PTC Inc. (PTC) Earnings Call Transcript & Summary

Okay. Good morning, everybody. My name is Tyler Radke, and I co-head the software sector here at Citi. Welcome to day 1 of our Global Technology Conference, virtual again this year. We are happy to have PTC, the CFO, Kristian Talvitie, joining us today. So Kristian, thanks so much for being with us today.

Yes. Tyler, thanks for hosting. I appreciate the opportunity here. And obviously, before we get started, my lawyers would remind me that I would be remiss if I did not mention that we may be discussing forward-looking content. And we advise everybody to please see our safe harbor language and risk factors that are detailed in our press release, the SEC filings on our website, et cetera.

Great. Great. So Kristian, I thought the macro environment is always a thoughtful conversation for PTC. Maybe we could just start from some high-level observations of what you are seeing from your customers. I think we've seen pretty strong PMI data, a little bit of risk, though, obviously with inflation and obviously the ongoing Delta variant. But maybe just help frame for investors what the dialogue is like with customers. Are you kind of continuing to see the demand environment improve as you talked about earlier this year?

Yes. So just as a quick reminder, for the year, when we initially put out our guidance, which called for at the beginning of the year 9% to 12% organic constant currency ARR growth, the assumption that we had at the beginning of the year was, the first half of our fiscal year, the demand environment remain somewhat stable with what it had been leading up to that point, with the macro environment improving in the back half of our fiscal year. And to a certain degree, that is largely how we've seen things playing out. We have seen bookings growth, really, every quarter. We had particularly strong bookings growth in the first half, a little bit of pressure in the third quarter. That had -- I think that had somewhat to do with the changing dynamics around what was happening with Delta in general. And I think we had some customer-specific -- we had a handful of deals that pushed. Good to know, at the beginning of Q4, we saw some of those come in. And again, I think we feel comfortable with the guidance that we had laid out at the beginning of the year and things playing out that way.

Got you. Got you. Okay. And I mean you mentioned that, in the third quarter, there -- obviously, we were talking about the Delta variant, then there were some deals that pushed into Q4. But just in terms of customer sentiment, would you say things haven't necessarily gotten worse on that end? Just kind of consistent with what you saw last quarter? Or just help us understand that.

Yes. No, I mean, I think it's been pretty consistent. I mean, I know at least, for us, we're continuing to monitor the situation. But at the same time, we're eager to continue investing and growing and helping to create value for our customers. And our customers, I think, largely feel the same way. Just trying to do it in a very mindful way, irrespective of the situation and respectful of the macro environment.

Right. Right. So obviously, the next few weeks are probably pretty -- clearly an important part for PTC with the fiscal year close. Maybe just help us understand how you're seeing kind of the pipeline evolve. And I think PTC is always -- in terms of your ARR forecast, there's a portion of that, that comes through ramp deals that were already booked. But just help us understand how the pipeline is shaping up.

Well, I mean the pipeline as we entered the quarter -- I think we feel like we had a strong pipeline coming into Q4. So you're right, the next 2 to 3 weeks will -- for any good blue-blooded enterprise software company will be telling. And so we'll see, but we certainly feel like the setup going into the quarter was reasonable for us. And as we said on our earnings call, we feel like we're positioned to drive a fifth year of double-digit ARR growth as we look out to next year. So that's where we are.

Got you. And just a reminder for the investors listening, feel free to submit questions through the chat, and we'll work them into the queue. So I wanted to shift gears a little bit and just talk about the cloud strategy. So obviously, there have been a couple of big acquisitions in that front with Onshape and Arena over the past couple of years. I guess, just at a high level, where are we at in terms of the timing of the SaaS transition? And then how are you thinking about future M&A versus kind of organically investing to drive that?

Yes. I'm going to come back to this. I actually want to make one point on the previous question, if that's okay? Because I know you were talking about some of this...

Yes. Yes.

Per ARR, and that providing some incremental visibility into any given quarter or a given fiscal year. And I guess, I would just want to remind everybody that what we had said, for example, for this year, is that we now expect to end the year with somewhere around $95 million of deferred ARR, some portion of which, for example, will come in next year and some in future years. But putting that in perspective, I think our guidance for the quarter calls for $1.4-plus billion of ARR. So the incremental amount that -- or the amount that we expect to include in that as -- from this deferred ARR, in the grand scheme of things, is a pretty small amount in any given quarter, right? So I guess I want to highlight that. And probably the bigger components, obviously, the expiring base or maybe more so the non-expiring base, right, the contracts that aren't up for renewal that are active during the quarter, followed by the expiring base, followed by new bookings and then, ultimately, by the deferred component. So I just wanted to help frame that in my end.

Right.

Now back to your originally scheduled question, which is around investment in our SaaS future. So stepping back again, if you think back to -- so a little over 1.5 years ago, coming up on almost 2 years ago, was when we acquired Onshape. And that was really kind of the first foot in the water, if you will, for PTC. I guess we had a couple of toes in with some of the Vuforia apps and so on, but really putting our entire foot in with Onshape. And when you think about Onshape, I think you can think about it 2 ways. So you could think about it as the industry's only kind of native SaaS, pure multi-tenant CAD and PDM offering, which it is. Or you could also think about it as we have -- we think about it, which is the SaaS platform, which we call Atlas, that also happens to have on -- built on top of it the Onshape application, if you will, the native multi-tenant CAD and PDM app. And so that was a pretty exciting acquisition for us and has led to further investments in the platform, Atlas itself, as well as us thinking about the trajectory of some of our other core apps, like Creo and Windchill, and what the long-term future looks like for those. And if you are a believer, like I am a believer, that over the long term, the portion of the software market that we serve is also ultimately going to move to SaaS, then I think you'd be pretty excited about this acquisition because I think it positions us well for the longer term. So with that all said, we will continue to invest, and have been investing organically, in the development of the platform itself as well as the road map for Creo and Windchill. And our intent there is to migrate those over time as opposed to doing -- locking an army of developers in the basement and telling them not to come out until they've got a SaaS version of Creo or Windchill. Instead, we want to continue to provide customers what they want, which is world-class CAD, world-class PLM performance, and incrementally introduce SaaS capabilities with future releases of features and functionality on those 2 vectors. So that's the intent and the strategy there. And then, obviously, a couple of quarters ago, we also made another acquisition, which is another SaaS, in this case, PLM app, with Arena that's actually proved to be a very well-performing asset as well. So ultimately, answering your question, we will continue to proactively, strategically invest organically in our SaaS future. And opportunistically, we will consider M&A as a vehicle to further help get our customers the technology that they're looking for.

Got it. Okay. And just as we think about the timing of potential customer migrations, and obviously, that's dependent on when you kind of get the full kind of product out. I mean maybe comparing Windchill versus Creo, just the timing and -- like what do you think needs to happen to ultimately see that transition to cloud? Because I think something like Creo, it -- kind of more known as like a heavier CAD tool with some kind of resource requirements that may not be appropriate for today's kind of infrastructure environments. But just how should we think about the timing of all that?

Yes. I think that both of these are -- for Creo and Windchill, they're going to be kind of multiyear efforts. I think that we'll start to see, probably within the next couple of years, some of the beginnings of the impact of the investments that we're making. And then I think it's going to be a longer run to continue to migrate more and more of the base. There's a little bit of how much of it's pull and how much it's push migration to SaaS. On the flip side, the demand environment that we're seeing, for example, for Onshape and for Arena -- and yes, albeit they play in a slightly different part of the market than, say, Creo and Windchill, but clearly, the demand for SaaS-based applications like Onshape and Arena is there in the parts of the market that they serve. And we continue to see incremental interest in our core base as well.

Got you. Okay. I wanted to go back to kind of some of the trends that we saw last quarter. I think from a headline perspective, the growth business, which includes kind of the IoT, AR as well as Onshape, appeared to be a relatively weak spot. Organic, I think, growth there was in the mid-20s versus, I mean, your medium-term target of 30%. It seems like the pandemic has accelerated a lot of digital transformation trends, which, I'm sure, provides a big opportunity for you. But can you just kind of help us understand the puts and takes of what you're seeing in that business and kind of when you might expect that trajectory of ARR growth to improve back towards your target rates?

Yes. It's a great question. And on the one hand, I think that I agree with the sentiment that the pandemic has, in certain ways, at least, opened many companies' eyes to the need for digital transformation and perhaps even accelerating some of their own efforts to digitally transform various parts of their organizations. And I think we've seen that play out in a couple of different ways. For example, Windchill, our PLM platform, again, for kind of the part of the enterprise that we serve, your PLM system is often the backbone, if you will, for digital transformation efforts. And we've seen a pretty steady and continued strong performance with Windchill in the market. So I think that we are seeing some of that -- some of those signs, right, that you're alluding to. And then on the flip side, when you get to the growth segments and think about IoT, AR, I think there's a couple of different dynamics at play. Yes, those obviously all also help with digital transformation. They are newer, we'll say, less-mature technologies than, for example, Windchill. And so I think that has a part to play. And maybe that shows up in terms of kind of new product or new customer wins and new implementations that have historically, for us, required maybe being more on-site and working with the customer to make sure that they're getting deployed appropriately with customers getting value as quickly as possible. Obviously, being on-site has been a challenge for us and everybody here over the past few months or few quarters. On the other hand, where we have had IoT implementations deployed, we've continued to see pretty good performance in expansions of those deployments, right? And now it's already been implemented and deployed, and you need less of that kind of being on-site to stand it up and make sure everything is working the way that the customer wants it to. So I guess, long-winded answer to say, yes, we've still been seeing some pressure, obviously, in the growth business, particularly in IoT, a little bit in AR. But we still believe in the longer-term market opportunity. We're still continuing to invest in solutions, more out-of-the-box solutions. Obviously, when we originally had acquired ThingWorx a few years ago. It was a development platform. It was a rapid application development platform meant to help the customers be able to develop and deploy their own IoT apps. Well, as it turns out, over time, our customers and PTC have learned that customers don't really want to be in the software development business. What they're looking for is a solution to a problem they have. And so we've been continually trying to invest to help solve some of those problems in a more out-of-the-box fashion. We've had some steps with some of the smart, connected factories and smart, connected products. And the next step is really this DPM, digital performance management, that's coming out here now. We have a couple of pilots that are underway, and we think that's a further step in the direction of more out-of-the-box IoT apps, which we think continues to move the needle in the right direction. So longer term, I think we're still very excited about the opportunity, and we're investing to try to make sure our customers are getting the value they want. We think that -- we think the market supports it.

Got you. Okay. Just a couple of follow-ups on that. You kind of talked about this idea of ThingWorx obviously being more of a development platform when you acquired it, and maybe customers don't necessarily want to be building their own software apps. Like if you were to look at either the IoT or ThingWorx revenue mix today, how much of it is kind of out-of-the-box IoT apps that you've built versus kind of apps that customers are building themselves?

Yes. Boy, that's a good question.

Maybe it's hard to know because the...

Yes. It's a good question. I don't know that I actually have the data off the top of my head to be able to answer it right now. But certainly, many of those earlier-stage customers that were using ThingWorx, it was more of the development platform. And the more recent stuff is more out-of-the-box, if that's a term. And I think that that's actually -- you see it reflected in our churn rate, if you will, for IoT, for AR. Part of that, I think, is reflected in the churn rate. And obviously, those 2 segments have considerably higher churn than, for example, the more mature technologies of Creo and Windchill. But we have seen, on both IoT and AR, improvements in churn rate. We expect to see that continue as these technologies mature. And so I think that's a good way to think about it.

Right. Okay. So in terms of the -- some of the challenges, earlier, you mentioned, in IoT, I think some of it may be related to just the on-site work, which is tough now. I mean what do you think kind of gets the trajectory heading in the right direction here? Is it just kind of reopening and back to in-person meetings? Is it just more time kind of these pilot projects that are -- need to kind of move into production, provide more referenceability? Like what do you think the catalyst is to kind of really see that business take off to where you aspire it to be?

Yes. So I do think that it's all of the above. I'm not sure that there's a silver bullet. And while the performance maybe hasn't been quite where we aspire to have it be, I mean, I'd still say that 20-plus percent growth is pretty respectable with the opportunities out there for us to continue to expand that.

Right. Right. And maybe just to kind of recap for investors not as familiar with the IoT portfolio, maybe just help us understand where you're seeing the most compelling use cases from an ROI perspective? Like what are kind of the higher repeatable kind of sales motions that you're finding success with?

Yes. So let's try it this way. I mean, I think we can talk about transforming product development in -- which means getting real-time insights into field assets and connected product management, warranty, product quality analytics, right, getting that kind of information leveraged across the customers' portfolio of products. There's optimizing manufacturing, which really means kind of real-time production performance, factory asset monitoring utilization, digital and augmented work instructions. So that kind of falls under the optimizing manufacturing bucket. There's maximizing the customers' aftermarket business, thinking about, for example, recapturing original equipment parts and service contracts, increasing technician effectiveness, reducing service costs. All those things should ultimately lead to increased customer satisfaction for our customers, right, which is what they're after. And potentially maybe even helping them drive new business models as well, new go-to-market with new ways for them to monetize their own products in the market.

Got you. Okay. Okay. And I think one of the last points that I wanted to touch on, on IoT, but just in terms of the churn rates, which you mentioned in a couple of other questions. But just how should we think about those elevated churn rates improving going forward? I think you talked about seeing kind of continued modest levels of improvement. But I mean, like, I guess, number one, why do you think we are seeing these higher level of churn rates? I mean, on one hand, the business is kind of one of the faster-growing businesses you have. So it does seem like customer interest isn't the problem, just given the growth rates on that market. But -- so yes, I guess the question is, like why do you think their -- the churn rates are so high? And what do you think it's going to take to get those to kind of company average levels?

Yes. So I mean, again, I do think that there is, as we said, a component of this that's just the maturation of the technology, and frankly, the maturation of the market, right? Both of these are newer technologies. So in some cases, you've got customers who want to experiment with them, and maybe they're either not getting the value they expected, or maybe they're not yet ready to make the process changes that are really required. Digital transformation isn't just about plugging in a technology. It's actually about adapting your business processes as well in order to leverage that technology. So maybe they're not ready to do that quite yet. So that could be one piece of it. And as we talked about earlier, I think there is also just a maturation of the technology and getting more out-of-the-boxy on our side. So in general, we have seen improvement in the churn rates on both IoT and AR, and I think that will continue. I think it's going to be a multiyear journey before it gets to the same levels of, again, more -- the more mature CAD and PLM segments.

Okay. Okay. Just hitting on AR and VR for a moment. I think that was something that -- clearly, there was a lot of interest from customers during the pandemic. I think you offered a Vuforia Chalk for free, for instance, during the pandemic. Maybe just an update on what you're seeing in those technologies now that we've kind of gone through a couple of waves of reopening. And then maybe how are you -- maybe give us an update on the progress of monetizing like that free user base that you saw with Vuforia Chalk.

Yes. I mean, again, I think that our AR business has continued to have pretty solid performance. Again, I think that it's largely the same story with IoT. We think that the market can support continued growth for quite some time. And I mean, honestly, I think that's a little bit where we are with AR. The story is a little bit analogous to the IoT story. So...

Okay. Okay. Got you. So I think one of the areas of the business that has surprised folks on the positive side has just been the resiliency of kind of the core CAD and PLM business. It's been growing close to 10% constant currency in terms of ARR growth for a while now. And these are markets that you've been in for decades. So just help us understand what's driving that. You talked a little bit about some of the dynamics around Windchill. But do you find that it's kind of competitive share shifts? Or is it related to kind of pricing? Just help us understand what's driving that growth.

Yes. Well, yes, I mean, I guess, first, let's step back in -- at the highest level. If you go and look at any of the industry analyst reports that analyze the various CAD tools that are out on the market and the various PLM tools that are out on the market, I think that you would find that both Creo and Windchill are ranked pretty highly in the upper right-hand quadrant. So number one, I think that there's just a strong product portfolio there and continued investment on our part to continue to advance those capabilities, both organically as well as inorganically. The -- an example would be this Generative Design capability. And yes, that's definitely a newer technology and will definitely take time to become kind of mainstream in the world of product development. But certainly, it's out on the cutting edge of thinking about how to best leverage your CAD tools to design products. So number one, I would chalk a lot up to just the strength of the product portfolio and the technology to begin with. You're right. We talked about Windchill, so I don't think we need to beat the dead -- beat that horse any further. And on the CAD side, again, I -- we have a very strong customer base and a pretty good distribution arm with all our channel partners. We've got hundreds of channel partners. And so they're out also continuing to grow in the market. So part of it's the strength of the customer base that we have, part of it's the distribution arm. And also, to your point, I think part of it has to do with the monetization model as well, which is the subscription model versus the perpetual model, which, I think, offers a lot of benefits to both customers as well as to the vendor.

Yes. Okay. Okay. And I guess, just competitively, give us a sense for what you're seeing. I mean, I think the traditional competitors, I imagine, haven't changed a whole lot for you guys over the years on the CAD and PLM side. But just anything to call out, whether it's areas that you find you're having more success against. I think the results have been pretty strong and would kind of imply you are gaining some share.

Yes. I mean, I think you're right. I think the competitors have largely remained the same, particularly in the core CAD and PLM markets. I think that where we do see solid performance, and clearly, something like Onshape, that's really primarily all market share shift momentum in the part of the market they serve. With Arena, for example, I think there is some market share shift. But also in the part of the market they serve, I think there's a fair number of companies that don't actually have PLM systems to implement it. So you're really winning it from the customer themselves, right, against their spreadsheet exercises and helping them improve that way. And then in core CAD and Windchill, as you know, the competitive dynamics there have been tough for a long time. You don't see really massive share swings. Every once in a while, you see some movement, and I would agree that we have been seeing some movement in buckets there as well.

Yes. Yes. Okay. I wanted to -- the last topic, we got about a few minutes left, I wanted to just talk on the partnership side because I know you have a number of really interesting partnerships across kind of multiple different categories. I think the main 3: ANSYS, Microsoft and Rockwell. Could you just give us a sense, I think, maybe first, like how do you -- I think we know about ANSYS and Rockwell. I wonder if we can start actually with Microsoft, how has that relationship evolved? And how would you just kind of frame what Microsoft's ambitions are in the broader IoT space versus yours? And how do you go to market together within IoT?

Yes. Yes. No, it's a great question. So Microsoft, as you know, is a kind of go-to-market partner with PTC. And if I kind of oversimplify here to maybe help with the explanation, Microsoft has real strength with Azure and their capabilities there. And what they really want to see is Azure utilization continue to increase, and they want that Azure leader to spin. And with PTC, with the technology that we bring, that is certainly a way to do that. So we have found that jointly going to market, we have definitely seen some good success with Microsoft on that front.

Okay. Okay. And just competitively, I mean, is there much overlap between kind of their ambitions within the IoT space and the broader kind of ThingWorx' PTC IoT vision?

Yes. Another fair question. And I guess, what I would say, really, as it relates to IoT is, again, I think what they're looking for is as broad a utilization of, we'll call it, Azure. And again, I'm oversimplifying their strategy much better than me, but broader utilization of Azure in the marketplace. And I think they also generally tend to look for very broad-based applications that can beat the massive customer base that we have, right? Relative to that, I think we have a narrower focus in terms of where we play in the market. So I think from that perspective, it's a good partnership. And to be honest, I think having companies like Microsoft out there pushing the broader IoT play is probably more helpful than not.

Yes. Okay. Okay. Last question I wanted to discuss before we end here was just on Rockwell. And I know that's been one of your closest partnerships for a while, but we saw them making an interesting acquisition of Plex over the summer. I think you were asked about it on the last earnings call, and you don't view any change competitively. But maybe just with that in mind, like how do you see kind of the Rockwell relationship evolving over the next few years? I mean, do you see them kind of getting more into the software business? And what does that mean for PTC more broadly?

Yes. Great question. Again, we'll let, really, Rockwell talk about their own strategy. But I would tell you, from my observations, they are clearly interested in continuing to expand their software footprint, as further evidenced by, first, they have their own in-house MES products, expanded those with the partnership with PTC, where they're really a reseller of our IoT and AR technologies. And with the agreement that we extended here a few months back, they also now can get into reselling PLM as well. And then, of course, their acquisition into -- their acquisition of Plex, I think, again, just speaks to their intent to continue to expand their own software footprint. So again, we'll let them comment on their own strategy. That's kind of my observations. And I think the comments that we made on our Q3 earnings call around the Plex acquisition was that we just -- as we're thinking about next year and thinking about how that unfolds, we just wanted to be mindful that perhaps there could be some shift of focus to make sure that this acquisition that they just did is as successful as it can be. I don't think that they've told us anything that would make us think that, but I think we're just trying to be respectful of the situation and understand that it may, for some period of time, cause a little bit of disruption. So again, time will tell. I think they're committed to the relationship. We are. We all see the benefits of the value that we can jointly bring to customers. So I don't think that anybody is wavering on that front. We're just mindful of the situation as well.

Okay. Yes. It's a great overview. So Kristian, I think we're a few minutes over. Thank you so much for the time. This is a great discussion. And thanks to everyone who dialed in and joined us.

Thanks again for hosting us, Tyler. Thanks, everybody.

Take care.