Splunk's (SPLK) CEO Godfrey Sullivan on Q1 2015 Results - Earnings Call Transcript

May.30.14 | About: Splunk Inc. (SPLK)

Splunk, Inc. (NASDAQ:SPLK)

Q1 2015 Earnings Conference Call

May 29, 2014, 04:30 PM ET

Executives

Ken Tinsley - Corporate Treasurer and Director of Investor Relations

Godfrey Sullivan - Chief Executive Officer

Dave Conte - Chief Financial Officer

Analysts

Nicole Hayashi - UBS

Phil Winslow - Credit Suisse

Ed Maguire - CLSA

Brian White - Cantor Fitzgerald

Keith Weiss - Morgan Stanley

Kirk Materne - Evercore

Heather Bellini - Goldman Sachs

Derrick Wood - Susquehanna

Raimo Lenschow - Barclays

Tim Klasell - Northland Securities

Kash Rangan - Merrill Lynch

Operator

Good day, ladies and gentlemen, thank you for standing by, and welcome to the Splunk Incorporated First Quarter 2015 Financial Results Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions] As a reminder, this conference call is being recorded.

I would now like to turn the conference to our host, Mr. Ken Tinsley, Corporate Treasurer and Director of Investor Relations. Sir, you may begin.

Ken Tinsley

Thank you, Eric, appreciate and good afternoon. With me on the call today are Splunk's CEO, Godfrey Sullivan; and CFO, Dave Conte. This conference call is being broadcast live via webcast. And following the call, an audio replay will be available on our website. Hopefully, you've received a copy of our press release. If not, it's available on our website.

On this call, we will be making forward-looking statements, including guidance for our second quarter and fiscal 2015, uses of our software, planned product sales and facilities investments, the increasing enterprise adoption of products and apps, market and used case opportunities and the expected benefits from our pricing strategy. These statements reflect our best judgment based on practice currently known to us, and actual results and events may differ materially. Please refer to documents we file with the SEC, including the Form 8-K filed with today's press release. Those documents contain risks and other factors that may cause our actual results to differ from those contained in our forward-looking statements.

These forward-looking statements are being made as of today, and we disclaim any obligation to update or revise these statements. If this call is reviewed after today, the information presented during this call may not contain current or accurate information.

We will also discuss non-GAAP financial measures, which are not prepared in accordance with Generally Accepted Accounting Principles. A reconciliation of the GAAP and non-GAAP results is included in our press release and available on our website.

Just as a reminder that we will be holding a SplunkLive! event in Boston on June 19th and you can register for that event at splunk.com.

With that, let me turn it over to Godfrey.

Godfrey Sullivan

Thank you, Ken. Hello, everyone. Welcome to the call. We are off to a strong start to the year. Let me begin by welcoming more than 400 new customers to Splunk and we now have more than 7,400 customers in 90 countries.

Revenue for Q1 was up 50% compared to last year; license revenue up 42%. We beat our plan for revenues, operating margin and operating cash flow. A special shout-out for our public sector team who more than doubled their business from last year. Today, I'd like to highlight two themes from our strategic plan: first, a revolution from a single product to a multi-product company; and second, our organization around market segments, which we've done in security and will continue that investment model.

This quarter, let's start the product review with Hunk. We closed a number of Hunk transactions in Q1, including a global Internet company whose grid services team runs one of the largest deployments of Hadoop. This enterprise-wide license is a strong validation of the strength of our product. I had the pleasure of spending several hours with our respective technical leaders and the two teams sounded like one team, excited about Hunk and planning for the future. Other customer wins for Hunk include Vantrix, whose solutions improve delivery of rich media content, and they're using Hunk to analyze data generated by their global media networks. Vantrix is a new customer for Splunk and of course Hunk then was their first purchase of Splunk products.

State and public health agency purchased Hunk to analyze pharmacy and health records. They're trying to identify unusual prescription patterns from pharmacies selling drugs that are prone to abuse. So the combination of Hunk plus Hadoop will help them reduce drug abuse and fraudulent claims. We're winning with Hunk for three reasons: our powerful search and analytics language, our rapid deployment model and our ability to analyze the data without moving it.

Let's move on to Splunk Cloud, where customers get all the capabilities of Splunk Enterprise delivered to the cloud service. IDEXX Laboratories, a global leader in veterinary diagnostics and a new customer to Splunk, this was a competitive win; they preferred the functionality and scalability of Splunk Cloud. MindTouch, a customer experience software provider, also selected Splunk Cloud. This was another competitive win. MindTouch wrote a blog on the key drivers for selection, highlighting software quality, extensive feature set, ease of setup and support provided by Splunk. You can find it on their website.

We're bullish about our cloud business and see tremendous synergies between our trusted brand, our global success [on prem] [ph] and a robust and mature product.

Let's go to our flagship product Splunk Enterprise. And we recently announced 6.1. New capabilities include multi-site clustering and the ability to embed Splunk reports into your other business applications. New release also includes enhancements to easily build dashboards, perform drill-downs and new things like chart overlays. Splunk Enterprise won the Best Cloud Management Product Award at Cloud Pro's UK Cloud Awards. So not only do we have the best cloud product, we have the best cloud monitoring product.

A few examples of cloud companies investing in Splunk: Constant Contact, an online marketing company, has been expanding their use of Splunk every year since 2011 across IT ops, app dev and ops monitoring and most recently security and customer e-mail log analysis. Overstock.com expanded their use of Splunk across three major used cases in Q1. Overstock began using Splunk for app monitoring. They purchased additional capacity to strengthen their security posture and to provide their developers visibility into the app dev projects.

SurveyMonkey began with operations and is now using Splunk for business analytics to determine where visitors come from such as survey pages, search engines or affiliate links. Splunk provides SurveyMonkey with visibility into conversion across multiple channels to optimize marketing efforts and deliver the best possible customer experience. This is pretty good. We not only have the best cloud SaaS product, but our deployment flexibility makes Splunk the best choice for cloud companies regardless of their architecture or their data center strategy.

Those of you who attended our most recent SplunkLive! in D.C. or New York heard firsthand why our customers invest in us, ease of use, rapid deployment, scale, apps, all leading to immediate time to value.

Speaking of apps, in Q1, we shipped the latest version of our app for VMware. It provides in depth operational visibility into virtual environments. Customers choosing the app for VMware this quarter include New York State Unified Courts, the Seattle Cancer Care Alliance and Net Entertainment in Sweden. Unlike competing products that focus only on the virtualization layer, customers select Splunk because it correlates data across the OS, hypervisor, networking and storage tiers. This enables fast detection for root cause, proactive prevention of outages and data retention for compliance reporting.

We also shipped our app for Microsoft Exchange. This app provides real-time visibility into the messaging layer and supporting IT infrastructure. Unlike competing solutions that only gather the exchange data, Splunk provides in-depth visibility across exchange, active directory, Windows and other layers of the stack.

Now on to our markets. We are moving from a purely functional org structure to one that includes market segment teams. This is a core part of our growth strategy. As our markets mature, we will evolve how we organize to better support them. You may have met Haiyan Song at the RSA conference or one of our recent SplunkLive! events. She is responsible for all aspects of our security business, including product direction, go-to-market activities and our security ecosystem. Haiyan is a great example that a strong leadership helps us create more reach and depth for our markets.

Security was our largest segment in Q1, as organizations turned to Splunk to either complement or replace traditional SIMs. In addition to our successful Splunk Enterprise as the analytical engine for security, we see growing demand for our apps, Enterprise Security and PCI. In Q1, more than 100 of our orders included at least one of these premium apps, including wins at Creative Artists Agency, US Department of Energy, Sky Italia and Telecom New Zealand. A leading utility standardized on Splunk Enterprise plus apps for their security operations. This is a multi-year, multi-terabyte expansion that makes Splunk the core technology platform in their sack.

A Fortune 50 company and long time Splunk customer for IT ops, app monitoring and dev ops placed a large order in Q1 for their security team. They experienced firsthand the limitations of traditional SIMs to address sophisticated security threats. They're using Splunk to get visibility on all the data, not just the data that's inside of schema of a typical SIM. We are proud to report that Splunk Enterprise won Best Enterprise Security Solution in SC Magazine's 2014 Awards. So best cloud management solution, best security solution. The security market recognizes the unique abilities of Splunk as an analytical engine capable of addressing advanced threats, fraud and other high-value security use cases.

Customers recognize that it's too late to rely on perimeter defenses alone. They know they've been hacked and it takes sophisticated data analytics to find the criminals who are already inside the walls. And Splunk is becoming synonymous with security analytics. While the security market is hot, we also see velocity in our other markets like app dev and app monitoring. Splunk complements existing developer tools such as bytecode APM software by providing real-time visibility into how an application is working in dev and production environments. Developers can get visibility they need to fix and optimize their code for complex deployments without needing direct access to production systems.

Healthcare company Cerner and retailer Nordstrom are both using Splunk to give their developers better visibility into their app dev lifecycle. With Splunk, developers are able to improve code quality and reduce time to deploy new projects. At Red Hat, developers had real-time dashboards to trail error rates in production and the impact of pushing new code builds. At a recent SplunkLive!, their dev team reported reducing application error rates by two orders of magnitude in just a couple of weeks. They reported fixing one line of job descript code responsible for 3,000 errors in their environment. Another great customer, another great SplunkLive! presentation.

Internet of Things. Last quarter, we talked about our Internet of Things work with Volkswagen's big data labs. And VW demonstrated at CeBIT their use of Splunk to analyze data from their electric cars. Interesting that our success in their IOT project led this quarter to a six-figure win in their IT operations group. Usually we go from IT to the lines of business. And this time, we drove in reverse from the big data team back to success in IT operations.

Moving on to the exec team, in addition to new leadership in the security group, we also have announced the change in field organization. I'd like to take a moment to thank Tom Schodorf for building a world class field team. Tom has decided to retire at the end of FY '15 and we applaud his many contributions. In succession, I'm pleased to welcome Doug Merritt to the exec team whose strong product, marketing and field background will help us into our next phase of growth. Tom and Doug will be working side by side through year-end to ensure a smooth transition. It's a fun time for Doug to be joining us. On his first day of work, he attended the SplunkLive! D.C. where we had more than 1,000 customers. He went straight from there to president club where he received a really warm welcome and a bunch of umbrella drinks.

In closing, I'm excited about our future. Many of you asked me how I feel about our team, in Q1, just to reinforce, how far we can go and that I still don't know how big, big is. I want to remind everyone that we have our annual user conference coming up October 6 to October 9, lots of new initiatives that we'll announce there. And as always, spectacular customer and partner presentations. If you ever want a shot of customer adrenaline, just come to conf.

Thanks much and over to Dave.

Dave Conte

Thanks, Godfrey, and good afternoon, everyone. Thanks for joining us. Q1 was a strong start to fiscal '15 and I'm pleased with our overall execution. First quarter revenues were $85.9 million, a 50% increase over Q1 of last year. License revenue grew 42% over Q1 of last year, totaling $51.3 million.

We continue to see more evidence of adoption and expansion of Splunk throughout our customer base. Once again, more than 70% of our license bookings came from existing customers in the form of upgrades and expansions. We find that upsells trend to about two-thirds from horizontal expansions within the Enterprise and a one-third from upgrade of capacity in an existing use case. We also added more than 400 new customers and recorded 167 orders greater than $100,000.

The pricing change we announced at the beginning of Q1 is having the desired effect. Consistent with our adoption strategy, the increased capacity of these price points makes it more affordable for customers to make their initial purchase or expand their existing Splunk deployments. Specifically, in SKUs where we reduced prices, Q1 transaction volume grew significantly faster than the year-ago quarter. After measuring the effect of lower prices and higher volume, overall ASPs were consistent with our expectation and previous levels. Recall that our overall ASPs have ranged between $30,000 and $40,000.

In Q1, 25% of our license bookings came from ratable transactions within our expected full year range of 20% to 30%. Since this mix was 33% and 43% in Q3 and Q4 of last year many of you asked if 20% or 30% is the appropriate range. Large orders including EAAs can substantially skew the level of mix as you know. And since the majority of large orders are booked in the second half of the year, we'll need to see how Q2 shakes out before we can evaluate and report on the seasonality of the mix and the annual trend.

On the field side, we continue to build our capacity globally. During our last call, I said that we expected to accelerate our quota carrier hiring in absolute numbers over last year. We ended Q1 with 243 quota carriers in total, of which approximately 60% were tenured 12 months and more as of April 30.

From a geographic perspective, we made good progress in Q1 with the international operations representing approximately 25% of total revenue. We had a record quarter in our public sector business, which posted greater than 100% year-over-year bookings growth. For the first time, transactions involving our channel partners accounted for over half our total bookings in the quarter, a reflection of our growing partner ecosystem generally and strength in our Q1 public sector business specifically. Our maintenance renewal rate was 94% for the quarter, consistent with prior levels and reflecting the value our customers realize from our products, as well as field coverage and capacity expansion in terms of customer reach.

Education and professional services represented 8% of revenue in Q1, in the range of prior and expected levels of between 5% and 10%. Recall since we generally recognize revenue on services when they're delivered and built, services bookings, which had been growing in terms of absolute dollars, typically do not go through the balance sheet as deferred revenue.

Turning to margins. The detail I give for operating metrics are non-GAAP and exclude non-cash stock-based compensation, payroll taxes related to employee stock plans, and amortization of acquired intangible assets. Q1 overall non-GAAP gross margin was 89% in line with prior quarters. Non-GAAP operating loss was $3.6 million, representing a negative margin of approximately 4%, better than our expectations due to higher-than-forecasted revenues and still reflective of our continued investment philosophy around our products and field.

Non-GAAP net loss for the quarter was $4.2 million and EPS was negative $0.04 per share based on a weighted average share count of 117 million. Cash flow from operations was $18.9 million and free cash flow was $14.7 million.

Looking forward, we expect Q2 total revenues of between $92 million and $94 million with license revenues contributing 60% to 62% of the total. As I said on the last call, license revenues should increase gradually in the second half, reaching about two-thirds of total revenues in Q4. We expect Q2 non-GAAP operating margin of between negative 2% and negative 4% as we continue to build on our market segment specialization, our product portfolio and expand our field coverage.

For the full year, we're increasing our revenue outlook. We now expect total revenues to range between $402 million and $410 million. And we still expect non-GAAP operating margin to be about breakeven. We'll continue to run the business cash flow positive and we reiterate our full year operating cash flow margin at 20% of revenues with similar seasonal trends across the quarters as we've seen in prior years. We're planning on CapEx of around $20 million this year due mostly to facility build-outs. In addition to our San Francisco headquarters expansion, we're also planning projects in London, Seattle, D.C., Plano and Shanghai, as we scale our business globally.

Overall, I'm very pleased with our Q1. Our product investments are driving customer success and our field expansion is enhancing our execution capabilities. Thanks much for your time and interest. And with that, we'll open it up for questions.

Question-and-Answer Session

Operator

(Operator Instructions) And our first question comes from Brent Thill of UBS.

Nicole Hayashi - UBS

This is Nicole Hayashi in for Brent. We had a lot of investor questions about competitors this quarter. Did you see any changes in the competitive landscape?

Godfrey Sullivan

No significant changes. The competitors still sort of remain the same in terms of our segments. So there is kind of the basic group that's in the security or app group or business analytics. No matter where you go, there is sort of the same guys in the solutions areas and more or less the same in the indexing area. So not much change.

Nicole Hayashi - UBS

As you’ve transformed to a multi-product company how do you think of the sales force and the channel for new products and apps like Hunk and Splunk Cloud?

Godfrey Sullivan

It’s funny I ask myself that all the time, and the big difference for Splunk is because I’ve come from companies where sometimes not all the products are working great and the sales force can hardly wait for a new product to come along, so they can go do something in addition to what the core is. We had the opposite problem, which is everybody loved Splunk Enterprise and loved to sell it and highly competent in it so you have to actually move or pull harder to get them to go do a new thing. So I'm happy with the progress we're making. In fact, we just issued today or yesterday a patent from Hunk for hybrid indexing across multiple environments for in-structure data. It's very cool, shows how far that product has come and how big the potential is. But it still is hard work in a company like Splunk where you have such a popular product to get a new one in the market. So I'm happy with the results. The challenge is the opposite of what I am [inaudible] experienced in my life.

Dave Conte

The other specific investment that we started to articulate last quarter is specific expertise surrounding the markets and Godfrey touched on that in his prepared remarks, again with Haiyan joining to lead our security practice. So as we look at our go-to-market strategy, it's not just the product portfolio, but it's having the right expertise in our core markets.

Operator

Our next question comes from Phil Winslow of Credit Suisse.

Phil Winslow - Credit Suisse

Just want to touch on deal sizes. Seem like you have another good quarter, particularly for Q1 in terms of just deal size metrics. I wonder if you could give us just more color there on just where you've been seeing customers sort of new and existing deal sizes, but also as you try to upsell your Hunk and some of the other add-on modules, just how that's impacting deal sizes?

Godfrey Sullivan

Phil, Q1 is Q1. A lot of the large transactions come across the trends at the end of Q4 and Q1 is always what I consider to be a pipeline building period of time. And if there is anything different about Q1 in this quarter that compared to – if it's different than the mix compared to other quarters, is that it's kind of a bread-and-butter quarter. Our ASPs were about the same, but we had a lot more five-figure transactions sort of what I think of as entry-level and small expansion licenses than you do the big sevens or any of that sort of thing. So it was really a great bread-and-butter quarter just in terms of very rich mix of transactions across the price points. And as Dave said, we had a really increased number of transactions based off of the price change on the low end where we had still similar revenue growth from prior years in that basket of stuff, but a lot more transaction. So I really like the mix of revenue [before Q1] [ph], I thought it was very healthy.

Dave Conte

The other attribute that you know well that a lot of folks may not, when we look at the large transactions, I think the assumption is those are all expansions or upsells. But consistently, a good percentage of our larger orders come from new customers, first time purchasing at the greater than six-figure level. And that's been pretty consistent, I'd say, over the last eight to 12 quarters.

Phil Winslow - Credit Suisse

And just really wanted to touch quickly on the go-to-market side. There're two things that stood out to me this quarter. First, if you look at the sequential growth in quota carrying reps, I think it’s the higher sequential growth you've had in Q1 and a couple years and you also talk about the channel sort of first time contributing north of 50%. Just give us an update on how you imagine the go-to-market evolving here over the course of this year and maybe the next couple of years? And also, longer term, what role do systems integrators play in your go-to-market?

Godfrey Sullivan

Phil, there's just a couple of points on there that I'd like to highlight. One is it's still such early days in especially our international expansion that there's still a lot of investment we have to do to get critical mass in huge markets like Japan or Germany or UK. We have a long ways to go still. And so still adding to our capacity is an important thing. Probably the biggest impact on channel mix was due to the strength of the federal team who just had a killer Q1, robust activity there sort of beyond security. We've always been a big security player and we actually saw a lot of orders in the IT operations area, where we're helping do things like fix websites. So there is a lot of expansion in our market reach in federal. So that was good.

SIs, I would call that sort of embryonic. Actually one of our largest orders of the quarter was a direct hand-to-hand penetration of a large account for security use case, and it was a really good example of where we and a large-scale SI can work closely together. But that's pretty early. I'd say we have a few examples of that, but it's not systematic yet. I'll give you more color on that when it gets to be a little bit more repeatable.

Operator

Our next question comes from Ed Maguire of CLSA.

Ed Maguire - CLSA

Godfrey, I was wondering if you could give us a bit of color on how conversations have changed in your market groups. Bringing Haiyan Song onboard seems to have added some focus. How do you see that changing the conversation in the other areas of the business including IT operations as you move to concentrate what has been a lot of, I would say, bespoke problem-solving to more solutions? How do you see that rippling down into your conversations and identifying opportunities as it were?

Godfrey Sullivan

The way I look at is if I can delegate [persons] [ph], I know that I have reached nirvana. When you have a functional order structures and you're trying to spend a certain amount of every day or a certain amount of staff time or certain amount of meeting time handling multiple market segments and how well your solutions are stacking up against the competition and all that, it's a fractured way to go about it. It works in the early days when we were just sort of core indexing. Now we're applying that index power to a lot of solutions areas and you really need to have more market expertise. So Haiyan spent a good part of her career building security products in that marketplace. And I basically just delegated the security market to her and said, you go, girl, you're in charge of setting strategy, decide what to build, decide what apps we need, the ecosystem, the whole thing. It's just wonderful, because I know that she has the capacity, capability and the energy to go make us a best-in-class security provider. So the faster I can do that for other parts of the business the better. And I don't have an announcement today, but I'll tell you that in 90 days, I've gone from sort of working that segment on a part-time basis to just delegating it to Haiyan and I've got 100% trust that she will figure out how to help us get even better than where we are today. So I'm thrilled.

Dave Conte

The other element internally that's been exciting for me working with Haiyan is the level of precision that she is bringing as we talk about where we invest and how we go to market around security and having her level of subject matter expertise saying, okay, what are the moves we're going to make to go exploit that opportunity. It's a lot of fun. So thrilled that she is here.

Ed Maguire - CLSA

Just a quick follow. There's always a little sensitivity when you see change at the sales leadership. And I know you guys are working on a transition there. But are there any anticipated changes other than the folks up at the top involved with his leadership transition that you can see?

Godfrey Sullivan

First of all, complements to Tom for four years plus of great leadership. I still remember when he joined, we had just crossed cash flow breakeven and we had been in a hiring freeze for full year. And 2008/2009 was kind of a tough period of time for not just the economy, but for us. And we finally get that cash flow positive and we could start investing. And I asked Tom to come onboard to a company that was running flat line on headcount for a year and said, trust me on this, it's time for you to go [ph] lead a world-class field leadership team. And he's done just that. And I have to say, we had a killer field team, which is a big reason why you see the results we've posted over the years. And I'm delighted that now he gets a chance to go retire and kick his feet up and enjoy whatever comes next in life. And the part of that sort of change, which happens all the time at exec team levels, is that you need a succession plan.

And I think we've done it pretty well, which was Tom sort of was telling me, it's a soft conversation, I like to think about making a change and not in a big hurry, but let's think about it and start to plan it. And that enabled me to go start a quiet search, look through the list of talent that's available. I've known Doug sort of on a collegial basis for a long time and it enabled me to start to bring in a succession candidate who could take us to the next level. And I think Doug's combination of product knowledge and market knowledge, he used run the product marketing, he's run cloud things, he's done more than I have in some ways and to be able to bring a guy like that onboard is the next-generation in the field is a great step forward for us. And so to me that's what good succession planning is all about. I hope that answers your question but that's kind of how it went.

Operator

Our next question comes from Brian White of Cantor Fitzgerald.

Brian White - Cantor Fitzgerald

Wondering if you could talk a little bit about opportunities you see for Splunk in the smart home. So we're kind of at an inflection point where some big companies start making some announcements around the smart homes and software platforms. So I'm just curious, as you look out, is that something that Splunk could play into?

Godfrey Sullivan

Let's call it consumer and enterprise. Let's put those two segments up first. And if you look at Nest and Google and all that, that's sort of the consumer end of things, where the purchase and all that is built around a low-cost consumer-oriented decision. The place where we probably offer the most value is more the commercial investor-oriented that like our partner McKenney's who did the Eglin Air Force Base in Florida where they built 20,000 sensors off of 100 different buildings correlated to all those different device types and now they're saving millions of dollars a year on building efficiencies.

We are still on the server side of that conversation more than we are on the device side. So I think we can play a big role in the smart planet to borrow IBM's phrase. I love that phrase. I think we can play a better role on the industrial commercial side of that where we're aggregating lots of different device types. That's where our highest and best value is. And so we have a few partners we're working with in that area. I'm excited about what we can do for. Some of the earlier examples we've given like VW indexing all their electric car data or New York air brake indexing all the data off of trains, McKenney's with buildings. It's a separate market segment that depends heavily on partners that have that domain expertise. I simply can't build domain expertise in all the places where we have opportunities to play. But where we can help the most is on the big data analytics side.

Brian White - Cantor Fitzgerald

And on the internet company related to Hunk, I'm a little confused, they were what a Hadoop innovator. I mean Hadoop began in 2005. So what have they been fiddling with as it relates to Hadoop all these years if all of a sudden they're using Hunk today?

Godfrey Sullivan

They've been using Hadoop for years. They have tens of thousands of modes of Hadoop deployed. They're certainly what you would call an early adopter of that technology. And so they have a strong building environment. So what they really wanted is how to use as the analytic layer. So they using it as the search engine, the graphics, the analytics, all time-based reporting. And so they have evaluated it closely for ever since we started shipping it. And we've signed up an enterprise-wide agreement with them. So they will be rolling it out to all the developers, their IT people, on and on. It will be up a big rollout. So it's a great validation point of how well Hunk can play in a relatively mature Hadoop environment. You can bet that they've already tried all the other tools.

Operator

Our next question comes from Keith Weiss of Morgan Stanley

Keith Weiss - Morgan Stanley

Two questions, first one having to do with the sales management transition. It sounds like you had a very well laid out succession plan. But with any management transition, there's always the risk of disruption within the ranks or even just putting in a new program or advanced programs. How should we be thinking about the potential for disruption or how are you thinking about the degree of change that may come with the new leadership within your sales teams?

Godfrey Sullivan

Well, my experience is that the disruption comes when we're not doing well and you make a change. It's usually is because a lot of change is needed. In our case, it was a pretty well planned out succession plan and into an organization where things are working pretty well. If I'm Doug, I'm delighted to be here, and I'm out meeting all my new team and I'm trying to line the business and I'm operating with two ears and one mouth, and I'm learning a lot from the guy who's been running it for the last four years. So I think we have a transition that will be run as well as it can. I guess there could always be some disruption. But to me, disruption is usually the function of things not working. And I think we're in a little bit different place.

Keith Weiss - Morgan Stanley

Then in terms of the Hunk deals, when you look the initial Hunk deal that you guys have been doing thus far, do you get a sense of whether the deals or whether those use cases would have been done on the Splunk Enterprise platform and just Hunk is a better solution for these guys, so basically using Hunk instead of Splunk, or do these tend to be net new incremental opportunities for you guys, stuff that just wouldn't have use cases or that wouldn't have fit into Splunk Enterprise at all?

Godfrey Sullivan

It's mostly the latter. So most customers do have setup large scale Hadoop environments, have done so because they have massive amounts of data that they want to store. And a lot of our customers just say (inaudible) storage. That's very different than what we typically do at Splunk Enterprise, which is kind of like a real-time or near-time time-based indexing to see trends that're happening right now in IT operations or security use cases or the like. So Hadoop is more like a database or storing massive amounts of data that you want to come back later and analyze it. And that's not typically what people do with the Splunk Enterprise. So what Hunk enables them, it gives them the same search language, the same analytical capabilities, the same ability to get value-added data quickly that we do in the Splunk Enterprise world. And so if anything, our customers show us how they were doing it before Hunk, and it's typically they were writing (inaudible) jobs and using other types of programming languages to go get that data. And then they wait and then they see what comes back and they make an adjustment.

With Hunk, they can just use the search language. We have preview capability and all that, so you can watch the previews results come back almost immediately. And then you can let it run, you can kill it, make a change to the search string. Hadoop customers love Hunk, because it gives them a very interactive search experience on top of this big basket data set. I view these as two separate use cases. With that said, a few of our Hunk customers in the quarter were brand new to us. So they were off using Hadoop or something and no Splunk Enterprise. And a few others were Splunk Enterprise customers and they really understood that product and wanted to be able to apply what they'd learned there to Hadoop cluster. So both of those were actually good scenarios for us.

Operator

Our next question comes from Kirk Materne from Evercore.

Kirk Materne - Evercore

I don't if this is for Godfrey or Dave, but maybe just in terms of breaking up the field force into having more specialization around areas like security, I guess now that you're going down that path and I realize it's early, have you seen perhaps a faster uptake from those reps that are going into an area that perhaps already comfortable in terms of selling in and yet they might be coming out of another security company. And I guess does that you give you increasing confidence in the amount of time perhaps necessary to get them sort of fully ramped up and serve tenured?

Godfrey Sullivan

Thanks for that question, because I think it's an important distinction to recap. And that is creating the security market group means that Haiyan runs all the functions that are necessary to take it from product strategy to execution. Our field organization is not yet segmented. This is still early days, and we're just trying to get geographic coverage. So our account reps at the rep level are not segmented around security or another practice. What we do is we put overlays into the field organizations like security experts. You want a few security wizards out in all the field teams. And so we're starting to drop those into different geographies, and we tend to hire across a basket of SEs. When we have an SE team in a given territory, we try to make sure we hire a few of them that come from a security world, so that we have built-in security expertise when we get into POCs. But right now, our field force is still geographic or account name based, not segmented around solutions. That time could come in the future, but that's not the way it's currently set up now.

Kirk Materne - Evercore

And maybe just another one really sort of around the field force. The channel partner lift you guys got this quarter, I realize a lot of that had to do with the federal market, which is obviously very much channel led. But I guess are there any specific use cases that you see channel partners sort of gravitating on to, to build domains of expertise around whether security or IT ops management? I was just kind of curious if there's anything you see bubbling up in that area?

Godfrey Sullivan

You actually hit an important point on the partner segmentation, which is if you go out to the partner community and find out what they do, it is not unusual to see partners be security focused or IT ops focused or analytical focused. It's actually rare to find the ones that cover all those use cases. So part of the benefit of us having a segmented approach to our markets like security means that we can more closely align with going on all the way from the factory out to a set of partners who are also probably specializing in the area. And I know when I came to Splunk in 2008, I was actually surprised to look across our partner landscape. I was surprised at how segmented they were. And part of that was because all the security companies, a lot of them were hardware appliance companies and whether it was F5 or some of those guys, they had created channels that were specific to security use cases. So oddly enough the channel is already specialized maybe even before we were.

Operator

Our next question comes from Heather Bellini of Goldman Sachs.

Heather Bellini - Goldman Sachs

Just had a couple of questions. One, I was wondering if you could give us a sense of how you feel like your EAA progression has been going versus your expectations. And there's a lot of questions that we feel during the quarter about as you guys progress there, what happens to pricing, what type of pricing trends are you seeing? And then the follow-up would be on the multi-product front, which you guys talk about a little bit earlier. Can you give us a sense of the percentage of deals, I know it's early, that included more than one product in the quarter and kind of how you would expect us to think about that ramp?

Godfrey Sullivan

So EAAs, yes, we had a few more in Q1. Typically, that tends to be a back half of the year. I don't know why. Salespeople are so much better at selling large transactions in the back half of the year than the front half of the year. It's a continual mystery. But anyway, they're really good at it. And so I expect to see more of that during the year. But we did see a few of those in Q1 and we expect to continue that progress apace. So I'm bullish on where we can go with the Enterprise adoption programs, and we just continue to move forward with all the energy we can muster.

Dave Conte

As we've been talking about EAAs for quite a while, we obviously factor into our ASPs all of our transactions. And again, they've been usually consistent over the last three years. Or each quarter, will fall between the $30,000 and $40,000 range, which is, as you know, annually we report the number of seven-figure transactions, which has been growing significantly year-over-year. Obviously the only way you can keep consistent ASPs for that kind of incremental larger order quality is by overall transaction volume, which is what we've been experiencing.

In terms of mix of orders where how many have multiple orders, we still need to get with more experience, we've been in the market with each products since last fall. And we just need more experience to be able to say, hey, here is what we expected an attach rate and here is where we see multiple products being sold at the same time. I think what probably happens more often that not today is you'll see an existing customer who has had great success with Splunk, have particular use case where they can get a lot of value out of particular product that we offer for sale. And that was absolutely the case with internet entity that Godfrey spoke about in his prepared remarks, an existing Splunk Enterprise customer who expanded their use of our product portfolio with Hunk into their Hadoop environment.

Operator

Our next question comes from Derrick Wood of Susquehanna.

Derrick Wood - Susquehanna

You guys clearly had a very strong quarter in insecurity. Do you think this is due to timing of large deals? Are you seeing a noticeable shift in your pipeline and expect kind of a continued higher level of mix and security-related deals going forward?

Godfrey Sullivan

Well, we had a strong pipeline of security transactions last quarter and I would expect that to be true for a while. The security market is hot and it is also a recognition by the market that Splunk, it is the thing for big data analytics and security marketplace. It's just customers now recognize that perimeter defenses are simply not good enough. They're getting surprised very unhappy way on a regular basis. And the only way to really protect yourself is if you're doing analytics on all your machine data on a regular basis, because if the outlier is the unusual trend, it's large files been shipped around, there's all kinds of things you can start to monitor that will tell you that you have a problem already inside the walls and it's just not enough. And the thing you need to do that analytical work is Splunk.

So I think part of it is we were predicting this three or four years goes at RSA when all the banners on the booth said SIM. If you went to RSA in February, there wasn't a single banner on a single booth that said SIM. They were all talking about security analytics or big data analytics. This is our story and it's finally coming through us. So I think Splunk is in for a very good period ahead as it relates to sort of disrupting and redefining the security market.

Derrick Wood - Susquehanna

And maybe a different question, a little higher-level question. As customers look at considering cloud versus on-premise deployments, can you just share with us why so many customers prefer to choose on-premise?

Godfrey Sullivan

It's really more about how is the IT structure setup and how does the specific app or use case fit into what they're doing. So it all over the map. What we sometimes find that companies are saying here is the new project and I want to run it into cloud and out of case in my data center or I don't want to manage this thing on an infrastructure basis. I want to put this app on the cloud. And they'll often want to put Splunk alongside that app in the cloud. It's like on-prem, but it's in the cloud as opposed to data center that happens to reside somewhere else. Sometimes, they want not to run at all and they want to just [ph] pipe view data. And that's where Splunk Cloud will come in handy. So we're seeing a gamut of responses from customers. And of course, one of the unique value propositions we have is we have a very robust and mature product that we can offer either on-prem in a hosted cloud environment that they are managing or in a SaaS offering that we manage. So it's very unusual to have a technology that can be used across those where we can actually search across all those environments as well.

It's early days for us on the SaaS side, but I'm very confident in the quality of the product and our ability to host it successfully and drive customer success. And that's just across the segment of the customer, you can have it any way you want, how you want and then we'll respond back.

Operator

Our next question comes from Raimo Lenschow from Barclays.

Raimo Lenschow - Barclays

A lot of my stuff has been asked already, but one quick one. Can you talk a little bit about the thinking and the implication you're seeing from doubling the volume for the entry-level customers in terms of how is the perception there and what does it mean for your expense strategy going forward?

Godfrey Sullivan

Well, I have a quick reaction, which is our customers are delighted. I had a QVR with our field team not long ago. And even the guys out in APAC were saying, gee, the noise around pricing went away when we doubled the volume for all the entry-level customers and everybody is happy, just happy to get more capacity at every price point. So it's been a really good news signal for the user base. And by the way, if it were a (inaudible) volume gain and your units were flat and your revenue was down, you would got me unhappy version of that action. In fact, our revenues in that basket in that range of where we did the pricing actions, our revenues were up and unit volumes were way up. So it says to us that customers like the product. They want to be able to put more data into it. And the pricing change enables them to put more data into it and get more value out. So I'm watching that trend closely. And right now, I'm very pleased with the progress and what we see going on. So stay tuned for more.

Dave Conte

I think it's directly analogous and comparable to what we see at the top end of our customer orders and the premise behind a lot of our EAA transactions. How do we enable customers to get to an adoption phase where they're driving even more and more value? And that happens not just at the greater than terabyte or upper six-figure, seven-figure transaction size. But it happens down at the entry level as well. So that feedback that Godfrey has talked about I think is reflective of the entire stack in terms of where customers buy today. The more capacity they get, the more data they put into Splunk, the more value they derive and that's our objective.

Operator

Our next question comes from Tim Klasell from Northland Securities.

Tim Klasell - Northland Securities

With your partner percentage of revenues and bookings going up nicely particularly on a year-over-year basis, when you look at your new direct hires, will there be a shift to maybe more direct will be hitting the larger companies and leaving more for the partners for the midsize and smaller organizations? Or how should we think about that going forward of your inside versus outside sales reps?

Dave Conte

I think our plan is pretty consistent in terms of how we've invested and built out our coverage model. And I think it will be for the foreseeable future, where three years ago our quota carriers were weighted two-thirds inside and one-third outside, and we've turned that around where two-thirds are direct sales folks, one-third are inside. And we are going to continue that model. Again, Godfrey mentioned we have customers in over 90 countries. We probably have employee resources in less than 20. We've got a lot of work to do to get to the coverage model where we can actually get all the customers and satisfy their needs for the products. So I don't see a shift in that for the foreseeable future.

Godfrey Sullivan

Just to pile on to that, one of the nuts and bolts of the operating level, the thing that companies do that makes a big difference in how this mix works is around compensation. You have to compensate your field teams to make sure that there's a channel discount involved that you had made that neutral to their decision-making. And we did that a couple of years ago to say, guys, make your decision about whether to go direct or go through a partner not based on just your personnel economic decision, but what's best for the customer. And because of that compensation change, we've seen a much better partnering model with our field organizational along with the partner community. And so if you're a new guy and it's neutral to your comp plan, you would reach out and look for all the help you can get. So I think that the strategy and all that stuff, the comp plans actually matter on this topic.

Tim Klasell - Northland Securities

And then so security focus seems to be taking off pretty nicely. And then now you've got APM and ops. If you had to pick one of the two to do a similar strategy, which one would be now?

Godfrey Sullivan

We actually do have a search out for the leader position, a peer to Haiyan, for application and operations together. So I won't initially divide those into separate issues, because in general, those two departments. If you look at CIO's charter, sometimes he's running enterprise applications and sometimes he's running infrastructure. And those two people are doing it on a day-to-day basis. So we really feel like having a leader of both of those will actually be better for us than to divide that. So stay tuned for that. But I actually do have a search op for that position.

Operator

Our final question comes from Kash Rangan of Merrill Lynch.

Kash Rangan - Merrill Lynch

I noticed a slight uptick, which is great, at the rate at which you're hiring quota carrying sales reps, I think you added about 20 people or so sequentially this quarter. And I know this is more of a mathematical thing and these things can obscure the reality. But it occurs to me that directionally, the growth rate of your quota carrying reps is accelerating by a little bit. And I'm wondering if you could give me a feel for what the year might end out being. I think last year you targeted about 32% or so, 35%. And I think it's at least from my perspective (inaudible) because you guys obviously have a solid lead in the technology, and I've always thought that you were more distribution constrained. How are you giving thought to how you will end up the year with quota carrying sales reps capacity growth?

Dave Conte

As I mentioned in my prepared remarks, this quarter-end last, we do expect to accelerate the absolute number of quota carriers that we have this year compared to last year. Consistent with either way, we think about setting the expectation for the end of the year. We need to get another quarter behind us in terms of hiring and then map out what we see as our pipeline of candidates and where we will be adding them for the back half. So stay tuned. Next call, our following Q2, I'll give specific numbers about where we expect to land in terms of total quota carriers by the end of the year.

Kash Rangan - Merrill Lynch

Just so I understand, you talked about the rate of growth accelerating, right, not the absolute number, because that will be the first derivative, but you're probably talking about the growth rate itself accelerating, because I think you hit a low point of 35% of the end of Q4. And looks like this quarter, it's going to be 40%. So I just want to make sure that I'm not running with a wrong interpretation.

Dave Conte

Well, let me modify it slightly. It's the latter, not the former. I hate lot of bigger numbers and what that means about percentage calculations and all that. We're accelerating absolute numbers. That's our plan this year. How that shakes out as a growth rate, we will have a specific number of quota carriers forecast by the end of the year at the next call. And we can talk about what the computed growth rate as a percentage is at that point.

Kash Rangan - Merrill Lynch

And shifting gears to Splunk Cloud and also the percentage of business that's going from term licenses, how are you recognizing Splunk Cloud? Is it not material enough or is it okay to talk about the potential shifting of business model towards more subscription revenues. And if you can give us a little bit more clarity on how to think about your income statement impact going forward? Are we going to have a position where more and more of the revenue is going to be recognized ratably in the future, not just term agreements, but more so the implications of the Splunk Cloud offering to your business model?

Dave Conte

Well, the revenue accounting is pretty straightforward for our cloud service. It will be ratably recognized over the service delivery period, just like all other SaaS-based revenue models. Today, of course, the revenue contribution based on that rev rec is de minimis to the overall revenue you see in the quarter. In terms of the mix, this has been a tough range for me to give guidance around. Mid-year, I increased what we expected ratable mix versus professional mix to go from what had been 10% to 20% of the total per quarter to 20% to 30% and then proceeded to over-achieve the top end of 30% for Q3 and Q4, well right down the middle of our expectations for Q1. So as we get more experienced not just with the term or the ratable concurrent software, but also with how customers are consuming the cloud, we will update the expectation in terms of how bookings flow between income statement and balance sheet. Also to note, Kash, Hunk is sold exclusive as subscription on a term basis, even if it's paired with a customer that already has a perpetual on-prem license. That product is term side accounting.

Kash Rangan - Merrill Lynch

So if I said that your bookings are much better than your billings as a result of all what you've said, Dave, am I being completely off-base or am I within the ballpark?

Dave Conte

Well, I would say that you're in the ballpark.

Operator

That concludes our Q&A. I'd like to turn it back to management for closing remarks.

Godfrey Sullivan

Thanks, Eric. I appreciate your help and thanks everybody for joining us today. We're available if you have any questions, feel free to reach out. And hope you have a good evening. Thank you.

Operator

Ladies and gentlemen, that concludes today's conference. Thank you for your attendance. You may now disconnect. Everyone, have a great day.

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Splunk (SPLK): FQ1 EPS of -$0.04 beats by $0.02. Revenue of $85.9M (+50.1% Y/Y) beats by $5.16M. Shares -6.2%.