Atlassian Corporation' (TEAM) CEO Scott Farquhar on Q4 2016 Results - Earnings Call Transcript

| About: Atlassian (TEAM)

Atlassian Corporation PLC (NASDAQ:TEAM)

Q4 2016 Earnings Conference Call

August 04, 2016, 17:00 ET


Ian Lee - IR

Scott Farquhar - Co-founder and CEO

Mike Cannon-Brookes - Co-founder and CEO

Murray Demo - Chief Financial Officer

Jay Simons - President


Bhavan Suri - William Blair

Michael Turits - Raymond James

Heather Bellini - Goldman Sachs

Richard Davis - Canaccord

Sanjit Singh - Morgan Stanley

John DiFucci - Jefferies

Matt Carletti - JMP Securities


Thank you for joining Atlassian Earnings Conference Call for the Fourth Quarter of Fiscal 2016. [Operator Instructions]. I will now turn the call over to Ian Lee, Atlassian's, Head of Investor Relations.

Ian Lee

Good afternoon, and welcome to Atlassian's fourth-quarter fiscal 2016 earnings conference call. On the call today we have Atlassian's cofounders and CEOs Scott Farquhar and Mike Cannon-Brookes; our Chief Financial Officer, Murray Demo; and our President Jay Simons. Scott, Murray, and Jay are in San Francisco, while Mike's calling in from Sydney today. Scott and Mike will begin by recapping some of the highlights from the fourth quarter and full fiscal year 2016.

Murray will then cover Atlassian's financial results for the fourth quarter and full fiscal year 2016, and provide our financial targets for the first-quarter and full-year fiscal 2017. Following our prepared remarks, we will have a brief question-and-answer session. Jay will be joining for Q&A. The press release with our results for the fourth quarter and full fiscal year 2016 was issued earlier today and is posted on our Investor Relations website at There is also an accompanying presentation and data sheet available on our IR website.

Statements made on this call include forward-looking statements. Forward-looking statements involve known and unknown risks, certainties, and other factors that may cause other than actual results, performance, or achievements to be materially different from any future results performance or achievements expressed or implied by the forward-looking statements. You should not rely upon forward-looking statements as predictions of future events. Forward-looking statements represent our management's beliefs and assumptions only as of the date such statements are made. In addition, during today's call we will discuss non-IFRS financial measures.

These non-IFRS financial measures are in addition to and not as a substitute for or superior to measures of financial performance prepared in accordance with IFRS. There are number of limitations related to the use of these non-IFRS financial measures versus the nearest IFRS equivalents, for example, other companies may calculate non-IFRS financial measures differently or may use other measures evaluate the performance, all of which could reduce the usefulness of our non-IFRS financial measures as tools for comparison.

A reconciliation between IFRS and non-IFRS financial measures is available in our earnings release and in our updated investor data sheet on the investor relations section of Atlassian's website. Further mentioned information on these and other factors that could affect the company's financial results is included in the filings we make with the Securities and Exchange Commission from time to time. Including the section titled risk factors in the company's form F-1 previously filed with the SEC in connection with our IPO, and form 6-K report that was filed on May 12, 2016.

I will now turn the call over to Scott.

Scott Farquhar

Good afternoon. Our fourth quarter was another strong quarter, and I'm proud of both our results and the groundwork we make for the future. For the fourth quarter of fiscal 2016, we achieved revenue growth of 39% year-over-year, non-IFRS operating margin of 12.2%, and over $17 million of free cash flow. When we look back to fiscal 2016, we grew to over $450 million of revenue, expanded to more than 60,000 customers, and generated over $95 million of free cash flow.

Fiscal 2016 was also the year in which made the transition to a public company. While the IPO [indiscernible] was an important milestone, and it's very early one on our mission to unleash the potential in every team. We really appreciate the support from our customers, employees, ecosystem partners, and the many investors and analysts we have met over the past few years, and to everyone who is listening in today.

Our products provide the fundamental building blocks of great teamwork. Specifically shared projects, content, and communications. We believe we are the only company to combine these essential capabilities. Focus purely on teams into an integrated collection of products. Our goal is to do for team productivity what Microsoft Office has done for personal productivity. That is a huge goal and remains enormous opportunity. There are close to 900 million knowledge workers globally, and the most important aspect of productivity's how well they all work together. Successful teamwork is hard, and many knowledge workers today are still stuck with tools from the past decades or inefficiently cobbled together email and desktop tools for word processing and spreadsheets. Atlassian provides a better way.

Moving teams to a shared online system of collaborative projects, content, and communications is a significant to their productivity as the shift from fax machines to email. Atlassian helps answer the questions that have plagued teams for generations. What's the status of this project? Where is the latest version of this document? Who changed it and why? Where can I find information about X? Teams are the most innovative companies, from Tesla to Twilio to Warby Parker have moved working from their inboxes to Atlassian. And these teams rely on Atlassian, and we plan to reach all teams.

Our early focus on software teams helped shape our products to support some of the most complex teamwork in any organization and simultaneously provided an important beachhead to expand from. We took an important step forward with our Jira product family in October 2015, with the launch of Jira 7, which introduced three purpose built versions of Jira, to service the specific needs of software teams. With Jira software, IT and service teams and Jira service desk, and general business teams with Jira call. This release was significant as it both increased our expansion opportunities within existing customers, and created new opportunities for IT and business teams. Subsequent to this release we've seen strong growth across the Jira family, and strong expansion within existing customers.

Jira service desk is worth highlighting here. It's the fastest growing product in our history with more than 17,000 organizations using it actively, and now lands new customers through IT. Pretty remarkable for a product in its infancy. To add even more value to software development and IT teams, we recently completed the acquisition of StatusPage, a fast-growing leader in the status and internet communications space. In a world where service companies must run their products 24/7, StatusPage lets these companies easily communicate the status of their services, much like single bars communicate status on a cell phone.

In a cloud centric world where every company is a service company, providing this information to customers is critical. We expect StatusPage to be an immediate complement Jira's service desk. Teams managing IT operations can use StatusPage to save time and money by significantly reducing repetitive emails and phone calls when the service goes down or providing a better customer experience. Another highlight of the quarter was the momentum we continued to demonstrate with our developer ecosystem, where we saw two significant milestones. First, our marketplace, which provides addon for our Core Products, crossed a milestone with over $150 million of cumulative sales. We also hosted our fifth annual developer event, Atlas Camp, in Barcelona where we hosted a record 500 developers from more than 40 countries. All united around extending and building on Atlassian's products.

We also used the event to launch the beta of Bitbucket Pipelines, which combines a continuous delivery service with the cloud version of Bitbucket. Software developers can now build, test, and deploy code all within BitBucket instead of having to switch between various tools to manage these tasks. This is relevant both to our ecosystem developers and to our customers developers, and the beta saw a tremendous interest with more than 18,000 sign-ups within the first month after lunch. BitBucket continues to be the code management platform adopted by professional development teams. In July, Bitbucket Cloud reached a significant milestone, it now supports more than 5 million developers, and 900,000 teams across the world. These achievements underscore the powerful reach that Atlassian has with software teams.

Alongside our strong business results for this quarter and financial year 2016, I'm also very proud of the social impact Atlassian continues to make through the Atlassian foundation, and our leadership to pledge 1% program. In June we launched a new $1 million initiative to help expand access to technical education encoding, and to support underrepresented minorities in technology. we've established partnership with Coursera, Code Academy, Code 2040, and Women's Recode, to help expose technology to communities that have traditionally been less likely to pursue a career in our industry, whilst also introducing many new groups to Atlassian.

I'll now hand the call over to Mike, who will cover additional highlights from the fourth quarter.

Mike Cannon-Brookes

As Scott mentioned we had a strong quarter of revenue growth and positive free cash flow. We also added more than 3500 net new customers during the fourth quarter of fiscal 2016 bringing our total customer base to 60,950 in over 170 countries. During the last year we added more than 12,300 net new customers in total. Similar to prior quarters about three quarters of the new customers we added during the quarter were in the cloud. As a reminder our definition of a customer is an organization that has at least one active and paid license or subscription which they paid more than $10 per month. During the fourth quarter we continue to add thousands of customers across industries and geographies. A few of our 3500 new customers at highlight the breath of our customer base our IMS health. Esurance, Desso, online payments company Stripe, the Puerto Rico Electric Power Authority, Career and Technology company [indiscernible] bank and financial institution Meriwest Credit Union.

We’re also serving a growing number of large enterprise customers. Our data center product family provides the scalability, reliability, security and peace of mind that the largest enterprises demand and is help us grow our presence in large accounts. Today we count over 290 of the fortune 500 as customers as of the end of fiscal 2016. Additionally we had more than 1200 customers spending over $50,000 with us annually at the end of fiscal 2016 up significantly from 865 at the end of fiscal 2015. We've continued to achieve this customer growth with a go to market model that is built around an online highly automated distribution platform. that does not rely on a fleet of quota carrying salespeople. Our low touch model enables us to deliver our products at prices that appeal to a wide audience. This translates into our long-term objective of serving the only customers in the Fortune 500 but across the entire fortune 500,000.

Let me shift gears a little and provide a few customer examples that show the power of Atlassian and how we hope different kinds of teams across enterprises. We continue to see strong adoption within our traditional beachhead of software teams combined with rapid expansion to IT teams and broader business teams. I'll start with cloud communications company Twilio which recently completed its IPO. In the past three years Twilio has grown from about 170 employees in 10 engineering teams to more than 500 employees and more than 50 engineering teams worldwide.

As it is tripled in size, the company needed the right tools to scale the business in a cohesive efficient way. Twilio has leveraged the flexibility of Atlassian's products to automate and streamline the work. Jira and Confluence are used to manage processes and communication across the organization, the Jira family is used extensively by the engineering team to build and manage projects. The engineering team tailors Jira software to it's specific needs whilst also using plug-in from the Atlassian marketplace to shape days off their software development cycle.

Confluence is also used as a single source of truth for Twilio's distributed engineering teams to find information, plans workflows and processes across their international offices. But Atlassian is not just for the engineering team at Twilio, business teams including HR, operations finance and marketing are using Confluence as their information hub and Jira as their ticketing system.

Whether its onboarding a new employee managing a travel request or running a budget review Twilio's team are taking advantage of Atlassian's powerful family of products.

At a large financial software and media company New York we have seen amazing expansion over the past few years. The customer originally adopted Confluence in 2008 spending about $8000 initially, they have added many of our other products and many more uses over the years and today spend more than $0.5 million annually. As our tools are flexible and can be applied to nearly any business process this customer spend a creative user for Jira service desk. It employees 100s of data analyst aggregating and publishing financial and news data through a subscription service they provide to their customers.

Automated web crawlers and bots scan the web for relevant news and events and automatically create Jira service desk tickets assigned to their analyst to verify, fact check and then publish into their systems. This makes Atlassian core to one of their central business processes. Another of our customers one of the world's largest financial institutions started with us in 2005, by purchasing a single Jira license spending $2400 in their first year as a customer.

Since it has adopted most of our products, including Bitbucket HipChat, Bamboo, Jira Core, Jira software and Jira service desk. Usage of Atlassian's product are spread rapidly across their organization, the customer recently deployed the datacenter version of Bitbucket in order to scale from 9000 engineers to an expected 14,000 engineers by the end of this calendar year. Confluence is used by over 50,000 users across the company with one of its largest divisions running an instance that has more than 1 million pages.

With regard to Jira the company has created over 3 million issues since adopting it, with usage of the Jira family extend well beyond the development of our IT teams.

The customers digital teams use Jira software to stage and track news to be published on various marketing channels. Additionally the company's HR team has its own dedicated instance of Jira service desk to manage and track human capital issues and tasks. Overall in fiscal 2016 this customer spent more than $1.5 million annually on our products and services. This is a prime example of how our products land within a team and then spread virally over a decade across an entire organization to many types of teams and across many disparate use cases. These are just a few of the many thousands of customer stories that illustrate how

Atlassian become central to the daily activities of many kinds of teams.

Our low touch distribution model enables us to not only at large volumes of new customers but also drive meaningful expansion within existing customers over time. When we look back at fiscal 2016 we can be proud of the continued evolution of our products the growth of our customer base and another step in the growth of the organization. We have achieved a lot of over the past year but there's so much to do as we move forward in our goal of unleashing the potential of all teams across the Fortune 500,000.

In fiscal 2017 to take the next step towards this goal you can expect us to continue our focus on building great products that become an indispensable part of how teams work together. None of our achievements in 2016 would have been possible without the commitment and efforts of more than 1700 Atlassian's that I'm proud to call colleagues. Scott and I would like to thank them as well as the entire Atlassian ecosystem for the passion and commitment to shaping the future of how teams work. With that the I will turn the call over to Murray.

Murray Demo

Thanks, Mike and good afternoon. I will cover Atlassian's financial performance for the fourth quarter and full-year fiscal 2016 and our financial targets for the first quarter and full year of fiscal 2017. I'll begin with our financials for the fourth quarter of 2016. Total revenue for the fiscal fourth quarter was $127.6 million up 39% year-over-year. As we discussed over the last fiscal year our revenue over the past few years has benefited from some pricing optimizations to Jira and Confluence that we initiated in calendar year 2012. Approximately eight of the 39 percentage points of the revenue growth in the fourth quarter of fiscal 2016 were attributable to these pricing optimizations.

Turning to revenue by line item, I will provide a brief overview of each. First, subscription revenue primarily relates to fees earned from sales of our cloud products. A small portion of this revenue also relates to sales of our data center projects which are several products sold to our largest enterprise customers on a subscription basis. We recognize subscription revenue ratably over the term of the contract. For the quarter subscription revenue was $43.6 million up 68% year-over-year. The growth in subscription revenue reflects more of our customers choosing the cloud as well as strong growth in enterprise data center offerings during the quarter.

Second, maintenance revenue represents fees earned from providing customer updates, upgrades and technical product support for a perpetual license products. Maintenance revenue is recognized ratably over the support period which is typically 12 months. For the quarter maintenance revenue was $58.8 million up 28% year-over-year. Maintenance revenue has been the primary beneficiary of the prior pricing optimizations to Jira and Confluence.

Third, license revenue is related to fees earned from the sale of perpetual licenses for our server or behind the firewall products and is recognized at the time of sale. For the fourth quarter of fiscal 2016 license revenue was $17.9 million up 17% year-over-year. While the majority of our revenue today is from the sales and maintenance of server products we’re experiencing a transition to cloud as more customers choose that deployment option.

Consequently our license revenue growth rate this quarter is reflective of this transition. And finally other revenue includes our portion of the fees received for sales of third-party add-ons and extensions in the Atlassian marketplace and for training services. For the quarter other revenue was 7.3million up 59% year-over-year. I will next spend a few minutes reviewing our margins, operating expenses and our results of operations.

Unless otherwise noted all references to our expenses and operating results are on a non-IFRS basis and are reconciled to our IFRS results within the tables posted in our earnings press release in our investor relations website. All comparisons listed here are with the fourth quarter of fiscal 2015 unless otherwise noted. Gross margins of the fourth quarter of fiscal 2016 was 86.2% consistent with our gross margin in the fourth quarter of 2015. Fourth-quarter operating expenses were $94.4 million up 39% from $67.8 million last year. Looking at operating expenses R&D expense for the fourth quarter was $48.3 million or 37.8% of revenue compared with $36.7 million or 40% of revenue last year, marketing and sales expense was $27.6 million or 21.6% of revenue compared with $17.2 million or 18.8% of revenue last year. Marketing expenses were higher in the quarter as we invested in additional advertising and sponsorship activities.

G&A expense was $18.5 million or 14.5% of revenue compared with $13.9 million or 15.1% last year. Total employee headcount was 1760 at the end of the fourth quarter. Headcount growth was across all operating contents categories with the majority in R&D. Fourth-quarter operating income was $15.6 million or 12.2% of revenue compared to $11.3 million or 12.3% of revenue last year. Net income in the fourth quarter was $16.9 million or $0.07 per diluted share compared with $10.7 million or $0.07 per diluted share last year.

Moving over to the balance sheet Atlassian finished the quarter with $743.1 million in cash, cash equivalents and short-term investments. Free cash flow for the quarter of fiscal 2016 was $17.6 million comprised of cash flow from operations of $35 million less capital expenditures of $17.4 million. Free cash flow margin defined as a free cash flow as a percentage of revenue was 13.8% for the fourth quarter.

Moving over to our full-year fiscal 2016 results, total revenue was $457.1 million up 43% year-over-year. Approximately 11 of the 43 percentage points of revenue growth for fiscal 2016 were attributable to our prior pricing optimizations. Fiscal 2016 gross margin was 86.2% compared to 86.3% in fiscal 2015. Fiscal 2016 operating margin was 16.9% compared to 15.6% in fiscal 2015. For fiscal 2016 net income was $71.3 million or $0.35 per diluted share compared with $45.5 million or $0.28 per diluted share in fiscal 2015. Free cash flow in fiscal 2016 was $95.3 million or 20.9% of revenue compared with $65.5 million or 20.5% of revenue in fiscal 2015.

Now I'll provide our financial targets for the fiscal first-quarter and full-year fiscal 2017. For the first quarter of fiscal 2017 our financial targets are as follows, for total revenue we expect the range of approximately $132 million to $134 million or approximately annual revenue growth of 30% to 32%.

The revenue target for the first quarter of fiscal 2017 includes the last full quarter of non-ongoing prior pricing optimization benefits partially offset by expected lower revenue due to summer seasonality. For gross margin we expect approximately 81% on IFRS basis and approximately 84% on a non-IFRS basis. For operating margin we expect approximately minus 10% on an IFRS basis approximately 14% on a non-IFRS basis.

For share count expect the weighted average share count to be the range of 232 million to 234 million shares on a fully diluted basis. For net income per diluted share we expect approximately minus $0.04 on IFRS basis approximately $0.07 on a non-IFRS basis. For the full fiscal year 2016 our financial targets are as follows, for total revenue we expect the range of approximately $592 million to -$602 million or approximately annual revenue growth of 30% to 32%. For gross margin we expect approximately 81% on an IFRS basis and approximately 84% on a non-IFRS basis.

The gross margin is targeted to be lower than fiscal 2016 as we expect to incur accelerated depreciation expense as part of our transition from our internal data centers to third-party cloud providers during the year. Operating margin we expect approximately minus 10% on IFRS basis approximately 15% on a non-IFRS basis. For share count we expect the weighted average share count to be in the range of 234 million to 236 million shares on fully diluted basis. For net income per diluted share for fiscal 2017 we expect approximately minus $0.18 to minus $0.16 on an IFRS basis and approximately $0.32 to $0.34 on a non-IFRS basis.

For free cash flow we expect range of $145 million to $155 million, included in the free cash flow target we're assuming a target of approximately $15 million of capital expenditures in fiscal 2017. This is lower than approximately $34 million of capital expenditures in fiscal 2016.

We have reassessed our capital expenditures for fiscal 2017 and now expect lower investment in facilities and also expect to shift more of our data center infrastructure to third-party cloud providers. With regard to our financial targets we do not expect our acquisition the StatusPage will have material financial impact on our financial results in fiscal 2017. Any impact from StatusPage is included in our financial targets.

Also in fiscal 2017 we will begin to hedge a portion of our expense denominated in Australian dollars. This will reduce the foreign-exchange risk we are exposed to in the normal course of our business. As a reminder we bill in U.S. dollars, so our revenue was not materially affected by foreign currency movements.

One final note to finish, starting next quarter we will shift to a new earnings call format. We will publish our prepared remarks recapping the business and financial highlights of the quarter as well as our financial targets prior to our earnings conference call. Will then spend the majority of the earnings call answering Q&A which we believe is more valuable to our investors and analysts.

And with that I'll turn the call back to the operator for Q&A.

Question-and-Answer Session


[Operator Instructions]. And the first question comes from Bhavan Suri with William Blair.

Bhavan Suri

Murray you didn't provide a lot of color there on the gross margins front, you talked about moving third-party cloud providers, Just some color on sort of is that why the gross margins coming down or is it just because the cloud business is growing so fast. Can you start with that before we get into demand?

Murray Demo

Yes in terms of gross margin being a little bit lower in '17 in terms of our target 16, it's related to the depreciation expense on our internal data center equipment. It's not related precisely going to third-party providers it's more on our internal data center depreciation expense.

Bhavan Suri

And then one quick follow-up just on product obviously just great set of numbers there, but some of you guys have commented in the past that was the products going about the same rate, and then clearly it's feels Jira Service Desk is growing much, much faster -- I would love to just a get a little more color in terms of the scale of that business and sort of who you’re winning against and what does that look like from a size and growth perspective relative to Jira, but BitBucket compensates HipChat.

Jay Simons

This is Jay, we did see good growth across products as we mentioned in the call we highlighted Jira service desk which is still relatively young product. I think we are proud of the 17,000 organization that's collected in its infancy with that particular product, we do see some competition around the traditional IT service desk use case but a lot of growth comes from Greenfield collaborative service applications that we're seeing kind of across the organizations into business teams. We’re typically replacing excel spreadsheets and whole bunch of clunky email.


And the next question comes from Michael Turits with Raymond James.

Michael Turits

Two questions, first of all just back on the margin side, anything else you can tell us about expenditures and investments, I mean work through all the numbers but is there anything higher on OpEx investments you expect in terms of the guide for the fiscal '17 margin and then I have a follow-up question on the go to market

Scott Farquhar

Michael, we continue like we continue to invest in obviously R&D it's the lifeblood of our company, we’re product company we will continue to invest there, and really across all the different organizations, within Atlassian, some of the things to kind of keep in mind between '16 and '17 is in '16 we did have again this pricing benefit looking particularly early in the year we had higher operating margins because we just really couldn't higher as fast as the revenue growth.

And also there's probably an approximate 1% effect of the Aussie to US dollar exchange rate is higher in 2017 than 2016, so we're kind of losing approximately 1 point of margin related to FX and now that we are hedging a portion of our operating expenses we don't think we are going to have quite the volatility that we had in fiscal '16.

Michael Turits

Okay. And then secondly can you talk a little bit about go to market is changing in any way as large enterprises being in state does and get more penetration there is everything still completely self-serve and or is three any push -- direct reps and have you are doing with technical account managers and premiums support in those areas?

Jay Simons

No material changes from what we've done in the past and you've seen us to, and I think this quarter especially another good demonstration the effectiveness of the high velocity low touch approach to both reaching large volume of new customers but also expanding and growing our biggest ones. As we mentioned previously we’re always looking to evolve our model and approach in really smart ways, you know as you saw with the introduction of the data center offerings and the technical management program that you've mentioned, and we've seen I think good that acceleration and adoption of both of those that product in that level of service within our largest accounts as we reflected in the prepared remarks.


And the next question comes from Heather Bellini with Goldman Sachs.

Heather Bellini

I just had a couple of quick ones, first Murray, you might have said and maybe I missed it that but the impact was from the pricing change if you could just update us on that what it was in the quarter and then I had a question around Bitbucket I was just wondering how do you kind of assess the competitive landscape in that part of the business that you're going after, and also if you could share with us kind of have you -- I guess have you seen the change in the competitive landscape and why are you winning versus the competition where do you guys have the better positioning versus them. Thank you

Murray Demo

Heather, in terms of the pricing benefit, we had 39% topline growth in Q4 approximately eight points of the benefit came from this -- eight points came from this pricing benefit. It was a little higher in the quarter than we might've expected we saw stronger sales of our server products to existing customers and in that case they are a paying a higher price than they would have and so we saw a little more benefit in the fourth quarter and that’s the kind of pricing benefit that of course would continue on any time customers paying a higher price than they would of really since inception of the day as a company, we would continue to see, but we're quite pleased with our server performance and overall results on top line of 39%.

Scott Farquhar

And Scott here on your second point, Heather about the Bitbucket competitive landscape, firstly on the change of the landscape, and as you know we operate in huge markets and we had seen competitives come and go, and the non-material change in the competitive landscape, we've seen over the last few months, and the reason why we win is same reason why we won historically, with the quality of the products and investment we put in there, and we differentiated because we got against lot of the Point Solutions. We’re the only company that provides the whole solution to our customers, and also many of these small teams don’t apply a professional teams, we’re much better full professional teams and business where as many of these are sort of targeted very small consumer based end points.

Heather Bellini

And then Murray just to clarify is the pricing benefit does that go away in fiscal '17, you kind of said some of those people will be playing longer in perpetuity which I understand but do you expect that to still be a benefit in your upcoming fiscal year?

Murray Demo

Yes, so in terms of the pricing benefit that’s lapping, it's not going to be material to fiscal '17, we'll see a little bit in the first quarter that I mentioned the prepared remarks, that we are sort of see kind of partially offset by some summer seasonality, but the benefits that we saw in the past those days are behind us.


And the next question comes from Richard Davis from Canaccord.

Richard Davis

First off thanks for moving to the worldwide inter webs as we say and not reading the press releases to us next quarter so I appreciate that. You know one of the things I think about as you guys are seeing good progress in expanding kind of the multiple different teams, but one of the strengths and weaknesses of the model is you don't spend a lot of money on sales and marketing, you make great products that are there levers that you can push and pull to kind of make the expansion into other departments inside these firms that you're selling to, more than organic work kind of had you think about the knobs and buttons that you would pull to do that thanks

Mike Cannon-Brookes

Our traditional lending and software teams, expanding into IT and then further into business teams, as a model doesn't change so one of the levers you have to say there is being very strongly thought up in software teams and in the IT teams because they take us into those other teams, quite a lot so we have an example that came up we talked previously about Sotheby's and we have an example of one of the largest museums in New York, that moves multiple millions of pieces art around their organization during Jira service.

Now this is a replacement for paper and email based system that they hand beforehand but it came in because we landed in their software team, they were using us for software processes within the museum, and they were the recommended to the business of facilities teams to use this application so to the point that we can keep telling those stories to our customer base, it did really shows the power of the expansion model and then beyond that obviously our automated model the engine that we've built in terms of the engagement engine to talk to customers, to talk to end users, to illustrate the use cases and to help them spread throughout the organization that’s something we continue to invest in both on the R&D side and on the go to market marketing side to reduce the friction of the spreading across the organization.


And the next question comes from Sanjit Singh with Morgan Stanley.

Sanjit Singh

Murray, can you talk back the pricing change one last question on that, if it was eight points this quarter, it sort of goes away beginning next quarter, it seems like a pretty steep drop-off I'm just trying to understand the dynamics of why you would go from eight to pretty immaterial that quickly?

Murray Demo

So just a little complexity here, there is kind of two things that go into that eight points of growth, there is the pricing that's related to the higher price of the customers paying now than they would have if we hadn't done it and I comment on that earlier notes any kind of price change other price increases or decrease since inception the company's flowing through our revenue today that will sort of continue on and there's a whole bucket of those kind of things and we wouldn’t necessarily break any of that out, that’s just a normal course of the business, The piece has been going away is the piece that really where it sort of ended in November 2015, and some renewed at a higher price, we're getting that revenue coming from deferred revenue to the maintenance revenue over the 12 month so we'll see some of that in the first quarter of '17 and then we're done and then any kind of price benefit that we're getting it just really again lumped in with all the other pricing changes we've made since inception of the company.

And as I said earlier the targets provided in Q1 they factor in the last of that sort of pricing benefit that's going to be going away and it's sort of being offset by some summer seasonality so again both of those are the factored into the targeted of sort of to 30% to 32% or 132 million to 134 million of revenue in Q1.

Sanjit Singh

On HipChat a little less commentary on HipChat at least in the prepared remarks so just wanted to understand how you're feeling about that business as you come to the close of FY ‘16 and think about the prospects for HipChat going into next year whether you need to make any changes to the product or sort of ready to continue to scale?

Mike Cannon-Brookes

It's hard to give commentary on all our products given the size of the portfolio, there's a clear -- we are big believers that there is a clear sort of secular shift in the way teams collaborate, where messaging is going to become a key piece of that overall portfolio of collaboration tools. We think it's still very early in the space and we're very confident in HipChat continue to expand, have great topline growth across FY ‘16. So you know we are excited about space and its ability to transform the way that teams collaborate.

Sanjit Singh

And the last one for me, I wanted to see if you want to take the chance to maybe update some of the metrics that you guys provide around the time the IPO as it relates to maybe monthly active users what has that reached and maybe the percentage of Jira users outside of software any update on this two metrics?

Scott Farquhar

At the moment we're not really commenting on this metric and we will as you know provide color and commentary on various metrics from time to time to give you an better understanding of the business but those two aren't ones that we are prepared to talk about today. We’re really happy with the growth of both of them but I don't have them in hand out today


And the next question comes from Brent Thill with UBS.

Unidentified Analyst

This is Michael Turner for Brent Thill. I wanted to talk a little bit more about the decision to shift to third-party cloud service providers, looking at the fiscal '17 guidance versus Q4 it looks like significant step down. I just want to talk about that decision process, any more color you are willing to provide are you planning to use one or multiple providers and anything else is greatly appreciated.

Scott Farquhar

The way we think about it it's been a progression for a long time, last year we had a hybrid model using third-party data providers and our internal data centers where effectively the workloads made most economic sense, as third-party providers are getting better at providing type of workloads that we use. We're progressively moving more and more of those workloads into the cloud, that sort of the philosophy to get other people to run that rather than us having on our balance sheet and something we will run ourselves. So there's nothing specific that we are doing in terms of the change of strategy, it's really just the third-party provider that’s got to a level of sophistication capability that we can use more of them.

Murray Demo

And I'd also add a comment on accelerated depreciation, so, as part of that transition we are incurring a little more depreciation expense than we otherwise would as part of that transition that's why you see the gross margin coming down in our fiscal '17 targets.

Unidentified Analyst

And then you talked a little bit about during the quarter, the increase in sales and marketing you referenced some additional advertising and sponsorship campaigns, is there any more detail or color you could provide there and then how should we think about that continuing into the next year as well?

Murray Demo

I'll just say that first that was variable spend, it was not fixed spent per say. so it's something that we may decision to do in the fourth quarter, as far as any other specifics Jay if you would like to add anything more to it.

Jay Simons

Nothing beyond you see that variability from time to time as we kind of run different broad-based experiments around demand acquisition for various products and markets that we're approaching.


And the next question comes from John DiFucci with Jefferies.

John DiFucci

I guess I had a question for Mike or Scott and it has to do with the acquisition StatusPage, other acquisitions you bought in the past have been products and you bought a product and you sort of push that out through your vast distribution into your customer base, can you talk explain a little bit I'm quite sure is this one going to be a product or is this going to be technology that will be added on to things like Jira service desk and others and how should we think about your M&A philosophy going forward?

Scott Farquhar

Just those that aren't familiar with StatusPage let's go through again what they do, if you look at the way most companies are these days most companies are software companies, and as a SaaS company you really becoming service company where you have to provide a service 24/7 to your customers and when you provide that service you need some way of communicating the status of that service to your customers and StatusPage is kind of like a cell phone signal bars on your cell phone, instead of explaining to you with something up or down in where to go for help.

This is relatively new market, Greenfield opportunity for us and StatusPage is the leader in this market, and look at the customer base couple of thousand customers we're not sharing specific number but tens of thousands of customers, and so it's a huge opportunity because all of our [indiscernible] customers will need a StatusPage over time, in terms of how we will combine the products, there's a lot of product integrations we can do over time, for the moment it's going to be a stand-alone product inside of our portfolio with a separate SKU in pricing as it is today.

John DiFucci

And should we -- so it sounds like at least initially it will be similar to previous acquisitions and is that the way we should be thinking continue to think the same way going forward when you do make acquisitions?

Scott Farquhar

Yes John we've got a long history of doing small acquisitions successfully, we've done a couple of dozen of them now and you'll continue to see us do small acquisitions where they fit our pricing model and our go to market approach, and they sell in our customer base or adjacent to that, obviously due to our go to market model and our approach is very difficult for us to try something large we have the a lot of consideration to something like that so you continue to see us do some more acquisitions.


And the next question comes from Steve Ashley with Robert W Baird.

Unidentified Analyst

This is Jason [indiscernible] for Steve, thanks for taking my questions. First question, just wanted to ask about Europe it looked like there is a slight deceleration there although don’t have compare from last 4Q, just give how much of that is from kind of seasonal summer slowness versus the macro issues there, and just generally kind of how sensitive is kind of your spend to macro challenges.

Murray Demo

So Jason so we haven't in terms of like Brexit or whatever we haven't seen anything in our business that would say that Brexit has led to any kind of softness in our business, what we have seen through -- looking through the data and just like in at least all the other software companies I've worked in, a little bit of summer seasonality in Europe, and we have some of that in our business and that's been factored in, but no sort of macro trends or Brexit, we’re seeing at this point and that’s certainly not factored into our targets just the normal summer seasonality is what's included.

Unidentified Analyst

And then just second question just sort about renewal rates and how that might vary by customer sites, just kind of curious how you expect renewal rates to trend as you may gain traction with larger enterprises and that's it for me

Jay Simons

Renewal rates have been trending favorably, I think we see a higher renewal rate at the larger institutions you know companies that deploy up to thousands of users, as we mentioned, during the road show tend to have a higher kind of renewal rate and we have a really high logo retention rate but I think we are happy with retention kind of across the breadth of the customer base.


And the next question comes from [indiscernible] with JMP Securities.

Unidentified Analyst

I'm curious does the self-service model for go to market, work as well for legal HR finance as it does for IT and developers is that's something you're sort of monitoring as you are solutions appeals to broader and broader audiences?

Jay Simons

As Mike mentioned remember kind of go to market model, I think it's effective in lending instead of software increasingly in IT, and then we use a lot of kind of engagement and growth tactics that you’re probably familiar with as a consumer of Amazon where three quarters I think of Amazon sales come from their in-store recommendation so we have the ability kind of in our products to recommend use cases of users that might be part of an IT project that get exposed to how a service desk could help their legal team.

In addition the kind of attritional ways we might market those use cases the champion of our products inside of the business. So really is I think increasingly kind of and expand opportunity outside of the business, the business is also look to IT for recommendations of tools and products to basically help them do the work and so we see I think a lot of growth from strong recommenders outside people like legal, HR and finance.


[Operator Instructions]. And our next question comes from [indiscernible]. with Oppenheimer.

Unidentified Analyst

So just following up on those HR, finance, legal type abuse cases, right now where are you seeing the strongest interest and are you seeing any pressure to add new features to core to specialize in certain verticals.

Mike Cannon-Brookes

George, Jira Core as a reminder for those listening we split Jira into three different offerings in October of last year, so about eight months ago, or maybe nine months ago, to build focused offerings for software teams IT teams and again for business teams. It's been a very good growth story for us so far, it performed extremely well, albeit off of very small base obviously compared to its software as service desk cousins. We think that the first thing we've done with Jira core is to reduce down some of the software and IT specific features such that the business teams get a cleaner experience of tracking work that they're trying to achieve, and then after that we are certainly listening to HR finance, marketing, legal facilities all the teams that are using core in our traditional way that we would listen to customers and we will continue to iterate the product and improve it over time, but at the moment there are no sort of glaring feature gaps for those teams in terms of getting their work done so we've been pretty happy with the reception so far given it's still inside its first year.

Unidentified Analyst

And just one other question how should we look at headcount additions as the year progresses?

Mike Cannon-Brookes

George, we will continue to invest across all the different major expense categories, inside the company with OBA, the continued focus on investing in R&D that will be the primary area but we'll be investing across the company as we scale.


Thank you. And as there are no more questions. I would like to return the call to management for any closing comments.

Scott Farquhar

It's Scott here. Thank you everyone for joining our call today. We really appreciate the time and look forward to keeping you updated on our progress. Thanks a lot.


Thank you. The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.

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