Splunk's CEO Discusses F2Q13 Results - Earnings Call Transcript

 |  About: Splunk Inc. (SPLK)
by: SA Transcripts


Good day ladies and gentlemen, and welcome to Splunk’s second quarter 2013 financial results conference call. [Operator instructions.] I would now like to hand the conference over to Mr. Ken Tinsley. Sir, you may begin.

Ken Tinsley

Thank you operator, and good afternoon everyone. With me on the call today are Splunk CEO Godfrey Sullivan and CFO Dave Conte. As a reminder, today’s conference call is being broadcast live via webcast. In addition, a replay of the call will be available on our website following the call. By now you should have received a copy of our press release that was distributed this afternoon. If you have not, it is available on the investor relations section of our website.

Before we begin, I’d like to remind you that during today’s call we will be making forward looking statements regarding future events and financial performance, including our guidance for our fiscal third and fourth quarter and full 2013 fiscal year. We caution you that such statements reflect our best judgment based on factors currently known to us and that actual events or results could differ materially.

Please refer to the documents we file from time to time with the SEC, specifically our final prospectus for our follow-on public offering in July 2012 and our periodic reports that we file with the SEC, including the form 8-K filed today with today’s press release. Those documents contain and identify important risks and other factors that may cause our actual results to differ from those contained in our forward looking statements.

Forward looking statements made during the call today are being made as of today. If this call is replayed or reviewed after today, the information presented during the call may not contain accurate, current information. Splunk disclaims any obligation to update or revise any forward looking statements. We will provide guidance on today’s call, but will not provide any further guidance or updates on our performance during the quarter unless we do so in a public forum.

Also during the call, we will discuss non-GAAP financial measures. These non-GAAP financial measures are not prepared in accordance with generally accepted accounting principles. A reconciliation of the GAAP and non-GAAP results is provided in today’s press release and on the investor relations section of our website.

The projections regarding our non-GAAP operating margin that we provide today excludes stock based compensation expense which cannot be determined at this time, and therefore cannot be reconciled in today’s press release.

With that, let me turn it over to Godfrey.

Godfrey Sullivan

Thank you Ken. Welcome everyone, and thank you for joining us on our Q2 earnings call. I am pleased to say that the momentum from our fiscal first quarter of 2013 has continued into Q2. Revenues for our fiscal second quarter were $44.5 million, representing 71% growth compared to the second quarter last year. License revenue for Q2 was $30.2 million, representing 61% growth compared to last year. Best of all, during the quarter we welcomed nearly 400 new customers to the Splunk family.

Today I’d like to update you on several themes we discussed on our last call: Splunk as an enterprise data platform, Splunk as a platform for apps and developers, and our theme of investing for growth.

First, Splunk as an enterprise data platform. Splunk enables organizations to easily gain operational intelligence from their machine data. The more data we index, the more value we deliver. Our new customers usually purchase Splunk to solve one use case, and then learn more about the value of their machine data, and then expand to additional use cases over time.

Monster Worldwide, the global leader in connecting people to job opportunities, is a new Splunk customer. Monster selected us to support their security monitoring and compliance efforts. One of their top objectives is to protect, track, and control access to sensitive customer information. They like Splunk’s functionality and rapid deployment, which was much more attractive than trying to build a custom solution.

As our existing customers gain experience with Splunk, they add more data and get more value. Hughes Network Systems is the global leader in broadband satellite networks and services. Hughes first became a customer in 2009. At that time, they chose Splunk Enterprise for security purposes, to identify threat patterns across many data sources. In Q2 the expanded from security to IT operations, assisting the company in the successful launch of the Jupiter satellite.

For Hughes, any issue with their satellite performance has a direct impact on customer revenue and retention. Hughes is a good example of our ability to enter a company relationship for one use case and then expand that relationship to other departments, in this case from security to satellite operations.

Many of you have attended our Splunk Live events, and you’ll recognize this story as consistent with the expansion that many of our customers describe for themselves, that is, Splunk moving from a departmental success to becoming a data platform that brings value across the enterprise.

To support our mission to become an enterprise data platform, I’m also glad to report that we are well into the beta phase for our next core product release, Splunk Enterprise 5.0, which includes faster reporting over very large data sets, improvements for fault tolerance, and various UI improvements. We will be providing more detail on 5.0 at our user conference in Vegas next month.

Let’s move on to Splunk as a platform for apps. Many of our customer use cases, like app monitoring, infrastructure analysis, and security, are accelerated through the use of specific data sources and views that we call apps. In Q2, Splunk and our user community added over 40 apps to SplunkBase.

For example, one customer contributed an app for SQL database extensions that enables customers to integrate structured information from SQL databases with semistructured information in Splunk.

Another customer posted an app called Security Onion for Splunk, which provides an integrated UI for Security Onion, which is a popular Linux offering for intrusion detection and network security monitoring.

In addition to the apps contributed by our customers, Splunk also shipped GA versions of the Splunk app for VMware, an app for Windows Active Directory, and an app for Palo Alto Networks. The Splunk for VMware app shines a bright light on virtualization. It enables customers to see data from all layers of their virtual infrastructure, like host operating systems, applications, as well as the underlying server, storage, and network devices. For the first time, customers see everything about their virtual environment.

CloudShare was an early beta tester of our app for VMware, and has now adopted Splunk company-wide to gain deeper insights into every aspect of their business: their infrastructure performance, their customer trends, and real-time business metrics. CloudShare presented their Splunk implementation at VMworld yesterday, and it was an exceptional presentation of Splunk as an enterprise data platform.

An extra mention here. Many of our apps are lightweight templates that combine data source interpretations with simple views. The VMware app, by contrast, is pretty beefy - more than 18 months of development effort to get the data from the VMware hosts and extensive beta testing in large-scale environments. This app is heavy on IP and our customers are very happy about it.

The app for Windows Server Active Directory enables organizations to avoid services outages and perform proactive management and compliance reporting of Active Directory. We all know Active Directory is everywhere, and when stuff happens, users are unable to log in, access privileges expire, email stops flowing, and every executive hears about it. This new app is easy to deploy and uncovers the data needed to restore Active Directory service quickly. Riverbed Technology was one of our customers who participated in our AD program and our beta program, and have deployed the Active Directory app across the company.

Finally, the Splunk app for Palo Alto Networks also went GA in Q2. This app takes in data from Palo Alto Networks firewalls to provide additional visibility, insight, and analysis of next-generation security threats. Our thanks to Palo Alto Networks for their active support in helping us build this app.

Splunk as a platform for developers. Developers are a new market for Splunk, and we’re investing in tools that make it easy for developers to extend the power of Splunk Enterprise. We now have three SDKs in beta, Python, JavaScript, and now Java. All three are fully documented and supported. Momentum is building, and we’re now logging more than 1,000 unique visitors per week to our developer website.

Hurricane Labs is an information security firm that uses our Python SDK. Hurricane Labs processes millions of events each day and helps clients develop awareness of what’s happening on their networks. They’ve deployed Splunk as a security solution for their clients. Because they’re a Python shop, our Python SDK enables them to customize and extend Splunk for their customers within their standard development environment.

As I meet with CIOs, I receive very positive feedback around our SDK efforts. They want to customize and extend Splunk within their corporate environments. Most frequently, this is Java, Python, and JavaScript. And our SDKs enable them to do this in their standard languages.

We’ll update our progress as we move forward, and our goal is to drive new use cases within and beyond our core IP markets. Our newest offering for developers is Splunk Storm. We’re pleased to announce earlier this week the general availability of Splunk Storm, our first cloud service. Feedback during the public beta program in Q2 was very encouraging, with hundreds of active projects and users. If you’re a developer building apps in the cloud, you can sign up for Storm, choose your capacity, and be live in five minutes.

Offering Splunk as a multitenant, on demand service gives our customers these benefits: monthly, pay as you go pricing; no installation or maintenance of hardware or software; and the ability to scale capacity as needed using a simple slider.

One Splunk Storm customer is SendHub, a company that enables customers to easily communicate with individuals and groups of any size through SMS messages, voice calls, and voicemail. SendHub sends over 500,000 messages per month to thousands of subscribers. To ensure the success of their business, SendHub uses Storm to monitor the performance of their API endpoints to ensure high quality service to both their website and their mobile apps.

Splunk Storm is on its way to becoming the service of choice for application developers in the cloud. Since we launched two days ago, we’ve seen a noticeable uptick in sign ins and projects.

In summary, we made great progress during the quarter driving Splunk as an enterprise data platform, both through expanded use cases, 400 new customers, and through our upcoming 5.0 product release. We made progress extending Splunk as a platform for apps and developers with new SDKs, new content being contributed by our customers, and our new offerings for VMware, Active Directory, and Palo Alto Networks.

Finally, we delivered Splunk Storm, our first-ever SAS offering, to enable developers to build better products faster and also to instrument their apps so that they can build in the operational analytics coming from their machine data when they go into production.

Now, with more on the numbers, and our investment plan for growth, I’ll pass it over to Dave.

David Conte

Thanks, Godfrey. Good afternoon everybody. Thanks for joining us. First, I’ll provide a recap of our results for Q2, then share our outlook for Q3 and the remainder of the year.

As Godfrey mentioned, revenue in the second quarter totaled $44.5 million, a 71% increase over Q2 of last year. License revenue in the quarter totaled $30.2 million, an increase of 61% over last year, while professional services revenue was consistent with prior periods at approximately 6% of total revenue.

We added almost 400 new customers in the quarter while our existing customers continued to buy more Splunk software. Specifically, 71% of the quarter’s license bookings came from upsells to our existing customer base, the third consecutive quarter where our existing customers drove more than 70% of the license business.

Upsells come from both expansions into new departments and use cases, as our customers move toward the next phase of operational intelligence, and upgrades for additional capacity in an existing Splunk instance.

This quarter, about two-thirds of upsells came from expansions, and one-third from upgrades. We continue to see deeper adoption with customers in terms of order size. In Q2, we signed 98 orders greater than $100,000, up from 65 in the year ago quarter and 73 in Q1.

Last quarter, I outlined two of our largest investment areas, field coverage and product. On the coverage side, we continue to increase our sales capacity by hiring high-quality sales professionals. We ended Q2 with 117 quota carriers, up from 101 last quarter and up from 94 at the beginning of the year. We will continue to invest in field operations in the second half, and expect to grow quota carriers to between 140 and 150 by the end of the fiscal year.

We’ll also continue to add the requisite technical sales personnel and management functions to support our quota-carrying teams. Our international sales team continues to make good progress. Similar to Q1, our international customer base grew 70% over the prior year, and totaled approximately 1,600 customers as of July 31. Importantly, of the 16 new quota carriers we added in Q2, 10 of them were based outside the U.S.

International operations contributed about 20% of total revenue in the quarter, consistent with prior levels. As a reminder, we find that our quota carriers take anywhere from 9-12 months before reaching full productivity, the variance being driven by the maturity of the markets where we’re adding new sales folks. As such, we expect our recent additions to fully contribute to overall capacity toward the second half of next year.

Continued product investment is critical to our growth strategy and is important in terms of increasing the capabilities of the Splunk enterprise platform. Godfrey identified several initiatives that are underway and how these product enhancements will expand our applicability in the marketplace.

A specific example within the products group, where we continue to invest, is the expansion of our team building SDKs for our development community. We’ll also continue to add technical resources to our core enterprise product teams in both the Bay Area and plan to create R&D centers of excellence both domestically and abroad.

With the introduction of Splunk Storm, we’ll be investing aggressively in our cloud offerings capabilities as well as the associated infrastructure to support our cloud-based customers. Now, turning back to the quarter, as it relates to maintenance contracts, recall that we calculate our maintenance renewal rate on a rolling 12-month basis. In Q2 our renewal rate was 91%, consistent with our ongoing expectation of 85% to 90% renewal rates.

Our installed base of customers continues to grow, and we’re completing higher numbers of large transactions and renewals, both of which have an impact on revenue and on the balance sheet. Specifically, our deferred revenue balance was $67.7 million at the end of Q2, an increase of more than 120% from the same quarter last year.

As we’ve previously said, the mix between term-based and perpetual license sales will fluctuate from quarter to quarter, and has historically ranged between 10% and 20% of any quarter’s license bookings. In Q2, approximately 17% of total license bookings were from term-based transactions compared to 11% in Q1. We expect to see continued variability in the mix between term and perpetual licenses based on customer buying preferences.

Regarding margins and profitability, overall gross margin was 90%, and in line with prior quarters. Gross margin on support was 87%, and the professional services margin slightly negative. As we continue to focus on customer success and expanding their use of Splunk across their organizations, we will continue to increase our services capabilities. As a result, we expect our services business to operate at, or near, breakeven in the short term, with margins expanding gradually over time.

I’ve mentioned previously that we expect our longer term gross margins to range between 85% and 95% based on the mix between term and perpetual license sales and the adoption levels of our Storm cloud service. We’ll continue to update you on the margin impact of Storm as we experience actual customer utilization now that we’ve formally GA-ed the offering.

Overall, our non-GAAP operating margin, which excludes noncash stock based compensation, was a negative 1.5% in the quarter. Non-GAAP net loss was $700,000, or $0.01 per share. Our favorable operating and net margin performance was due to our overall revenue growth.

It’s important to note that the vast majority of our expenses relate to people costs. Our pace of hiring is steady, so our total expense base tends to grow more linearly than revenue and therefore can cause our operating margin to fluctuate quarter to quarter.

Cash flow from operations in Q2 was $3.8 million, free cash flow was $2.2 million, and we ended the quarter with $268 million in cash. As noted last quarter, cash flow was largely dependent on the linearity of in-quarter bookings and the collection timing of our outstanding receivables, which means cash flows can vary quarter to quarter, just as we saw in Q1.

DSOs in Q2 were 70 days, in line with our 60-75 day expectation. As I’ve mentioned, our goal is to continue running the business with positive operating cash flow.

Okay, turning to guidance. For Q3, which ends October 31, we expect total revenue to be between $45 million and $47 million, and non-GAAP operating margin of a negative 4% to 5%. With our first half results and expected performance in the second half, we’re increasing our full year revenue expectation to be between $183 million and $186 million.

With our continued but measured investment in product and sales capacity expansion, our higher revenue levels will yield improved operating margin for the year. We now expect full year non-GAAP operating margin of between a negative 2% and negative 3%, better than the negative 4% to 5% we’ve previously guided.

Our weighted average share count was 95.5 million shares at the end of Q2, and we don’t expect any meaningful changes this quarter. However, as Q4 is traditionally our most profitable quarter of the year, we’re expecting non-GAAP operating margin to be positive in Q4. As such, it’s important to remember to use our fully diluted weighted average share count of approximately 116 million shares when calculating EPS in Q4, or any profitable period for that matter.

Overall, we’re pleased with our Q2 results, product developments, and increased customer base. We’re looking forward to continuing to add the best field reps available and expanding our platform breadth and capabilities.

Thanks very much for your time and interest. And with that, we’ll open it up to questions.

Question-and-Answer Session


[Operator instructions.] Our final question comes from John DiFucci from JP Morgan.

John DiFucci - JP Morgan

Godfrey, the question is on the new offerings. I know Splunk for VMware, or Splunk Storm are relatively new here. But I guess most of us have been out at VMworld and it seems like there’s quite an ecosystem around virtualization right now. This was in beta for a while, and I guess could you tell us what kind of traction you’re seeing. It sounds like you had a lot of interest in the beta versions here for VMware and Splunk Storm. But if you could maybe talk to us, give us a little more color about what we might expect going forward. And also, tell us if there’s anything implied in the guidance for any kind of uptick from these products.

Godfrey Sullivan

The app for VMware is free, so we’re not building any guidance or revenue assumptions into that product. But I will tell you that the enthusiasm from the customer base is not just the ability to look at all the layers of a virtualization infrastructure. It’s the ability to correlate that across everything else across your security posture, your transaction environment, your website, etc.

So it’s one more important layer of the stack, and it’s hard to get at, because they don’t publish their source feeds and it’s kind of a dark hole. And so it was hard work to get it all, and now that we have it, customers are very happy about it. It’s enterprise software, so it will take some time for us to be able to report back in terms of transaction metrics and all that sort of thing, but very pleased with where we are.

The first version is heavy on data source development and less heavy on graphics. And as we continue to move on, we’ll continue to improve the presentation layer. On Storm, we’ve been GA for two days, so really we’re just tracking what’s going on with sign ups, what’s going on with customers registering for new projects, and all that, and we’ve seen a noticeable uptick, but I wouldn’t want to create a trend line out of two days’ worth of activity.

So it’s been two to three times our normal activity levels of July August, just in the last two days. But again, you can’t extrapolate that yet. It’s too soon. And no, we don’t have any revenue for Splunk Storm built into our model, but we’re certainly pleased with the customer feedback so far. I think probably by Q3 earnings call, we’ll be in a much better position to report on that.

John DiFucci - JP Morgan

Because the app for VMware is listed on your website as a premium offering. That’s why I though perhaps it was paid for. But the app for Palo Alto Networks and the app for Active Directory, I would assume those are also free offerings?

Godfrey Sullivan

Those are also free offerings.

John DiFucci - JP Morgan

And Dave, follow up on the renewal rate, up above 90%, which is… You were in the 80s for a while, and to see it above 90%, that’s… Enterprise class is up near around 90%, but it’s nice to see it above 90%. Are you doing anything different there? Or is it just the continued efforts of your team to try to improve on those numbers?

David Conte

I think we’re some stuff specifically around focus in the field organization, and John, you and I had talked specifically about our investments in dedicated folks around the renewal teams, most recently in APAC, prior to that EMEA, and initially in the U.S. So I think we’re seeing the benefit of that investment. And that’s really been the area of focus. We’re not doing anything else beyond that besides providing them. Some of the apps that Godfrey mentioned we introduced this quarter I think are certainly helping as well.


And our next question comes from Phil Winslow from Credit Suisse.

Phil Winslow - Credit Suisse

Looking at the customer count growth here was really pretty impressive, you know with the 50% year over year. Godfrey, just kind of a question to you as you sort of balance what you guys talked about, deepening your penetration into existing customers, but also just kind of continuing to acquire customers at this rate. How do you balance that just from a go-to-market perspective?

Godfrey Sullivan

I can’t tell you that I do balance it. I wish it were that scientific. What we really do is we look at markets. We try to understand markets that are ready, where we could put additional resource, and we do that with as much data as we can. Plus, experience. We drive events all over the world. You’ve come to a few of our Splunk Lives, and thanks for that. And so you’ve seen what happens when a roomful of customers hears from other customers about expanded use cases. We’re bringing a cloud offering. I mean, we just push it all, and then the numbers kind of are what the numbers are. I can’t tell you that I have a magic formula for how much is new versus expanded. You just have to go out and do your work, and then that number sort of falls out of it.

Phil Winslow - Credit Suisse

And then just one follow up on deal size. Obviously it seems like you had pretty good strength in deals north of $100K. Just what you’re seeing there in terms of deal size, and what your expectations are.

Godfrey Sullivan

Well, it speaks to the fact that an expanded field organization can have an impact on that. It’s time. You’ve seen our customers, how they move from a single use case to a multidepartment use case and on and on. And I think of our six-figure transactions, about a fourth of them were actually new customers, and about three-fourths of them were expansion or upgrade customers.

And so that just kind of shows that it’s a combination of more people, more marketing events, more go-to-market stuff. All that stuff adds up, and having more people to carry the water close to the customer really matters for us. So I think it’s just all of that. There was nothing in the quarter that was unique or some big one-time whatever. It was just a bread and butter quarter of lots of activity all over the world.


Our next question comes from Brent Thill from UBS.

Brent Thill - UBS

On Splunk Storm, is there a specific customer base that you think this is going to appeal to? Or is this a fairly horizontal solution that you think even the largest enterprise customers can match up and use your other solution and use this for other areas as well?

Godfrey Sullivan

We have targeted this offering directly at developers, and so if you go up on Storm, and you see the way it wires up, it’s really easy to sign up, create an account, and then choose the data sources you want to input into it, and off you go. You really can go from zero to live with Storm in about five minutes, or ten. This is pretty straightforward.

It doesn’t have the features of Splunk Enterprise. It’s very targeted toward developers and being able to help log apps that are in development in the cloud. So what we learn from it will tell us a lot about what the appeal is to enterprise customers and others who might want a SAS offering in addition to on-prem.

The thing that’s unique about Splunk and why Splunk Enterprise has been so successful on-prem is because you kind of want to put Splunk as close to the physical infrastructure as you can. When you’ve got dozens or hundreds, or in some cases customers have thousands of Splunk forwarders out on their hardware devices, you want to wire that stuff back to a server that’s right next to your physical infrastructure. You wouldn’t want to send data from thousands of devices up to the cloud just so you could analyze it and bring the answer back. It’s not efficient from a wiring harness standpoint.

So our on-prem customers will probably more appreciate the on-prem solution. Our hybrid customers, even today, folks like Zynga, run Splunk both on-prem and in the cloud against apps they have there. And then customers who are developers, who are starting their projects in the cloud, they don’t have any physical infrastructure. So for them it makes perfect sense just to turn on logging capabilities while they’re there. And we’ve made that a five-minute exercise.

What’s most important to me is that those developers build Splunk into their products, because it’s how you teach your app to instrument out, to output machine data or logs, is what enables you to get good operational analytics on your business when you go into production. So I think there’s merit for Splunk in a lot of different places, and we just want to make sure we’re in all those places.

Brent Thill - UBS

And then just a quick financial question. On the expansion activity, you obviously saw a really nice jump in larger transactions. Is there a simple metric that you’re seeing on repeat orders versus initial orders, where you can just give us a color of how you’re seeing that jump up over the initial deal size?

David Conte

You know, it’s been pretty consistent as we’ve looked at customer buying patterns, after their first buy. On average they probably consume about two and a half times more Splunk in the following two years after that first purchase. So it’s hard to pinpoint a specific trend in there, and particularly given the breadth of the use cases. So as we look across all the verticals that we’re in, and then the use cases that are driving a lot of the upsells, it’s very diverse. So I think it’s just more and more awareness of how customers are driving value out of that data that they’re able to get out of Splunk.


Our next question comes from Adam Holt from Morgan Stanley.

Adam Holt - Morgan Stanley

My first question was about the term mix. A little bit higher than we’ve seen in the last couple of quarters. Maybe walk us through if there was anything in particular that jumped out that was a driver there? And how should we be thinking about the term mix as we look into the back half?

David Conte

We give the range of what we expect, which I know is a fairly broad one, 10-20%. We’ve looked at the historical patterns of how customers buy, or how the mix of term versus perpetual is realized on a quarterly basis. And we find that not dissimilar to my answer to Brent, there’s no notable, identified pattern. It really gets down to the specific transaction and the appetite of the particular customer. And our objective, as you know, is we want to enable the customer to buy the product. It’s not that we’re necessarily indifferent between perpetual and term, but we want to enable customer acquisition of the product. So we give the 10-20% range. That’s where it’s been historically. That’s where we think it will continue to resolve.

Adam Holt - Morgan Stanley

And if I could just ask a quick follow up on a geographic area. You had good growth internationally. Could you maybe qualitatively talk about what you saw in the European theater? I know you’ve had some changes there internally. Just where you are in terms of your organization and what you saw in that market from a demand perspective.

Godfrey Sullivan

The growth rate in Europe was lower in Q2 than the overall business, and we do see the same economic mess that everybody else sees. That said, we need to give our new European leader a chance to get in there and get his arms around the business and build a team, and do all the good stuff that leaders do. And so I’m hoping that we see Europe come back to even higher growth rates than it is now. But yeah, we see the same thing in Europe that everybody else sees. It’s just that the overall growth rates are pretty high, so we’re still enjoying success out of it. But yeah, I acknowledge that.


Our next question comes from Raimo Lenschow from Barclays.

Raimo Lenschow - Barclays

First, on the profitability side, obviously you kind of delivered much better, and I guess it’s kind of more a function of the license growth coming better than expected. But how do you think, as you plan out into the second half of the year, into next year, in terms of your path toward delivering profitability sustainably? Do you think you can be consistently on profit quicker? Or would you like to invest more and push the growth more?

And then secondly, on pricing, a lot of the discussions we have with customers that come into that renewal, because they used up quite a lot of what they initially bought… Do you price it on a terabyte per day, or do you need to go to some sort of ELA license? And I was just trying to find out what you’re thinking.

David Conte

As it relates to our investment philosophy, we are absolutely committed to investing for growth. And if you listened to my prepared remarks, I specifically call out our field expansion and our investment in the product. We’re also committed to running cash flow positive. So our ability to generate more profit exists, and our philosophy is this is early in this product cycle. We’ve got an evangelist sale in many of the regions of the world, and we’re just scratching the surface. So I think prudence says we need to, in a disciplined way, invest aggressively to maintain and expand the lead that we have currently.

Godfrey Sullivan

You also asked about pricing. I don’t want to announce anything specifically, but I’ll tell you that Tom Schodorf and I have been out meeting with customers and trying to understand how do we extend the same viral tailwind that we have through the free download that works so well for getting that first user, that first champion in a company before they’ve ever invested in Splunk? How do we give them the same ability to invest and expand at the enterprise level?

And so we’re examining several options for what we call enterprise adoption that would enable our customers to think more broadly about the product as opposed to worrying about data limits. It’s a tricky situation, because it’s how we price the product.

But I’ll tell you that we are aware of our enterprise customers’ desire to expand, but also aware that we need to give them some better tools, so they can stand up large projects and not have the data rates be frightening, or whatever. So we’re working on it, and we’ll come back with more specific feedback when we have something specific to announce.


Our next question comes from Brendan Barnicle from Pacific Crest.

Brendan Barnicle - Pacific Crest

I just wanted to follow up on that pricing question. Did you do any ELAs during this quarter? Or any kind of different types of contract arrangements?

Godfrey Sullivan

You know, we really don’t do ELAs in the classical sense. Like, we don’t do any perpetual ELAs. Every now and then, we do a term ELA, and I could count those on one hand that we’ve done, life to date. Most of the times, what we do is we create a window, a big fence, that the customer can run around in, by giving them enough capacity so that they can take on the project they have at hand, plus some additional projects, and not get themselves into trouble.

So not ELAs in the classic sense, but we do have sort of our version of it. And it works pretty well. You know, we get some pressure around data volumes and all that, because it’s a unique pricing model.

But you know, if we did it by servers, we’d be getting pressure on per-servers. If we did it by users, we’d be getting pressure on users. We let customers use as many users as they want, as many servers as they want, as many reports as they want, as many apps as they want. We don’t charge for any of that, and so there has to be some pressure point, and in our case it’s the data volume.

So our job is to try to make it as easy as possible for customers to expand at the enterprise level and still find a way to have it be fair for them and us, and we continue to work on that all the time. But no, there was nothing out of the ordinary during Q2 as it relates to ELAs or anything like that.

Brendan Barnicle - Pacific Crest

And then over on the app side, nice addition of those 40 apps that you mentioned. What’s the total apps number that you’re up to now?

Godfrey Sullivan

I don’t remember, to give you a truthful answer. I think it’s around 300. I’d have to go look it up. And the reason why I’m saying I don’t know is because some of those apps were written for a prior version of Splunk and as we go through our upgrades, if we obsolete or end of life an old version, I could have to go back and recount apps. So I’m going to take the Fifth Amendment on that one. It’s in the hundreds, and I’ll come back to you with a more specific answer after we rescrub the list for 4.0 and 5.0.

Brendan Barnicle - Pacific Crest

Great, that would be helpful. And obviously you added some really important ones this most recent quarter, with VMware and Palo Alto, and Windows. What does it look like in terms of the pace of apps development? Is there any metric you can give us around that, how that’s tracking?

Godfrey Sullivan

Well, if you asked Guido Schroeder that question - the guy who runs our factory - he would tell you, I need more resources in every area of the business. I need more developers in my apps business. I need more developers in my SDK team up in Seattle. I need more developers on Splunk Enterprise. And I need more technical resources for our exploding cloud business with Storm. It’s one of four main things that we do, which is to develop these templates, or apps, so that we can put a flavor or a personality on top of Splunk Enterprise that enables it to continue to broaden its horizons. So this is an important driver for us. But it’s one of four things we’re investing in and every one of them needs more resource.


Our next question comes from Kirk Materne from Evercore Partners.

Kirk Materne - Evercore Partners

Dave, you mentioned you’re looking to get up to about 140-150 quota-carrying reps by the end of the year. The 16 you brought on this quarter, obviously a little bit more heavily weighted toward international quota-carrying reps. Was that just opportunistic? Or are you guys making an effort to make sure that you continue to bulk out the international perhaps at a little bit faster pace, or cadence, than you are the U.S. business?

David Conte

It’s not that we’re specifically trying to accelerate in one region or the other. Within the U.S. as well as EMEA and APAC, where is the market ready for additional resources? And then how does that pair up with making sure we’ve got the right candidate flow? So we’re constantly going through the exercise of identifying market readiness, candidate flow, A-plus player, put them on the ground. In terms of mix, it’s going to ebb and flow based on those dynamics.

Kirk Materne - Evercore Partners

And without asking for too many specifics, in places like Europe are you trying to get a concentrated population in a few geographies first? Or are you just going where the demand trends lead you? Or are you trying to build small presences in the bigger, more obvious, markets before you spread out too broadly?

David Conte

I think we’ve probably, over the last 18-24 months, made those focused investments in important countries like the U.K., Germany, France, etc. So we’re going to continue to make sure we’ve got enough resource to cover all the demand that we see in those regions.

And then as I mentioned, we are evaluating, for EMEA specifically or even in APAC, each individual region around that market readiness. We don’t want to prematurely invest in a region where the awareness of what we’re doing, the brand recognition, the identification of the problem statement and the solution, and start throwing people on the ground there, where their opportunity to succeed would be limited. So it’s a constant measurement of market readiness and field capacity, and that’s how we do it.


Our next question comes from Greg McDowell from JMP Securities.

Greg McDowell - JMP Securities

I wanted to quickly ask about Splunk Storm. I know it’s a self-service provisioning model, but I wanted to ask, is there going to be any sort of active outbound sales campaign or dedicated sales resources to Storm to possibly sell to these developers and prevent them for possibly going to alternative [unintelligible]?

Godfrey Sullivan

Yes, we will do proactive marketing for Storm. We have not yet done much, so most of the metrics that we’ve had during the beta period were just from word of mouth and people finding us. It was kind of hard to even find the Storm button on our website. So yes, we will up the go-to-market mechanism for Storm and try to expand that as quickly as we can.

We will make sure that our existing field organization has access to, and motivation to, also push this cloud offering. I know there’s a sense that traditional field organizations have had difficulty selling both an on-prem and a cloud offering.

We think we’re going to be a little bit of an exception to that rule in that we are already in major corporations in IT. Those are the same exact corporations who have developers who are going to the cloud to start up their development projects. We need to further penetrate. That’s an expansion opportunity inside of large corporations for us, and young corporations.

It’s been an opportunity for us to expand from IT into dev. So it’s critical that we use one to complement the other. So we expect to both be active in a go-to-market capacity and also use our existing go-to-market engine to help with the normal web-based activities.

Greg McDowell - JMP Securities

And one quick follow up. Just the capex requirements to run Storm? I know you’re on AWS, but I was just wondering, as Storm starts to take off, if we should see sort of incremental capex costs.

David Conte

As I mentioned, we’re going to evaluate the momentum and utilization of the infrastructure we have, and as we make decisions around that we’ll certainly let the group know.


Our next question comes from Ed Maguire from CLSA.

Ed Maguire - CLSA

I was wondering if you could draw some distinctions between expansions and upgrades, which seem to be tracking really well. Is there a way that you can characterize the relative impact of expansion of data within a single use case, where somebody may be adding new forwarders and additional data capacity versus an existing customer expanding uses of Splunk to different applications or different domains?

Godfrey Sullivan

It’s a great question, and it’s a hard one to answer. So when we engage in a customer conversation about an upgrade, what we call an upgrade, that’s usually an existing index where they’re moving from 50 GB to 100 GB of indexing capacity. But guess what? What drove that expansion of usage of gigs? Additional data sources.

So it’s kind of a rough classification so that we can keep track of where are we going into a new department with a new sale, which we call an expansion, versus an existing indexer that’s… So, you could split hairs on this thing. It wouldn’t be hard to say, well, there’s not much difference, because in one it was more data sources and more use cases that drove the additional data volume, and in the other case it was more data sources and a new use case.

The way we’re trying to define it is so when we say expansion, you’ll know it was an existing customer, new sale cycle, different department, probably a different economic owner, and that’s how you can sort of tell the difference. But there are times when it’s a fine line between the two.

Ed Maguire - CLSA

And one last question is really a follow up on competition. I know your offering is pretty unique, but as you’re growing and you have more potential for displacement of existing point products, are you seeing any patterns or any changes in terms of the alternatives that your customers may be evaluating as they look at different uses of Splunk and any potential competitors on the horizon?

Godfrey Sullivan

There’s plenty of competitors. Every time we go into a customer, especially when it’s a point seems like conversation, if it’s a security use case, they’re comparing us against all the normal security suspects. And when we go into some operational use case, it’s the same.

We’re always trying to broaden the conversation so that they’re thinking about Splunk as a data platform of which this use case is the first, but not the last, use case. And that’s really the place where we differentiate ourselves from all those other systems vendors, security vendors, web vendors, because nobody else has that flexible data platform engine that can unify all these different data sources and give comprehensive views of everything from systems metrics, to business operational metrics, to customer trends, to product popularity.

I mean, we have to educate the customer on why they should think about Splunk as an engine for all their machine data and, oh, by the way, we’re winning this one project. As long as we can continue to reposition the conversation so that they understand what we do best, then we stand a good chance of winning. If we just get dragged into a very narrow point solutions conversation, you know, the other guys know how to sell too. But that’s what we’re trying to do.


Our next question comes from James Gilman from Drexel Hamilton.

James Gilman - Drexel Hamilton

I just wanted to follow up a little bit on the competition a little bit more, and more specifically with the cloud offering. Have you encountered maybe a turn there with the competitors that maybe offer cloud, and maybe beyond, from a development standpoint? And then the follow up on that would be around the ecosystem. I don’t think I’ve heard that word today, but you have these apps that you keep rolling out, and does that ecosystem, as it builds these apps, does that make your solution a bit lower more sticky to fight off the competition?

Godfrey Sullivan

It’s a little early for me to give a competitive report on the Storm product and the cloud. I can tell you that the customers with whom I have personally spoken, who have used Storm, are delighted with how easy it is to set up an account, and how easy it is to get their data into the system, and how easy it is to see the visibility and transparency they’re looking at for their dev projects.

I don’t yet have conversations with customers who have said I looked at the other guy’s stuff… The guys who run our Storm system clearly could, but it will take me another 90 days to sort of get up to speed on that. So if you don’t mind, let me defer that one until next quarter’s earnings call and we’ll have had the service live long enough to probably have some good color for you on that. But so far, so good.

On the ecosystem, yes, we have an active ecosystem. I mean, just as an example, our technical support organization not only has their phones and their email system, but they have a system called Splunk Answers that’s very tightly linked to our user community. And of all the questions worldwide that come into Splunk Answers every day, about 70-75% of those answers are provided by our community before our own technical support people can answer it.

So it’s not just the apps business. It will be the cloud, it will be the developers. It’s the ecosystem. It’s the support organization. It’s their help with our Splunk Lives. We are very actively involved with our customer ecosystem, apps being one good example. So yes, we intend to use that ecosystem to their advantage and ours, and hopefully that provides additional stickiness.


Our next question comes from Peter Goldmacher from Cowen & Company.

Peter Goldmacher - Cowen & Company

I just wanted to ask one more question on SplunkBase. It seems like a lot of the new apps that are being written for SplunkBase that you guys are talking about are pretty consistent with use cases you guys are already seeing and your customers are already using. Are you starting to see, on the fringe, any new apps being added to SplunkBase that are taking the product in a different direction? And if so, can you talk a little bit about those?

Godfrey Sullivan

Maybe not, Peter, from an apps sense, but let me just give you one quick example. A couple weeks ago, a young lady was in here in our offices from Tokyo representing a large Japanese manufacturing conglomerate. And she was here to do a POC with us, a two-day POC.

And what did she want to do? She wanted to move all of their elevator data from the 4,000 buildings they have in Japan that have their elevators. And they are going to use that data not to understand the health of the elevator, but to understand the economic health of the building.

You say, how does that work? Well, they have come to the conclusion that if you track all the elevator data, you’d get a better sense of is the person whose lease is coming up for renewal on floor 12 more or less likely to renew based on the amount of traffic going to that floor?

And so I was quite surprised that they had sort of come to the realization that the machine data coming out of their elevators was one of the most important data sources that they could possibly mine in order to have a better forward trajectory against what their economic health will be of any given building.

And it was just a fascinating conversation to show how this whole notion, where we’re educating the world on the value of machine data, is starting to take hold, and we’re starting to have very interesting conversations.

We just had one with a very large American industrial manufacturing conglomerate in here last week, and they wanted to talk to us about very similar conversations around building systems, turbine engines, you name it. Because the data that these systems are spewing off is coming in high volume, in variable formats, and needs to be combined with data from lots of other sources in the business so that you get intelligence out of it.

So yes, we’re beginning to see some conversations that are very different than our normal IT business and we’re really thrilled about, and spending a lot of time on it. But I’d say the apps will probably follow that as opposed to lead it, if that makes sense.


And our final question for today comes from Kash Rangen from Merrill Lynch.

Kash Rangen - Merrill Lynch

Godfrey, one question for you. When you look the the positioning of Splunk as an enterprise data platform, you’ve been in enterprise software for a long time, Hyperion notably before that. Are you starting to see any early emerging signs that Splunk is becoming a broader enterprise platform in the sense that you’ve got a pipeline, the scope of some of these transactions? Are you starting to see those multimillion type potential deals that can really land Splunk in the same league as some of the broader enterprise platform companies? I know it’s sort of a broad question, but trying to gauge how much more headroom there is to grow the company.

And one for you, Dave. Last quarter we saw a trend where there was more license deferral. I think you were trying to make the point that your license billings, if you will, if you were to calculate that, would have been growing at a faster pace than the reported license. So when I look at the numbers this quarter, it does appear to be the case that term being higher and perhaps deferral of licenses due to [unintelligible] or whatnot could have also played a factor. Is it fair to make the same kind of observation that license billing has sort of grown faster than reported licenses this quarter?

Godfrey Sullivan

So I’m going to give you a two-part answer to your question. When Splunk first goes in, when customers often choose us for the initial use case, we often go in as an IT diagnostics and troubleshooting tool. In fact, we’re going to come over and troubleshoot your phone system and show you what went wrong with it.

But what happens is, after folks get it in for a while, and then start to understand the power of what Splunk can do, the number of data sources it can ingest, the rate at which it can do so, and the way it’s able to visualize these correlated relationships, finally the light bulb goes on, and they go wow, this thing is as important to me for the semistructured data as my relational database is for the structured data.

And if you had seen the CloudShare presentation at VMworld yesterday, they’re basically using Splunk as the data fabric. It is their data hub that gathers data from every other system they have in their business and pipes it out to some of their other operational systems like Salesforce and the like.

So yes, I think our ability to expand into a place in the IT infrastructure dwarfs that of the Hyperion base. Dwarfs it.

David Conte

I do think the composition of deferred and the growth metrics is consistent from what we talked about this quarter, whether it be term transactions or various rev rec items. We’re seeing a larger component of deferred in the license category than we had a year ago.

Ken Tinsley

Okay, listen. Thanks everyone for participating today, and operator, thanks for your help. As always, we’re here at headquarters if you need to reach us. We’ll be happy to assist you. Have a good evening. Thanks again.

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