ServiceNow, Inc. (NOW) Earnings Call Transcript & Summary

Hi, everybody. Thanks for joining us today. So for this session, we have the CFO of ServiceNow. Gina, thank you for joining us. We really appreciate you being here. Newport has been so great so far. And I'm glad you could join us. How are you doing?

I'm great. Thank you so much for having me. And I was telling folks earlier, so I live in Southern California, and I was really happy to see blue skies for you all today because there has been no blue skies and no sun for like the past 4 weeks, which is very unusual. So at least you got some sun. It's cloudy again now, but you've got a little bit.

Well, I think what that means is that the Jefferies Software Conference lifts the June gloom in Southern California...

I think it did. I think it did. Come back again.

That's our anchor company for next year, guys. So I'm going to dive into the questions, Gina.

The company just had the Analyst Day, a lot of fanfare around product announcements around the financials. Maybe let's start there. The fiscal '26 outlook was strong. I think when people consider FX and the impact from macro, it implies pretty good net new ACV. Maybe help us understand what do you see from a product perspective that underpins both maybe the '24 and '26 outlook? Where is your confidence coming from?

Yes. Great question. If you think about -- and we talked a lot about this at Investor Day. But if you think about from a product lens perspective and a workflow lens perspective, I'll start with IT and technology workflows continues to be robust and continues to have growing addressable market. I think when we IPO-ed, Gartner said the market was $1 billion. And clearly, we've overachieved that. And what we continue to see is remarkable resilience in the technology workflows, even with respect to our oldest and most penetrated workflow ITSM. And so remains relevant today. We see also growth with respect to how we monetize our premium SKUs. So ITSM Pro is now in about 40% of our customer base, and I talked about at Investor Day also that we're landing -- about 60% of new logos are landing with the Pro SKU. So absolutely clear evidence that we're able to monetize those incremental capabilities. And then outside of our core ITSM, we continue to see strength in ITOM, IT asset management as well, as well as our newer products within tech. So think security and risk continue to do extremely well for us. And so lots of runway as we think about even our core and then think about, while that is absolutely our most penetrated product outside the U.S., even within the U.S., there's still a lot of headroom in those 50,000-plus enterprise commercial customers that we're not currently in. So think about core continuing to do really well. At Investor Day, we talked about Customer and Creator Workflows becoming billion businesses in the next year. So think about customer being -- our competitive differentiation is really being able to take a ticket, a complex workflow from ticket to resolution all in one system. And so that's been a real differentiator for us from a customer perspective. From a creator perspective, app modernization and app development is just continuing to expand and expand. And so lots of opportunity there. I was asked earlier in one of the investor meetings, what inning do you think it is for customer and creator? And I said, I've never been asked that question before, but I'm thinking it's like third inning. So not first, but still early days. So lots of opportunity, customer creator, but also employee workflows. So I get the question a lot with head count reductions and issues really pervasive in the macro, are you seeing any headwinds with employee? And what I'd say is actually the drive for increased employee productivity is more important than ever before. So employee workflows and really ensuring that while we're able to make sure our employees are more as productive as possible, also driving great engagement is really, really, really important because we all know retention is expensive or attrition is expansion -- and retention is super important. So really from across the product portfolio, as we think about growth to $15 billion plus in 2026, we see pretty strong growth trends surrounding all of our current workflows. And then if you think about some of our newer runs, finance and supplier chain, life cycle, while super small now, we just launched, absolutely has a lot of room for growth, and we're getting a lot of interest from our customer base and our partners are super excited about that as well. CJ talked about the fact that the pipeline ramp for the new supply chain and procurement offerings are probably the fastest ramp of new products that we've seen. So really excited about the opportunity from a product perspective.

Very helpful. So there's a lot to unpack there, but you mentioned macro. So I'll go ahead and ask that question or to band it off. What were the adjustments or what were the assumptions that you've made around the macro in the revised outlook? I think most people are still pleasantly surprised it shows how durable the growth is. But what are you -- what kind of world are we living in, in that guidance?

Yes. I think we're living in the world that we're currently seeing right now, which is continued strong demand and good pipeline. 85% of our new business comes from existing customers. So that is really helpful in thinking about visibility into pipe, which is great. But certainly, we're seeing deal cycles elongated. The conversations that we're having with customers are more strategic than ever before. And I talked about this at Investor Day, our new logo lands are -- we're landing bigger and we are expanding faster. And the conversations with customers are more strategic than ever before, which is great. But what comes along with that bigger deals and more strategic -- more strategic lens is a slightly longer deal cycle. So we've been seeing that over the last year, baked into the guide is continued deal elongation, continued macro. We're not really assuming that the macro shifts dramatically for the next several quarters.

Great. That's helpful. I want to stay on the long-term targets just because how much focus there has been. But let's switch to the bottom line. You guys have always been very impressive in terms of high growth, balancing that with profitability. The margin guidance next year actually implies expansion. So maybe help us understand how you guys are able to continue to drive leverage even as you're seeing FX headwinds as you're thinking about investing for growth? How should we think about the -- how you get there from that margin expansion standpoint?

Yes. Well, we have 2 unique, I think, propositions in what helps us drive not only great top line growth, but really best-in-class margins. And first of all, it's R&D efficiency. So single code, one data model, a single architecture. If you think about the R&D investments that we're making, all of them are able to drive all of the development throughout the entirety of the platform. So a good example of this that I talked about a couple of weeks ago was our risk product. It was built with 12 engineers, and it has scaled to over a $250 million business in a few short years. And so we've moved that team now mostly in India and the R&D efficiency that we've seen just on that product alone has been upwards of 50% over the last several years. So the leverage that we'll be able to get from an R&D perspective really helps. And then the same thing with respect to sales efficiency. And so because once -- it takes a lot longer for that first implementation, but the implementations after that are a lot faster. And so the value that customers are getting from the platform, the sales efficiency and the ability to sell and upsell is much easier on the second and third than the original. And so sales efficiency that we've been driving over the past several years has been fantastic, while at the same time investing outside, right? So we've invested geographically. We've invested as we have built specialist sales organizations for some of our newer products like security and risk. And so we've been able to still drive efficiency while at the same time investing in newer areas. And so that's the inherent leverage that the platform model gives us, which is why I feel really great about the ability to be able to generate incremental margins going forward.

That's helpful. And I think there are a couple of things that ServiceNow has talked about in great detail for the first time, right? You announced your first ever buyback. And you also talked about lowering stock-based compensation over time. I'm curious why now for both of those. It seems to be much more focused this year than you -- obviously with the buyback being you. What was the logic between focusing more on that? And maybe how are you thinking about that from a shareholder perspective?

So we've always been extremely focused on delivering exceptional shareholder value. And we've done that with a number of levers. So number one, our organic innovation that I just talked about, the fact that we are now a multiproduct, we have over 11 products with more than $200 million in ACV, all done organically. So we've driven great shareholder value from organic innovation. We've driven it through selective M&A. So smaller tuck-in type of M&As of capabilities, think AI, machine learning, think observability and talent acquisitions, which has been really great. And then the third, I would say, is just kind of how we individually run the business and our own management philosophies on really driving a balance of not only growth, but growth and profitability, we've never been a growth at all cost type of company. And so these 3 levers are levers that we've always historically used to drive great shareholder value. With our strong and growing cash position, we exceeded $7 billion for the first time last quarter. It was the right time for us to think about adding another tool to the toolkit in driving shareholder value. And so if you think about really -- just thinking about all the ways that we can continue to drive it, share buyback right now made sense. And we talked about that in the way of managing dilution. And so -- this isn't the first time that we've talked about managing dilution. You've seen us manage dilution over years from 5% just a couple of years ago to just 1.6%, I think, last year. And so we've always been focused on managing dilution. Our targets over the last several years have been less than 2%. We just brought that down to less than 1.5%, and that's before the share buyback. And so hopefully, what that tells you is that we absolutely believe in the trajectory of this business, but we're going to utilize the levers that we have in place to continually drive exceptional shareholder value.

Great. Let's switch gears and move away from the numbers. It wouldn't be a software conference if we don't talk about AI. So -- or cRPO, but I'll skip that one for you. Don't worry. There's been a lot of questions about how AI ultimately impact ServiceNow. There's a lot of fanfare with NVIDIA presenting on stage with Jensen and CJ. So I'm just curious, how is the company -- you guys spent a lot of time at the Analyst Day talking about it. What do you think about AI? Can you just help the audience maybe that didn't truly understand how ServiceNow is set to benefit or maybe some of the headwinds you guys could face? How are you guys thinking about it?

Yes. We have been investing in AI for years. We talked about selective M&A. We bought an incredible company back in 2020, I think it was, Element AI. And we've been really driving incremental AI, machine learning capabilities into our platform for years and years. And so I get this question a lot. I'm a hugely, as you imagine, CFO, data-driven person. And so I go back to the evidence of what we've done over the past 4 years. And what you've seen is that we've been able to create pretty incredible capabilities on the platform already with AI and machine learning that we've been able to monetize through our premium SKUs like ITSM Pro, CSM Pro enterprise, which has all of the AI and machine learning with process optimization and workflow optimization on top of it. We launched the Pro -- ITSM Pro back in 2018, and we are now penetrated 40% into our customer base and 60% of our new are landing with the Pro SKU. And so the capabilities that we've been able to already drive has been -- we've been able to monetize them very successfully. And let's be clear, back in 2018, when we launched, we had the same questions about, is this going to reduce seat count? What does that do to your pricing model? And in fact, we've seen not only the 25% pricing uplift even today when we're selling our Pro SKU. But we've also seen increasing quantities and seat counts. And why is that is because the value that the increment -- the AI and machine learning is driving, they're seeing it in one area and then they're wanting to expand more broadly throughout the enterprise. And so we feel confident based on empirical evidence and what we've been able to do and drive that P x Q will be a greater number. We believe that quantity won't come down. But if it does, that the incremental price uplift will more than offset it. And at the end of the day, if in 3, 5 years, something has significantly changed in that model, then we're able to change our pricing meters pretty rapidly. So we do some usage base already now. So if that's the direction of flow, we'll continue to evolve to ensure that we are driving great value for our customers, but capturing that and monetizing that accordingly.