boost employee productivity and improve customer experiences. Marketing and Commerce grew 41%. In Q1, we strengthened our relationship with Citi, which is rolling out Marketing Cloud across their business in Asia. We continue to see incredible momentum with Commerce Cloud as more customers select our platform as part of their broader engagement with Salesforce. We had notable expansions with a leading athletic apparel maker, enhancing their direct-to-consumer business. We deepened our relationships with one of the largest luxury groups, transforming their retail experience with Commerce Cloud. Our Lightning Platform grew 36% as customers continue to build intelligent, connected apps fast with Lightning App Builder and Heroku, leveraging the power of Einstein. One of the largest media and entertainment companies is using Einstein Analytics to gain deeper insights and build personalized customer experiences. We delivered strong growth across our clouds and key regions. EMEA grew 31% in constant currency, fueled by expanding relationships with Philips and Santander UK as our international investments pay off. In May, we opened our first European innovation center at Salesforce Tower in London, and announced plans to expand our data center capacity in the UK to support our growing customers in the region. APAC grew 30% in constant currency, driven by remarkable growth in Japan where we strengthened relationships with SoftBank and LUXA, the leading e-commerce site. We also expanded with Cathay Pacific Airways and Lazada in Southeast Asia. Our language capability is deepening relationships with important companies. In Financial Services, we expanded with Manulife and formed a new relationship with Investors Bank. In Q1, we had a significant expansion with a Fortune 50 financial services firm that is vetting their digital transformation with us. The public sector continues to be a huge opportunity as well. We had our most significant public sector win ever with the U.S. Department of Agriculture, using Service Cloud to engage with constituents across the country. We deepened our relationship with a large federal agency deploying Service Cloud and Einstein Analytics to improve services provided to millions of Americans every single day. Our strong ecosystem is helping us gain market share and drive success for our customers. In Q1, partners generated 59% of new business, involved in 75% of our largest deals. Salesforce continues to be the growth lever for our partners. The top five global firms increased their Salesforce practices by more than 70% year-over-year. In Q1 alone, Bluewolf increased its certified consultants by over 200%, a huge indication of demand. We’re witnessing great momentum in our ISV community, growing 52% year-over-year. Regarding our recent acquisitions, we've launched products to deliver B2B buying experiences. To capture this opportunity, we acquired long-time partner CloudCraze and we're making progress on that integration. Secondly, as Marc said, unlocking data is critical for digital transformation. Through our acquisition of MuleSoft, Salesforce now provides a leading platform for building application networks, connecting enterprise apps, data, and devices. Integration is going extremely well, with overwhelmingly positive customer responses. We'll continue investing in MuleSoft’s distribution capacity and R&D to build innovative products that enable our customers’ success. In closing, I want to thank our customers, partners, and employees for their continued trust in us and for a very strong start to the year. Now, I would like to turn it over to Mark Hawkins, who will discuss our financial execution and updates to our accounting standards.

Great. Thanks, Keith. Before discussing the results, I want to remind everyone that the results released today are under the new accounting standards ASC 606, ASC 340-40 and ASC 2016-01. Additionally, we provided recasted financial results under the full retrospective method for the full year of fiscal 2017, fiscal 2018, and each quarter of fiscal 2018 under ASC 606 and ASC 340-40. Now, let me turn to the first quarter results. First quarter revenues grew 25% in dollars and 22% in constant currency, reflecting continued strength in the demand environment and strong organic growth, keeping us on pace to achieve our FY22 target of $21 billion to $23 billion, including MuleSoft. The dollar attrition exited below 10%, a slight decline from Q1 last year. First quarter GAAP EPS was $0.46 compared to breakeven last year, and non-GAAP EPS was $0.74, up 155% year-over-year. Mark-to-market accounting for our strategic investment portfolio as required by ASC 2016-01 benefitted GAAP EPS by approximately $0.25 and non-GAAP EPS by approximately $0.22. We had a record quarter of operating cash flow, delivering $1.47 billion in the first quarter, up 19% year-over-year. I'm very pleased with this result, especially following our strong collections and cash flow in Q4 last year. Free cash flow, defined as operating cash flow less CapEx, was $1.34 billion in Q1, up 25% year-over-year. Regarding our balance sheet, as a result of the new accounting standards, we report unearned revenue in place of deferred revenue. The new revenue standard has us recognizing certain revenues sooner than under prior standards, reducing unearned revenue at a faster rate than historical deferred revenue. Consequently, our unearned balance is lower than our historically reported deferred revenue. Unearned revenue ended the quarter at $6.2 billion, up 25% in dollars and 23% in constant currency. As we've always said, deferred revenue has been an imperfect growth predictor as it was impacted by factors, including invoicing timing and billing terms. To provide more transparency as a better indication of future revenue, we are providing a new disclosure called remaining transaction price, which comprises all future revenues that are under contract. This balance is broken down into amounts expected to recognize as revenue in the next 12 months, and the amounts expected to recognize beyond 12 months. At the end of Q1, our total remaining transaction price was $20.4 billion, up 36% year-over-year. Current remaining transaction price was $9.6 billion, up 26% year-over-year. Keep in mind this balance is not impacted by invoicing terms unlike deferred revenue. This is expected to be a better future revenue indicator than unearned or deferred revenue. Before turning to guidance, let me discuss MuleSoft's accounting practices going forward. During the close process, we made the decision to conform MuleSoft's revenue recognition policy to Salesforce's policy under the new accounting standard ASC 606. It was determined that a portion of the revenue related to on-premise implementations will be recognized as license revenue going forward. We will be providing MuleSoft results separately for the remainder of the year. This license revenue will be included in our subscription and support line for FY19 and will be recognized upfront upon delivery. Moving onto guidance. With our strong first quarter results giving us a fast start to the full year, we’re raising our full-year 2019 revenue guidance to $13.075 billion to $13.125 billion for 24% to 25% year-over-year growth. The guidance includes approximately $315 million from our acquisition of MuleSoft, which closed on May 2nd. Turning to operating margin, with the close of the MuleSoft acquisition, we now expect our year-over-year non-GAAP operating margin improvement to be flat to plus 25 basis points, which includes approximately 125 basis points headwind from MuleSoft. We are updating our FY19 GAAP diluted EPS guidance to $0.49 to $0.51 and our non-GAAP diluted EPS guidance to $2.29 to $2.31. This guidance excludes the possible future impact from mark-to-market adjustments related to ASC 2016-01, which may cause EPS volatility based on market conditions. We expect full-year 2019 operating cash flow of 14% to 15% year-over-year for an operating cash flow yield of approximately 24%. This guidance includes a headwind of approximately $150 million related to the MuleSoft acquisition. For Q2, we expect revenues of $3.22 billion to $3.23 billion, GAAP loss per share of minus $0.09 to minus $0.08, and non-GAAP diluted EPS of $0.46 to $0.47. We believe the current remaining transaction price provides you a better metric than unearned revenue. However, given limited historical remaining transaction price data, we will temporarily provide guidance for unearned revenue for the remainder of this year. We expect year-over-year unearned revenue growth of 22% to 23% in Q2, excluding MuleSoft. Once we have full year comparable numbers, we will expect to stop providing unearned revenue guidance. In closing, we delivered a strong first quarter that positioned us well for another year of durable growth. I’d like to thank our customers, partners, employees, and shareholders for your continued support. And with that, we’ll open up the call for questions.

Congrats on a great start to the year and a particular shout-out to Hawkins for the awesome 606 data historically, super helpful. A question for Marc B on MuleSoft, obviously no one knows CRM data better than salesforce.com. But could you talk about Einstein and MuleSoft in the AI context, especially as you're delivering already 2 billion predictions? How do you see MuleSoft augmenting that? What kind of uptick do you think you’ll see with that?

As we delve deeper into our vision with our customers, the key focus is their single view of their customers. In many of our key wins this quarter, companies like Gucci, Bottega, or Yves Saint Laurent are all trying to understand and have a 360-degree view of their customer. The power of that is augmented by our suite of CRM applications. Integration is mission-critical for gaining that view of the customer. We’ve built an open system with an API and an AppExchange, which emphasizes that importance. Many of our customers are leveraging public clouds, and MuleSoft is critical in integrating data across these systems. We’re excited to enhance our offerings with MuleSoft, adding depth and flexibility in customer engagement.

When we talk to our customers, they prioritize integration to create seamless customer experiences. They want to connect sales, service, and marketing and ensure compliance across international regulations. Having integrated data is crucial for their transformation. MuleSoft helps unlock data from isolated systems to make it available for Einstein, enhancing our customer-facing systems. This connection accelerates innovation without the need for extensive resources. The market acknowledges that integration is a strategic priority, which unlocks the potential for innovation.

With our integrated applications flowing through Einstein, we’re leveraging about 2 billion predictions a day. Where do you see that going in the future?

The adoption of Einstein is rising due to its user-friendly approach. For instance, Commerce Cloud clients see a revenue boost of about 15-20% just by enabling AI features. This ease of use is crucial for showing immediate value without needing extensive data science resources.

So you're saying our Commerce Cloud customers see impressive revenue increases merely from enabling AI functionalities?

Mark Grant here, just a quick one for me. You saw some acceleration in Service Cloud growth in the quarter. Can you give us a sense of how those conversations are going with customers, specifically around that cloud? And maybe an update on market appetite for larger transformative multi-cloud deals?

Generally speaking, companies differentiate themselves around service, especially customer experience. We see an uptick in our Service Cloud due to demand for connected customer experiences. Service Cloud hit about $3.4 billion run-rate in Q1, doubling the market growth rate. The integration of Field Service Lightning is enhancing this growth further and encouraging a priority towards customer engagement technologies among companies.

In the quarter, we completed one of our largest transactions ever with a major insurance company, truly building a family of applications around the customer. This transformation spans multiple clouds and emphasizes our capability to deliver a 360-degree view of their clients. How does this integration aspect differentiate us in the marketplace?

What stands out is our ability to provide comprehensive data capabilities. This transformative approach is critical for our customers, offering them a unified view that integrates customer insights through interaction and service improvements. This capability distinguishes us as the only company achieving a complete integration that focuses on customer relationships.

I'd like to discuss the Marketing Cloud. While it had a great quarter, one of your competitors has added commerce functionality through an acquisition, drawing comparisons in strategies. Considering the future growth of Salesforce and your positioning, how do you gauge the B2C versus B2B battle? Additionally, do you see a need for more content management capabilities?

As we expand our vision of customer experiences and market trends, competitors are inspired to meet these future demands. Our perspective ensures every B2B company, as well as B2C, becomes a B2B to C entity. This is evident in partnerships with clients like Adidas. More than just B2C commerce occurs; B2B transactions also contribute significantly to revenue streams. Hence, our acquisition of CloudCraze, natively built on our platform, distinctly enhances both B2C and B2B commerce capabilities.

I’d like an update on product strategy around MuleSoft. Are there expected timelines for the rollout of the Salesforce Integration Cloud?

Currently, our focus with MuleSoft involves consulting our customers to develop their integration strategies. This ensures we are facilitating a customer-centric transformation by unlocking data for improved customer experiences via application networks. We'll showcase out-of-the-box integration solutions at Connections and Dreamforce.

As previously outlined, we are aware of the anticipated headwinds from the acquisition, including deal costs and integration expenses. We're incorporating those aspects into our guidance, intending to make necessary investments to ensure customer success while achieving overall growth in profit margins.

Question for Keith Block regarding large deals. It seems Q1 might have had stronger-than-usual large deal activity. Can you clarify if you anticipate this trend will continue throughout the year and what drives that?

We had a terrific fiscal year last year, and our robust Q4 momentum has carried into Q1. The numerous transactions and relationships formed in the quarter signify our strong marketplace positioning, our ability to fulfill customer needs, and provide visionary insights about the 360-degree customer view, which has become increasingly vital alongside emerging technologies.

To clarify the guidance and financial impact from MuleSoft, we expect top-line revenue contribution of approximately $315 million for the year, with potential margin impacts attributable to integration costs and standardizations that will be streamlined over time, similar to previous successful integrations. We aim to maintain a robust cash flow margin.

Following up on a previous question regarding MuleSoft's contribution specifically for Q2, could you elaborate on that? Additionally, can we discuss the symbiotic relationships between larger customers incorporating MuleSoft and how that impacts overall growth?

We are not providing the breakdown for every quarter, so focus on the full year guidance. Overall, the integration is on track, and we're optimistic about the potential growth it will yield.

In Europe, I met with the CEO of a large life insurance company, a key Service Cloud client. They've also incorporated MuleSoft, demonstrating our capacity to strengthen relationships and enhance their strategic customer journey. Discussing this integration reinforces our commitment to assist them in achieving a complete customer view while expanding their operational capabilities.

As explained earlier, helping customers integrate myriad systems is paramount for expanding their transformative experiences. This drive within customer bases significantly enhances our strategic relevance in respondents' systems.

Given the large transactions in Q1, could you comment on the pipeline for mega deals? Are you witnessing this from existing customers? Also, regarding the largest deal, can you provide insights into the deployment strategy and how it promotes digital transformation?

Certainly, expansion in our core ecosystem represents the trust our clients have in us to lead their transformation. Engagements entail integrating multiple solutions into a coherent experience that brings complete interoperability within their existing infrastructures.

Our unearned revenue growth in Q1 reflects a 25% increase. When we compare this to historical deferred revenue growth rates, we are pleased. This growth shows our financial stability despite the transition adjustable based on newly implemented accounting changes.