Appian Corp

NASDAQ:APPN

Earnings Call Transcript 2018-Q3

[Operator]

Greetings and welcome to the Appian Corporation Third Quarter Results Conference Call. At this time, all participants are in listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions]. As a reminder, this call is being recorded. It is now my pleasure to introduce your host, Staci Mortenson, Investor Relations. Please go ahead, madam.

[Staci Mortenson, Investor Relations]

Thank you. Good afternoon and thank you for joining us today to review Appian's Third Quarter 2018 Financial Results. With me on the call today are Matt Calkins, Chairman and Chief Executive Officer; and Mark Lynch, Chief Financial Officer. After prepared 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 are forward-looking statements under federal securities laws and are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 including statements related to our financial results, trends, and guidance for the fourth quarter and full-year 2018, the benefits of our platform, industry, and market trends, our go-to-market and growth strategy, our market opportunity and ability to expand our leadership position, our ability to maintain and up-sell existing customers, and our ability to acquire new customers.

The words anticipate, continue, estimate, expect, intend, will, and similar expressions are intended to identify forward-looking statements or similar indications of future expectations. These statements reflect our views only as of today and should not be reflected upon as representing our views as of any subsequent date. These statements are subject to a variety of risks and uncertainties that could cause actual results to differ materially from expectations. For a discussion of the material risks and other important factors that could affect our actual results, please refer to those contained in our 2017 10-K filing and other periodic filings with the SEC. These documents and the earnings call presentation are available in the Investors Relations section of our website at www.appian.com.

Additionally, non-GAAP financial measures will be discussed on this conference call. Please refer to the tables in our earnings release in the Investor Relations portion of our website for a reconciliation of these measures to their most directly comparable GAAP financial measure. With that, I'd like to turn the call over to our CEO, Matt Calkins. Matt?

[Matt Calkins, Chairman & Chief Executive Officer]

Thanks, Staci and thank you all for joining us today. In the third quarter of 2018, Appian's subscription revenue grew 42% year-over-year to $29.4 million. Our non-GAAP loss from operations was $8.1 million. Our subscription revenue retention remained high at 117%. These results exceeded our guidance.

This quarter, we sponsored a survey of tech executives asking about their IT investments. These execs reported that the role of software in the enterprise is changing. They used to be about efficiency gain and cost reduction. Now it's about the customer, capturing more customers or improving customer service, sounds right to me. This has implications for the pace of software development. Back office apps can roll out slowly, but front office apps have to keep up with the customer, the customer changes quickly. Low-code is a good way to make apps quickly. So the trend favors us. Further, customer-facing applications tend to be important. They need to be scalable and reliable and performant. Appian's brand of low-code is designed to build industrial strength applications, we call this enterprise low-code to differentiate us from the firms whose low-code is merely a quick start to custom development.

One of our customers, the Options Clearing Corporation is the world's largest equity derivatives clearing organization. It's a SIFMU, which is to say it's regulated by the government as a Systemically Important Financial Market Utility. They need to be sure they never fail, but they still need to move quickly. They started with Appian and completed nine critical risk management applications in 18 months. They built their first application in about six weeks and now they are at the point where they can build an application in a single day.

Speed and reliability, that's what Appian brings to the low-code market. About a year ago, one of the world's 10 largest healthcare companies became an Appian customer. They built a series of applications to support pre-authorization for medical procedures such as sleep studies, genetic studies, oncology. Because our platform allows them to build applications faster than they had before, they increased their Appian investment in Q3 with a seven-figure deal to support more specialty areas.

I'm sure you've heard about our work with Dallas-Fort Worth Airport, they are the fourth busiest airport on earth and an Appian customer for five years, they have several dozen applications already in production covering airportwide operations and still, this quarter, they made an additional seven-figure purchase to improve customer experience and ensure controlled access to secured areas of the airport. DFW demonstrates that even in our best accounts, there is still upside potential.

IT executives say that 40% of their organizations time is lost to technical debt. That's another finding from our recent survey. 40% is a staggering piece of the IT economy and this matters to us because Appian applications are largely exempt from technical debt. They upgrade automatically, they acquire new features automatically, they automatically run anywhere even on devices that weren't invented when the app was designed. We're the antidote to technical debt and unique applications. So that 40% number is a good indicator of opportunity for us.

We believe Appian to be the most accessible product in our market. That means it takes less work to build an application on Appian than it does on rival platforms and it takes less time to learn Appian than to learn our competitors. To emphasize this edge, we launched a new program this past quarter called The Appian Guarantee. We promise -- in this guarantee, we promise that a customer's first Appian project will be completed in just eight weeks for only $150,000 given a few reasonable restrictions. Our partner, KPMG, will deliver the guarantee in North America and Europe. Other partners may soon participate as well. Also, Appian training takes just two weeks, which is to say any developer can become an Appian developer in 10 days. The guarantee substantiates our accessibility advantage, the ease of learning and deployment. We demonstrated this edge in several Q3 deployments and deals.

One existing customer, a top 10 insurer in the US had a notably fast deployment in Q3. They provide property and casualty insurance products and services to businesses globally. This year, they needed to modernize their customer payment system because they weren't able to make payments within their SLAs. In six weeks, a team of three people built an application to orchestrate and ensure payments are made accurately and on time. There's another one, a Big Four auditor, an Appian customer since 2013, expanded their licensing with a seven-figure deal in Q3.

They needed to build a mission critical application to meet regulatory requirements pertaining to evidence gathering and client communications. Using Appian, they released two applications in 12 weeks serving thousands of audit team members. We won new customers this quarter due to speed of deployment and ease of use. We captured a new global investment and advisory firm with more than $300 billion in assets under management. They needed to track employee trading activity to reduce the risk of insider trading. They'll use Appian to build a know-your-employee monitoring tool for their 2,500 employees.

During the evaluation cycle with this customer, a single Appian sales engineer built a compelling custom demo in six days, just six days. We beat two of our biggest competitors due to our speed.

One of the UK's five largest banks also became a new customer of Appian in Q3. They faced pressure from regulators to improve the quality of their reporting by the end of the quarter. In just six weeks, three people built an application to allow their finance team to track and report on P&L for their business units. The accessibility of our platform also won us new US federal agencies and led to expansions in existing ones.

This quarter, we won a federal agency responsible for environmental conservation. They needed a better way to track constituent requests for environmental impact analysis on marine species. Earlier this year, an agency employee, independently of Appian, obtained an Appian cloud trial, taught himself how to use Appian. The employee built and demoed three applications to senior stakeholders using our cloud trial and these demos, created by an Appian neophyte, made this federal agency a new Appian customer.

We also expanded with the U.S. Department of Labor. Before purchasing Appian, they had 39 disparate case management solutions. They replaced five of those systems with their first Appian licenses. This quarter, they more than doubled their user base with a seven-figure deal to modernize another dozen case management systems. We won this deal because DOL finds our accessibility and the security of Appian cloud critical to modernizing their systems.

Appian was one of the first companies in the world to meet the US federal government's strict security requirements called FedRAMP. Even today, not all of our competitors have this essential cloud security certification. We continue to emphasize accessibility in The Appian Guarantee, in proofs of concept, and in our pitch because it's a theme we continue to win on. Now I'll turn the call over to Mark for a deeper discussion of our financials. Mark?

[Mark Lynch, Chief Financial Officer]

Thanks Matt. This was another strong quarter for Appian. I'll review the financial highlights of the quarter and then provide details on our Q4 and full-year 2018 guidance. Subscription revenue was $29.4 million, an increase of 42% year-over-year and above our expectations. Our total subscription, software, and support revenue was $30.9 million, an increase of 36% year-over-year. Professional services revenue was $24 million, up from $22 million in the prior year period and down from $26.8 million in the prior quarter. Our professional services revenue reflects the strength of our new business wins over the last several quarters and the kickoff of many services projects, but also reflects our steady focus on pushing more services work to our partners. We continue to expect our services growth to moderate as our partners become a larger part of our ecosystem.

Total revenue in the third quarter was $54.9 million, up 23% year-over-year and ahead of our expectations. Our subscription revenue retention rate was 117% as of September 30, which was toward the high-end of the 110% to 120% range that we target on a quarterly basis. We're pleased with our customers expanded use of our platform. Our international operations contributed 29.1% of total revenue for Q3 compared with 28.6% in the prior year period. This is reflective of the strong growth we are experiencing both domestically and internationally.

Now I'll turn to our profitability metrics. Our non-GAAP gross profit margin was 64% compared to 63% margin in the same period last year and a slight decrease from 64% in the prior quarter, which was positively impacted by the large perpetual license deal. Subscription, software, and support non-GAAP gross profit margin was 90% in the third quarter, consistent with 90% in the third quarter of 2017. Our non-GAAP professional services gross profit margin was 31% in the third quarter compared to 36% in the third quarter 2017 and 31% in the prior quarter. Total non-GAAP operating expenses were $43.3 million, an increase of 30% from $33.2 million in the year ago period.

This is in line with our stated strategy to invest for growth to capture the long-term opportunity. We aim to build on our momentum by supporting our go-to-market initiatives in the continued development of our platform. Non-GAAP loss from operations was $8.1 million in the third quarter, ahead of our guidance and compared to a non-GAAP loss from operations of $4.9 million in the year ago period. As you know, foreign exchange gains and losses can fluctuate.

During the quarter, we had $200,000 of foreign exchange losses compared to $300,000 of foreign exchange gains in Q3 2017. Our guidance does not consider any additional potential impact to financial and other income and expense associated with foreign exchange gains or losses as we do not estimate movements in foreign currency exchange rates.

Turning to our balance sheet, as of September 30, we had cash and cash equivalents of $107.3 million compared with $50.4 million as of June 30, 2018. This is inclusive of the $57.8 million net cash raised in our underwritten public offering on August 23. Total deferred revenue was $96.8 million, up 35% year-over-year. With respect to our billing terms, the majority of our customers are invoiced on an annual upfront basis.

However, we also have some large customers that are billed quarterly and others that are billed monthly. We will continue to remind investors that changes in our deferred revenue are generally not indicative of the momentum in the business. During the third quarter of 2018, we used only $300,000 in cash flow from operations, in line with our expectations.

Now turning to guidance, for the fourth quarter of 2018, subscription revenue is expected to be in the range of $31.4 million and $31.6 million, representing year-over-year growth of 34% to 35%. Total revenue is expected to be in the range of $55.1 million and $56.1 million. Non-GAAP loss from operations is expected to be in the range of $10.4 million and $9.4 million with a non-GAAP net loss per share of $0.17 and $0.15. This assumes 63.9 million basic and diluted common shares outstanding.

For the full-year 2018, we are raising our guidance. Subscription revenue is now expected to be in the range of $113.3 million and $113.5 million, representing year-over-year growth of 37%. Total revenue is now expected to be in the range of $221.6 million and $222.6 million. Non-GAAP loss from operations is now expected to be in the range of $32.5 million and $31.5 million with a non-GAAP net loss per share of $0.56 and $0.54. This assumes 62.2 million basic and diluted common shares outstanding.

We'll now turn it over to questions.

[Operator]

Thank you. We'll now be conducting a question-and-answer session. [Operator Instructions] The first question is from Sanjit Singh, Morgan Stanley. Please go ahead, sir.

[Josh Baer, Morgan Stanley]

Hi, this is Josh Baer on for Sanjit. Question is on cash flow. In previous quarters, you talked about some challenges with collections and your new ERP system. You mentioned cash flow came in line with expectations this quarter. I'm just wondering if you could talk to any operating cash flow dynamics this quarter and if we should still expect slightly negative operating cash flow for the back half of '18 combined?

[Mark Lynch, Chief Financial Officer]

Yes, I think you should expect slightly basically minimal cash spend for the second half of the year, consistent with what we said last quarter. And as you can see, we did a good job of basically collecting the receivables that were out there. So there is no operational issues with the ERP system et cetera and we basically got in there, cleaned up the receivables pretty well. So I was happy with how it turned out.

[Josh Baer, Morgan Stanley]

Great and one more if I may. You mentioned in the prepared remarks that anyone can become an Appian developer in 10 days along with The Appian Guarantee. I'm just wondering if you could talk a little bit about the backgrounds of some of these individuals that are being trained on the Appian platform, if they are general business users or IT professionals that might be more familiar with development. I think context there would be great.

[Matt Calkins, Chairman & Chief Executive Officer]

Yes, in order to become an Appian developer in 10 days, you should begin as a technological person. You should have knowledge of developing in other environments and you should know, you should think in terms of IT. I'm not talking about business users here, I'm talking about existing IT professionals and technical personnel. Still, it's impressive that it can be done in 10 days no matter the background and it can't be done so quickly in rival platforms and so it's a point worth making even if it doesn't apply to rank and file business users, it is still very empowering and it's important for us considering that it's a new technology. Our ability to penetrate the market depends on the supply of practitioners. Those practitioners are more easily created on the Appian platform than they are on other platforms. So I believe that, that gives us an advantage in removing one of the possible barriers to growth.

[Operator]

The next question is from Raimo Lenschow, Barclays. Please go ahead.

[Mohit Gogia, Barclays]

Thanks guys. This is Mohit Gogia on for Raimo. A question for Matt and then a follow-up to Mark. So Matt, just staying on this Appian Guarantee. So I was just wondering if you can talk about as to what was the motivation behind you guys putting this structure in place. Was it something you figured will help improve your competitive position or was it something you saw customers were sort of like actively -- because there is obviously a notion around SLAs and this sounds like a logical SLA around the value that Appian brings to its customers. So just wondering if you can talk about the motivation as to -- that drove this sort of a guarantee.

[Matt Calkins, Chairman & Chief Executive Officer]

Yes, I think the right time to deploy a guarantee like this is when an organization knows that it has an advantage and wishes to press that advantage. That's exactly why we did this. We wanted to substantiate and focus attention on the virtue of accessibility, get the client thinking that that was an important thing, make a bold statement that we felt confident our competitors could not match and move the battlefield to some territory that we've got a natural edge. This is also -- this accessibility virtue is one that's been contested somewhat in recent years. Rivals note that we've got this edge and I think that some effort has been made to create an appearance of accessibility that may or may not be substantiated and so rather than argue, I figured it be best to just put it to the test and put a stake in the ground and dare other organizations to match us.

[Mohit Gogia, Barclays]

And I guess a follow-up on, not a follow-up, but a question for Mark. So on your short-term deferred revenue on the balance sheet, we saw a meaningful sequential increase this quarter that is more characteristic of what we see from 3Q to 4Q. So just wondering if you can discuss the puts and take there, is there anything else -- is there anything we should be aware of in that regard. Thanks guys.

[Mark Lynch, Chief Financial Officer]

Not really. As I mentioned in my prepared remarks, the deferred revenue is generally not a leading indicator. The best indicator to look at is our subs revenue growth and that obviously was up nicely as well.

[Operator]

We have a question from Bhavan Suri, William Blair. Please go ahead.

[Matt Statler, William Blair]

Hey, this is Matt Statler on for Bhavan. Wanted to ask one question or two questions. First one about your partner channel. Could you just give us an update on how the channel contribution is trending relative to your expectations?

[Matt Calkins, Chairman & Chief Executive Officer]

Channel right now is a strong and growing component. I can tell you, I just came back from our show in London last month. We do a major conference in Europe every year now to balance the major conference that we do in the US. Partner turnout was fantastic. I think you can read into the support that partners have given us when we roll out The Appian Guarantee that Appian as an organization when it launches a new initiative doesn't do it alone anymore. About a year ago, we'd have been launching that alone. Now, we've got partners interested and we're trying to juggle which ones of them we're going to certify. It's great to be supported like this. We've made a lot of progress.

[Matt Statler, William Blair]

Right, okay and second question, just on new customer acquisition, I know you don't plan to disclose customer count every quarter. Could you speak directionally to where this might land in Q3 relative to your expectations?

[Matt Calkins, Chairman & Chief Executive Officer]

Well, I guess we either reveal it or not. We don't plan to disclose the count, but I'll say that we are acquiring new customers and that's our plan. We're growing firm and the many of the stories that I recounted during the prepared remarks are new acquisition related. So that speaks well I hope.

[Operator]

The next question is from Terry Tillman, SunTrust Robinson Humphrey. Please go ahead.

[Eric Lemus, SunTrust Robinson Humphrey]

Hey guys, this is Eric Lemus on for Terry. Thanks for taking the question. It's been a little while now since the user conference when you announced the Contact Center platform, so it might be still early, but any sort of update on the response you're getting from customers versus where your expectations were on Contact Center?

[Matt Calkins, Chairman & Chief Executive Officer]

Yes, that's right. In some ways it's early, but in some ways it's not. Let me just brief you on the strategy here, which probably has been discussed some on previous calls. We are not intending to price the Contact Center differently than we do the base product, which is to say that the Contact Center functionality comes at no additional charge to a buyer of our platform. And so, it's not going to be a new business line that has its own P&L. It's going to be a set of benefits that entice Contact Center buyers to prefer Appian over our rivals at the same price. Appian continues to be very strong in Contact Centers and some of the examples that were given during the prepared remarks are Contact Center examples. So in that regards, I would say, we've never been better. Our Contact Center customer acquisition is very strong. Our value proposition is very compelling and I say, we're doing quite well, but I don't expect a breakout, don't expect a -- because it's blended. It's part of the main business line.

[Eric Lemus, SunTrust Robinson Humphrey]

Got it. Thanks, Matt. That's a really good color. Circling back to The Appian Guarantee, we certainly find that very interesting and even more interesting that KPMG supports The Appian Guarantee. Do you anticipate any other partners to support The Appian Guarantee as well?

[Matt Calkins, Chairman & Chief Executive Officer]

First of all, thanks for noticing that that's a meaningful piece of support. That really is. To guarantee a approachable price in services and have your services partners come along with it, that means that our partners understand the Appian value proposition and they're really in sync with us about how to make this proposition fly. So I'm very pleased that we have that support. I can tell you that KPMG is not the only organization that has asked to be certified to deliver the guarantee, but we feel very comfortable with them and so we decided to launch it just with the one. We expect to open others to the program as we go forward, but it is generally our approach to keep a new program narrowly monitored and not add a lot of variables until it's proven to be successful.

[Operator]

We have a question from Alex Kurtz, KeyBanc. Please go ahead sir.

[Steve Enders, KeyBanc]

Hey, guys. Thanks for taking my question. This is Steve Enders on for Alex. I was wondering if you're seeing your channel partners and the big service integrators drive any large customers to the platform or how that's been trending?

[Matt Calkins, Chairman & Chief Executive Officer]

We see a strong uptick in partner cooperation with Appian. I'm going to not quantify this, I'm just going to give you a sense of the momentum. We have lots of partner-sourced deals, we've got partner cooperation, we have partner initiatives launching on pre-built solutions, we have -- I feel that the momentum is terrific. We didn't breakout any numbers. So I can't cite any right now, but the partner operation is going as we wish it to go.

[Steve Enders, KeyBanc]

Okay, that's helpful and just a quick follow-up. I was wondering if you could provide any color on sources of cash after your recent raise and where you see the opportunity for that going?

[Mark Lynch, Chief Financial Officer]

I mean, just continue to invest in the business. The market in front of us, the TAM is massive and we're just trying to execute on it in a prudent fashion.

[Operator]

[Operator Instructions] The next question is from Richard Davis, Canaccord. Please go ahead, sir.

[Unidentified Analyst]

Hi, this is Richard on for Richard. This is kind of, maybe an obtuse question, but I was talking to a friend, a guy I know at DataRobot and he was I guess at this conference called InsureTech which I guess was in early October and he said you guys made 'good waves' at that show and I don't know how many -- what does good waves mean and basically more importantly, could you just talk about the opportunities you guys see in the insurance industry? Thanks.

[Matt Calkins, Chairman & Chief Executive Officer]

Yes, I think right now we've got a killer value proposition and I wasn't aware of that show specifically, but I think that we're making waves at a lot of shows. I like the idea that you could draw an application and then you could do it in eight weeks and you can get this into production and then once you've built, it would be actually more powerful than if you've written it line by line. I think we're in really good shape in terms of the core idea and the ability to execute is also very strong. We got a great set of partners. We got a great internal deployment team. We've got a fantastic tech department that all works right in this building. This is an engine and I feel like we're able to impress customers and get good word of mouth. I feel like the partners are excited and making big investments. So it feels good right now, a lot of dynamics are pointed in our direction. I think that when we go to a show, we're going to have some good things to say.

[Unidentified Analyst]

Got it and then you mentioned FedRAMP, we follow another company, excuse me, called Everbridge and they got FedRAMP recently and then they just signed a presumably decent sized deal with the US Army. So, how should we think about FedRAMP and does that affect the trajectory of your growth. I know we're rapacious capitalists and we just want more all the time, but I was just curious how we should think about that in terms of growth for you guys.

[Matt Calkins, Chairman & Chief Executive Officer]

Yes, early on, FedRAMP was an impressive, distinctive thing to have and we've had it for a long time. We were the first couple of dozen companies to have this and now it's almost a need to have, right. If you're serious about cloud, you should have this in the federal government. So it's changed over time whether you are an early or a late arriver. I wouldn't say it wins us business, but it's certainly a necessary element and it's not the only security certification. We take security really seriously. So we try to stay on the forefront of it. We have a lot of certifications. We have a great operation internally testing the software. I think security is one of these foundational elements that customers simply expect if the application is going to be a mission critical application and you noticed earlier in the comments I said there's low-code and that's about simplicity, but there's enterprise low-code and that's not just simplicity, it's also power. If you're going to pitch this high end of low-code where you are using a low-code drawing kind of an intuitive approach to create not just software, but powerful software, one of the basic expectations of that powerful software is it's going to be secure and so not every low-code vendor is going to care about conveying that kind of power, but it is absolutely essential at our level for the deals that we pitch, for the customers we run, for the applications that are based on Appian, it's a necessity.

[Operator]

We have a follow-on question from Bhavan Suri, William Blair.

[Matt Statler, William Blair]

Hey, just a couple more from us on the competitive front, wondering if you saw any significant changes competitively during the quarter, given the kind of massive opportunity for low-code, it feels like a lot of deals would be greenfield in nature. In other words, it looks the customers aren't necessarily evaluating multiple products, but at the same time in the prepared remarks, you called out some competitive wins, displacements. How do we think about kind of the mix of greenfield versus competitive deals that you are in at this point.

[Matt Calkins, Chairman & Chief Executive Officer]

Yes, that's a good question. I agree with you that generally a greenfield will predominate and it did in Q3. I had some mixed examples here, but generally we're not displacing our competitors. For the most part, we are the first tool to apply to the job at hand and I expect that pattern will continue for years now.

[Matt Statler, William Blair]

Okay, that's helpful and then just one more on the net expansion rate, as you mentioned 117% is very strong. It's kind of in the upper half of your targeted range. It is a small step down from the 119% we have seen recently. Is there any drivers there that are worth calling out?

[MarkLynch]

I don't believe there any drivers worth calling out. There's a small fluctuation. We are at the high-end of our range.

[Operator]

There are no further questions at this time. I would like to turn the floor back over to Matt Calkins for closing remarks.

[Matt Calkins, Chairman & Chief Executive Officer]

Thank you. I don't have any closing remarks other than to say, I believe this was a solid quarter and we just keep plugging away.

[Operator]

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation and have a great day.