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Edited Transcript of CSOD earnings conference call or presentation 7-Aug-18 9:00pm GMT

Q2 2018 Cornerstone OnDemand Inc Earnings Call

SANTA MONICA Aug 21, 2018 (Thomson StreetEvents) -- Edited Transcript of Cornerstone OnDemand Inc earnings conference call or presentation Tuesday, August 7, 2018 at 9:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Adam L. Miller

Cornerstone OnDemand, Inc. - Founder, President & CEO

* Brian L. Swartz

Cornerstone OnDemand, Inc. - CFO

* Jennifer Gianola

Cornerstone OnDemand, Inc. - VP of IR

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Conference Call Participants

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* Aleksandr J. Zukin

Piper Jaffray Companies, Research Division - MD and Senior Research Analyst

* Bradley Hartwell Sills

BofA Merrill Lynch, Research Division - VP

* Corey Adam Greendale

First Analysis Securities Corporation, Research Division - MD

* Jesse Wade Hulsing

Goldman Sachs Group Inc., Research Division - Equity Analyst

* Justin Allen Furby

William Blair & Company L.L.C., Research Division - Research Analyst

* Pinjalim Bora

JP Morgan Chase & Co, Research Division - Analyst

* Scott Randolph Berg

Needham & Company, LLC, Research Division - Senior Analyst

* Sitikantha Panigrahi

Wells Fargo Securities, LLC, Research Division - Senior Analyst

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Presentation

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Operator [1]

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Good day, ladies and gentlemen, and welcome to Cornerstone OnDemand Second Quarter 2018 Earnings Call. (Operator Instructions) As a reminder, this conference call is being recorded.

And now I'll turn the call over to over to Jennifer Gianola, VP of Investor Relations for Cornerstone OnDemand.

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Jennifer Gianola, Cornerstone OnDemand, Inc. - VP of IR [2]

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Good afternoon, everyone, and welcome to Cornerstone OnDemand's Second Quarter 2018 Earnings Conference Call. As always, today's call will begin with Adam Miller, Chief Executive Officer, who will provide an overview of our performance; and then Brian Swartz, Chief Financial Officer, will review some key financial results for the quarter, which ended on June 30, 2018. Later, we will conduct a question-and-answer session.

By now you should have received a copy of our press release, which was released after the market closed today, and was furnished with the SEC on Form 8-K. You can also access the press release and its related investor materials, including detailed financials, on our Investor Relations website. As a reminder, today's call is being recorded, and a replay will be made available following the conclusion of the call.

Our discussion will include forward-looking statements including, but not limited to, statements regarding the expected performance of our business, our future financial and operating performance, including our GAAP and non-GAAP guidance, strategy, long-term growth and overall future prospects. Forward-looking statements involve risks, uncertainties and assumptions. These risks, uncertainties and assumptions as well as other factors that could cause results to differ materially from those contained in our forward-looking statements are included in our most recent Form 10-K and subsequent periodic filings with the SEC.

During the call, we will be referring to both GAAP and non-GAAP financial measures. All financial figures discussed today are non-GAAP unless we state that the measure is a GAAP number. The reconciliation of our GAAP to non-GAAP information is provided in the press release and on our website.

Please note that we have made some changes to our disclosures, in part due to the new ASC 606 revenue recognition standard. All financial figures discussed today are on the ASC 606 basis unless we state that the value is on an ASC 605 basis. Please refer to our press release and supplemental financial deck on our Investor Relations website for a summary of changes to the non-GAAP financial measures.

With that, I will turn the call over to Adam.

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [3]

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Thanks, Jennifer, and thank you to everyone for joining us today. Since November, we have been executing against our 5-point plan to transform Cornerstone into an industry-leading, high-margin growth company. Today, I'm pleased to report that we have continued to make strong progress against that plan, and it is working as demonstrated by our solid performance in the quarter and through the first half of this year.

Let's start with the latest developments of our transformation plan, and then I'll provide more color on our quarterly performance and product road map. As previously discussed, the first point of the plan is a renewed focus on recurring revenue. To that end, we exited the services delivery business by transitioning onetime implementation services to delivery partners, and we eliminated quota credit and commissions for all nonrecurring sales. These changes resulted in a dramatic shift in our new ARR mix.

Through the first half of the year, sales from onetime services decreased by approximately 60% year-over-year. On the flip side, during the same period, recurring sales grew over 30%. As we have made this transition, our partner ecosystem has responded by expanding their Cornerstone practices. We now have more than 400 certified consultants who have completed more than 900 product certifications to date. With nearly 150 new consultants added to our partner ecosystem and more than 200 new product certifications earned since January, our partner ecosystem has been significant -- has seen significant growth this year as it ramped up to support increased demand in growing pipelines. We expect the broader partner ecosystem will continue to grow and influence client wins as we combine forces on lead generation, account planning, marketing and systems integrations.

The second point of our plan is to improve operating margins and free cash flow. With the December 2017 workforce reduction behind us, we are now operating as a leaner, stronger team, in line with our plan to get fit and grow. Sales rep productivity through the first half of 2018 as defined by new ARR per rep was up over 50% year-over-year. In addition, Q2 saw significant achievements in our operational excellence initiatives, resulting in operational improvements across the organization. First, our finance and operations teams reached a major milestone in Q2 with the go live of an important Salesforce to NetSuite integration. This integration was expected to improve productivity for our accounting team.

Second, our field operations team made strong progress towards our goal of world-class business intelligence. With the help of Salesforce's Einstein dashboards, we now have the ability to analyze the real-time performance of our field sales teams around the world across a wide range of metrics. Third, as part of our ongoing strategic sourcing initiatives, we have made meaningful strides in reengineering our procure-to-pay process with best practice vendor engagement, bidding and negotiating enabled by leading procure-to-pay technology. We implemented CUPA in the U.S. and in EMEA in Q2, which facilitates repeatability and scalability, while promoting visibility and control around spend management. These changes, which represent a large step forward in the evolution of our business infrastructure, are expected to help Cornerstone further optimize its spend, particularly in the areas of technology, marketing, services and G&A.

Beyond these improvements, we believe there are incremental efficiencies to be gained through further strategic sourcing, automation and process improvement initiatives. We believe these improvements will flow through to free cash flow.

The third point of our plan is the development of new recurring revenue streams. The most notable of these are the new Content Anytime subscription offerings we launched in Q4 of last year and began selling through our global sales team beginning of this year. We talked about the momentum we've had in the content area since launching Content Anytime, and that trend has continued. In the second quarter, we had our largest content sale in Cornerstone's history and almost tripled the number of Content Anytime wins from the prior quarter, which resulted in nearly 200% growth in content sales from the prior year, albeit based on a relatively small scale.

Although we are still in the very early stages of our content offering, we maintain our belief that content has the potential to become as large as our entire learning business over time, which was approximately $225 million in annual recurring revenue in 2017. To further drive adoption of our content offerings, we recently announced the planned rollout of additional Content Anytime subscriptions that are curated for specific industries, regions, job functions and thematic areas such as digital transformation.

In addition to content, we've had success converting some of our nonrecurring services into recurring offerings. We have seen strong attached rates across our installed base of our new Client Success packages and have been able to move some of our technical services to recurring technical services, further supporting the growth of new recurring revenue.

The fourth point of our strategic plan involves bolstering the management team to help us scale. In addition to the many new senior executives we've announced this year, we have been strengthening management at all levels of the business around the world through a combination of internal promotions and external appointments. Through all of the change, the strength of our Cornerstone culture has been a critical factor contributing to our success.

The fifth and final point of the plan involves strengthening corporate governance. At the June 2018 Annual Meeting of Stockholders, the shareholders approved the appointment of 3 accomplished software industry CEOs: Elisa Steele, Richard Haddrill and Marcus Ryu to the board. Ms. Steele was also appointed to serve as the Chair of the Board. In addition, the shareholders approved the declassification and annual election of the Board of Directors starting in 2019. While much more work is required to achieve our financial and operational goals, we have clearly demonstrated strong progress against our strategic transformation plan.

Now let's discuss our Q2 performance in more detail. Second quarter subscription revenue came in above our guidance at $115 million, representing reported growth of 19% year-over-year and constant currency growth of 17% year-over-year. Through the first half of the year, subscription revenue saw year-over-year growth of 20% and constant currency growth of 17%. In addition, we continue to see improvements in profitability with $13 million in operating income or 10% in operating margin for the quarter. Through the first half of the year, we generated $26 million in operating income, resulting in a 10% operating margin.

In the second quarter, we expanded our organically grown client base to more than 3,300 enterprise and mid-market organizations from all over the world. New client additions include the world's largest social network, CHN Industrial (sic) [CNH Industrial] in Italy, a leading Swiss pharmaceutical company, Textron, SSAB in Poland, the leading bank in Morocco, Jebsen Group in Hong Kong, CoreCivic, Dyson James Group in the U.K., BPW in Germany, the largest trading company in Taiwan and GEFCO S.A. in France, among many more. Today, our client base includes global leaders in virtually every vertical, which has enabled us to build one of the largest subscriber bases of any software provider in the world with nearly 37 million subscribers.

Our solid performance for the quarter was driven by success across many teams. Our public sector team, which now includes federal, state and local, K-12, higher ed and health care saw its strongest quarter. To name just a few public sector wins in the quarter, we added the Virginia Department of Fire Programs, the California Department of Consumer Affairs, the city of Bellevue, Washington, in state and local, the Alabama Community College System and Portland Community College in higher ed, the Irvine Unified School District in K-12 and DHC Healthcare, Catholic Health Initiatives and Cardinal Health in health care. The public sector, which has often lagged the private sector by 3 to 4 years, is now in the early stages of undergoing a major digital transformation. We believe our existing presence in the public sector, combined with our commitment to product innovation, is positioning Cornerstone as the premier talent partner for public sector agencies that are transitioning to the cloud.

The remaining teams in North America were also strong contributors in the quarter, delivering new ARR growth of 50% year-over-year. Led by a particularly strong performance from the North American enterprise team, one of our largest wins in the quarter came from a Fortune 10 technology company who outgrew their internally developed learning management system. The client purchased our Learning Suite for 75,000 users to support their compliance-heavy requirements and global learning needs. Another large win in the quarter came from an American global aerospace and defense company who purchased the Cornerstone Learning Suite against incumbent SAP due to our superior support capabilities and ability to incorporate client feedback into our product road map.

Abroad, we saw continued success in EMEA. The client sales team had its stronger -- strongest quarter ever and saw our installed base of clients increase their Cornerstone footprint with incremental modules, including Cornerstone HR and new recurring revenue streams such as content and client support packages. The U.K., France and Italy were the strongest performance in the quarter, and we further cemented our presence in the region with the opening of new data centers in France and Germany.

Even with all of the organizational change and sales activity, we have not stopped driving innovation. We have drastically improved our Recruiting Suite. Our May release enabled a cutting-edge candidate experience and a streamlined recruiter experience to enable more efficient candidate management. With our August release, we enabled ultra-high-volume recruiting to help some of the world's largest organizations to attract the right employees. Within our Performance Suite, our redesigned career center, which we previewed in June at Convergence, will provide a central place to manage all career resources, applications and referrals while making it easier for employees to explore suggested career paths and the skills needed for specific positions.

On the learning front, we further expanded our content and learning partners with premier learning content providers, including Bookboon, ENI, Pluralsight and Whil, and we developed new learning integrations with Facebook and LinkedIn to weave learning into the daily flow of work for employees. We also continue to enhance our learning experience platform to give our users a Netflix-like experience when developing themselves. Within the HR Suite, we continue to enhance our employee and manager self-service capabilities, user record functionality, collaborative workforce planning and analytics.

Our ongoing innovation continues to garner significant industry recognition. In July 2018, Cornerstone was named a leader in all 2018 IDC MarketScape reports on integrated talent management, including learning performance and compensation management. In addition, IDC's Worldwide Human Capital Management report published in June 2018 highlighted Cornerstone as a "significant force in the talent management suite market" and identified Cornerstone as one of the top 3 fastest growing pure-play cloud vendors. For the fifth year in a row, Aragon Research ranked Cornerstone Learning as a leader in the 2018 Globe for Corporate Learning report based on completeness of strategy and performance. And in May, Cornerstone was recognized as a leader in the 2018 NelsonHall Next Generation HCM Technology Vendor Evaluation for the mid to large focus segment. I would like to point out that the recognition by NelsonHall marks the third time in 12 months that independent analysts have named Cornerstone as an HCM leader in their reports, further endorsing the validity and demand for our HR Suite offering.

As you can see, even while rapidly transforming our company and delivering strong business results, we've continued to innovate.

With that, I'd like to turn it over to Brian to discuss our second quarter financial performance and outlook in more detail.

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Brian L. Swartz, Cornerstone OnDemand, Inc. - CFO [4]

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Thank you, Adam, and good afternoon, everyone. As Adam just discussed, our performance in Q2 showed strong progress in growing recurring revenue and improving profitability. Although we still have a lot of work to do to achieve our long-term goals, we're pleased with our performance so far this year.

In the second quarter, total revenue came in at $133 million, representing a year-over-year increase of 14% or 11% on a constant currency basis. With respect to annual recurring revenue, also known as ARR, we are pleased with our progress in the first half of the year and, accordingly, we're raising our full year guidance, which I will discuss shortly.

Subscription revenue exceeded the high end of the guidance range by $2 million, coming in at $115 million, representing a year-over-year increase of 19% or 17% on a constant currency basis. Under ASC 605, subscription revenue growth was 21% or 19% on a constant currency basis. This outperformance was primarily related to better linearity in the quarter.

Services revenue in Q2 came in at $18 million, which is nearly $2 million more than we had expected. This is due to us intentionally driving down our services backlog as we exit the enterprise implementation business, which we've been able to do at a faster pace than we expected. Even while we've aggressively burned down the backlog, we continue to pay for certain services when Client Success demands it.

A few other key Q2 metrics. The size of our client base increased to 3,363 as of June 30, representing 83 net new client additions during the quarter. We remain keenly focused on maintaining our industry-leading dollar-based retention rates through disciplined operation procedures, driving renewals and client satisfaction. We added more than 600,000 net users during the quarter, bringing our user base to approximately 37 million users.

It's worth noting that while user growth represents a tremendous future opportunity for us, we expect our revenue growth to be less correlated to user growth as we move forward. This is primarily due to selling multiple suite offerings, several product add-ons, including content and Cornerstone HR, and having a very large installed base in general. Furthermore, we have 1,851 employees as of June 30, representing a 4% decrease over the prior year.

Our gross margin was 73% in the second quarter, representing 60 basis points of improvement from the prior year. The improvement in gross margin was driven by a higher mix of subscription revenue.

With respect to operating expenses for the quarter, sales and marketing expense maintained its record low 40% of revenue in Q2, driven largely by reduced sales headcount and improved sales execution. To give you some perspective, just 2 years ago in Q2 of 2016, sales and marketing expense was 48% of revenue or 800 basis points higher than it is today. Going forward, we expect further improvement and sales efficiency as we continue to improve our sales management processes and achieve productivity improvements.

Continuing down the P&L. R&D expense was 11% of revenue, in line with the prior year. I'd like to point out that R&D expense, including capitalized software development cost for the quarter, was $20 million or 15% of revenue, also in line with the prior year.

In the second quarter, G&A was 13% of revenue, representing a year-over-year improvement of 100 basis points, largely attributable to early automation gains. We expect to see further G&A optimization over time as our operational excellence initiatives are fully implemented. Overall, this resulted in Q2 operating income of $13 million or a 10% margin, which represents a 900 basis points improvement from the prior year operating margin of 1%. This is largely driven by a 700 basis point improvement in sales and marketing expense as a percentage of revenue.

Net income for the quarter was $8 million or $0.12 per diluted share compared to $0.02 in the prior year. It's also worth noting that our new 2021 convertible note is not dilutive to our share count and EPS calculation until we generate roughly $170 million in net income.

With regard to cash flow, unlevered free cash flow improved year-over-year by nearly $13 million to $8 million in the second quarter, representing unlevered free cash flow margin of 6%. We exceeded our expectations on quarterly cash flow, primarily due to timing, driven by billing and collection process improvements as well as $3 million of cash payments associated with our new France and Germany data centers that were deferred to Q2 -- rather, Q3. As Adam mentioned, the new European data centers went live as planned in Q2.

Now let's turn to the balance sheet. We continue to maintain a well-capitalized balance sheet. As of June 30, we have $645 million of cash and investments. Additionally, we have $540 million in carrying value of debt. After quarter-end, we used approximately $253 million of our cash and investments to pay off our 2013 convertible notes, which came due on July 1.

In November of 2017, our Board of Directors authorized a $100 million share repurchase program. In the second quarter, we repurchased approximately 444,000 shares, totaling $21 million. From inception through last Friday, we repurchased 1.5 million shares at an average cost of about $40 per share for a total of $61 million.

Now let's turn to our 2018 outlook, which has been developed using the best information we have as of today. Please note, we have included a supplemental financial deck on our Investor Relations website to best follow along as I discuss our updated guidance. As a reminder, all guidance assumes ASC 606 but you can view the ASC 605 guidance for comparative purposes in the supplemental deck.

Our guidance has been impacted by currency headwinds, resulting from the strengthening of the U.S. dollar relative to the British pound and euro since we last issued guidance on our Q1 earnings call. Specifically, the U.S. dollar strengthening has resulted in a revenue headwind of $4 million and an ARR headwind of roughly $5 million. Our current guidance assumes the U.S. dollar to British pound exchange rate of 1.30 to 1, down from 1.36 at the time of our last earnings call, and a U.S. dollar to euro exchange rate of 1.16 to 1, down from 1.20 at the time of our last earnings call. If the U.S. dollar were to further change by 5%, the impact is approximately $7 million to ARR and $4 million to revenue.

As I mentioned earlier, I encourage you to reference the supplemental financial deck as I discuss the following guidance. For the third quarter of 2018, we expect total revenue in the range of $129 million to $131 million and subscription revenue in the range of $115 million to $117 million. At the midpoint of $116 million for subscription revenue, this represents approximately 15% reported and constant currency growth. On an ASC 605 basis, these growth rates are approximately 2 points higher at 17% each.

Regarding full year revenue guidance, we are raising our currency-neutral guidance from $503 million to $511 million to a range of $524 million to $530 million, which increases the midpoint by $20 million. On a reported basis, those numbers are impacted by $4 million of currency headwinds, resulting in an increase to the midpoint of $16 million for an expected reported range of $520 million to $526 million.

We are also raising our currency-neutral full year subscription revenue guidance from a range of $453 million to $461 million to a range of $463 million to $469 million, which increases the midpoint by $9 million. On a reported basis, those numbers are also impacted by $3 million of currency headwinds, resulting in an increase to the midpoint of $6 million for an expected reported range of $460 million to $466 million. At the subscription revenue midpoint of $463 million, this represents approximately 17% reported growth and 16% constant currency growth. On an ASC 605 basis, these growth rates are approximately 1 point higher at 18% and 17%, respectively.

I would like to remind you the total revenue guidance reflects our best estimate of the pace at which services revenue will roll off to our partners. As we continue to move more -- move service projects to our partners, we currently believe services revenue will be down 30% in the third quarter and 30% for the full year, both on a year-over-year basis. The pace of the roll-off could be meaningful -- meaningfully faster or slower, which would impact total revenue but not our subscription revenue. Our goal is to have our Q4 services revenue represent our ongoing run rate, which would imply quarterly services revenue of about $10 million in 2019.

Given the strength in new ARR so far this year and our best estimate for the second half of the year, we are raising our currency-neutral full year ARR guidance range from $477 million to $495 million to a range of $489 million to $505 million, which increases the midpoint by $11 million. On a reported basis, those numbers are impacted by $5 million of currency headwinds, resulting in an increase to the midpoint of $6 million for an expected reported range of $484 million to $500 million. At the midpoint, this represents approximately 12% reported growth and 13% constant currency growth over the 2017 ARR of $439 million.

As you think about modeling our business, please be mindful that our strong performance in the first half of 2018 included some large deal execution. Our top 3 deals represented nearly 15% of new ARR in the first half of 2018, which is more than double the percentage from the first half of 2017. As I previously mentioned, we will only disclose ARR for the full year as it is best viewed on an annual basis, given the seasonality of our business.

Moving on to profitability. We are raising our currency-neutral 2018 operating income to a range of $59 million to $65 million, which increases the midpoint by $4 million. On a reported basis, these numbers are impacted by $1 million of currency headwinds, resulting in an increase to the midpoint of $3 million for an expected reported range of $58 million to $64 million. This results in an operating margin of 11% to 12%.

It's worth noting that just over 50% of the $20 million increase in currency-neutral revenue is services-related, which has little impact on operating income. The remaining $9 million of currency-neutral subscription revenue drives approximately $4 million of higher operating income for the year. We have opted to take some of the incremental profitability and invest it back into the business to drive operational improvement initiatives.

Also, please note that the pace at which the services revenue rolls off should have very little impact on the dollars of operating profit but will impact operating margin. For Q3, we expect operating income to improve slightly from the Q2 operating income of $13 million.

Regarding cash flow. For the full year 2018, we are raising our currency-neutral unlevered free cash flow guidance range from $52 million to $60 million to a range of $57 million to $63 million, which increases the midpoint by $4 million. Similar to operating income, on a reported basis, the numbers are impacted by $1 million of currency headwinds, resulting in an increase to the midpoint of $3 million for an expected reported range of $56 million to $62 million. Please note, this excludes $14 million of cash interest expense. Assuming services revenue is down 30% by the end of 2018, this amounts to an unlevered free cash flow margin of 11% to 12%.

As I discussed at the Financial Analyst and Investor Day, there are 2 significant items impacting the 2018 cash flow that should be highlighted. The first is CapEx associated with new tariffs and Frankfurt data centers, which impacts the margin by about 1 percentage point. The second is the working capital impact of exiting the services business, which should impact the margin by an additional 3 percentage points. We do not expect this roughly 4-point hit to free cash flow margins to reoccur in future years.

Regarding the timing of the second half unlevered free cash flows, we expect the remaining $61 million, which is the midpoint of our full year guide, to be split roughly 40% in Q3 and 60% in Q4. With respect to long-term margin targets, as we discussed at the Financial Analyst and Investor Day, we believe the ongoing transformation of our business will result in achieving the Rule of 40, which we define as the sum of annual revenue growth and unlevered free cash flow margin, by 2020. As you can see in our supplemental financial deck, although there are various scenarios that can get us there, assuming we maintain moderate top line subscription revenue growth, we believe we can generate roughly $150 million in unlevered free cash flow or approximately $2 per diluted share by 2020.

Finally, I'd like to announce that we plan to attend several upcoming investor conferences this quarter, including the Canaccord Genuity 38th Annual Growth Conference, the Piper Jaffray Tech Select Conference and the Deutsche Bank Technology Conference. We will also be marketing in Baltimore, Pennsylvania, New Jersey, Denver, Houston, Dallas and Austin. If you would like to participate in any of those meetings, please reach out to our Investor Relations team.

In summary, we are pleased with our performance in the first half of the year and believe we're on track for a solid 2018.

With that, I'll turn it back to Adam.

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [5]

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Thanks, Brian, and thank you to everyone who joined us today. As we have discussed, we are pleased with the continued progress we have made against all aspects of our transformation plan and the continued early indicators of success. We believe these changes are laying the foundation for a stronger, fitter Cornerstone and will drive better financial results and business impact to our global stakeholders into the future.

We will now take your questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Alex Zukin of Piper Jaffray.

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Aleksandr J. Zukin, Piper Jaffray Companies, Research Division - MD and Senior Research Analyst [2]

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So Adam, your results are starting to show much more consistency from our vantage point. Can you speak today what you're seeing in your sales org as you look at rep productivity? And when do we get to start thinking about layering on more capacity? And I've got a quick follow-up.

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [3]

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Yes. So as you know, we reduced the size of the global sales force at the end of last year. We have seen a dramatic increase in rep productivity, as I said during the prepared remarks, over 50% increase in rep productivity this year looking at annual recurring revenue. And we think there's more room to go in the future as we continue to refine our messaging, our positioning, as our products continue to improve and as our reps become more and more tenured. We've also seen very good stability on the sales force, and we see that globally. So all of that is helping with our competitive positioning and helping with rep productivity, and we think there's more room for improvement.

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Aleksandr J. Zukin, Piper Jaffray Companies, Research Division - MD and Senior Research Analyst [4]

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Got it. Then Brian, you mentioned some interesting statistics about kind of large deals in the first half of the year with respect to last year. I'm curious if you could comment on whether these large deals you feel like signed earlier than you would have expected. And maybe how does your large deal pipeline compare to the second half of the year versus this time last year?

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Brian L. Swartz, Cornerstone OnDemand, Inc. - CFO [5]

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Yes. So I'll let Adam kind of generally talk about the pipeline, but what I will tell you, Alex, I wouldn't -- they did not sign earlier than we just expected, we executed those deals in the first half, and I was simply highlighting that because as you and others start thinking about your views of 2019 and '20, I wanted you to understand that there's a greater concentration of the new bookings or new ARR in the first half than we've traditionally seen. So we'll see how the second half plays out and talk more about it in the future quarters, but that was the point of me trying to highlight that.

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [6]

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Generally good success with large deals. We've seen that, obviously, last year. We saw that in the first half of this year, and we think that will continue into the future.

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Operator [7]

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Our next question comes from the line of Scott Berg of Needham.

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Scott Randolph Berg, Needham & Company, LLC, Research Division - Senior Analyst [8]

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I did jump on late, so I apologize if any of this was asked. I just wanted to see if you could, maybe Adam, help us unpack the ARR guide, or maybe Brian. And I view that in terms of, is there a product set that's materially selling better year-to-date than what you would have thought? Obviously, you guys do learning and performance [value], you've got a couple of new products, just trying to help us understand maybe if there's products which are driving the incremental ARR.

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [9]

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Yes. I would say there's nothing unusual about the product mix. I think we're seeing good results across the board. Obviously, we added some new recurring revenue streams like content and our Client Success packages. But generally, we're just seeing good rep productivity around the world, and we're seeing it across all teams.

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Scott Randolph Berg, Needham & Company, LLC, Research Division - Senior Analyst [10]

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Got it, helpful. Then my follow-up is on the sales side as well. We've had some pretty good checks, I think, on the content side of your business in terms of general pipeline traction there. Is that a product do you think you can sell net new today? Or is it still viewed maybe more as an upsell to existing LMS?

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [11]

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No, we are absolutely selling it both ways, both to existing clients and with net new deals.

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Operator [12]

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Our next question comes from the line of Brad Sills with Bank of America Merrill Lynch.

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Bradley Hartwell Sills, BofA Merrill Lynch, Research Division - VP [13]

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Just one on the content business. Are there any verticals there that you feel or you're already seeing some traction in, maybe some where you're investing in that you could see traction going forward just in terms of the partners that are providing that content?

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [14]

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Yes. So there's been no concentration to date. We've actually seen pretty good success with content across segments, across geographies and across verticals. Having said that, we think there's a very large opportunity to verticalize our content subscriptions. It's something that we are focused on doing over the next few months. And we are strong believers in the health care vertical, specifically. We think there's a lot of opportunity to sell more content into that vertical. We also think there's opportunity regionally. So regionally specific Content Anytime subscription libraries, for example, in France, in Germany and in Spanish-speaking countries. So we think there's a lot of opportunity ahead. Right now, we've been focused on what we call Content Anytime essentials, and that's seen good response around the world already.

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Bradley Hartwell Sills, BofA Merrill Lynch, Research Division - VP [15]

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Great. And then one more if I may, please. You mentioned Cornerstone HR is strong. I presume that's primarily Europe. Any plans to bring that into the U.S.?

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [16]

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Yes. So that is almost exclusively Europe when we talk about Cornerstone HR. We do sell it in other parts of the world, but we have not been selling it in the U.S. and don't intend to over the next year or so. But over the longer term, absolutely, we will bring Cornerstone HR to the U.S.

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Operator [17]

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Our next question comes from the line of Justin Furby of William Blair & Company.

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Justin Allen Furby, William Blair & Company L.L.C., Research Division - Research Analyst [18]

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I guess a couple of questions. Maybe to start, Adam, the productivity increase you're seeing, can you unpack that between the back-to-base team doing a better job selling incremental modules versus the hunters showing more productivity? Or is that really just looking at the hunter team when you gave that metric?

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [19]

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No, it's both. It's across the board. We've seen improvements in productivity on all teams. I would say it's attributed to a couple of things. One is an extreme focus on recurring revenue. So we took away, as everybody knows, at the beginning of the year, commissions and quota credit for nonrecurring business. That got our sales team very focused on driving recurring revenue, and the results are very clear. We also introduced new recurring revenue streams, Content Anytime, Client Success packages, the connectors that we offer on the technical services front. And all of that provides incremental opportunity for those same sales reps, which has helped them drive increased productivity. And again, we think there's opportunity to keep growing rep productivity into the future.

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Justin Allen Furby, William Blair & Company L.L.C., Research Division - Research Analyst [20]

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Got it. And then if you look at the subscription revenue just sequentially, I think you added a little less than $2 million this quarter versus last, and you're guiding to kind of a similar amount. And I think that currency takes a little bit out of it. But it looks like you guys are adding a fair amount less quarter-over-quarter than you were last year. I'm just trying to reconcile that with the bookings. And maybe you can hit on retention and what you're seeing there through the first half of the year versus last year, if there's something else I'm missing.

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Brian L. Swartz, Cornerstone OnDemand, Inc. - CFO [21]

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Yes, Justin. So keep in mind, it's obviously all trailing. So the way the deferred revenue waterfalls flow off is some -- many of the bookings still from last year are sequentially changing subscription revenue from Q2 to Q3. It's more of a function of bookings last year than necessarily bookings directly in Q1 or Q2, so you got the impact of kind of the last 4 quarters rolling out. And it's just what we're seeing in the waterfalls when we do that. So you'll see a greater -- assuming our momentum continues into Q3 and Q4, I would expect in next year that you would see the sequential increase in subscription revenue to be more than what you're seeing now in Q1, 2 and 3, if that makes sense. And then with respect to retention, we continue to stay focused on that. As you know, it's not something we comment on kind of inter-quarter but we do, obviously, disclose the dollar base retention at the end of the year. And it's an area of big focus for us, in particular, Jeff Lautenbach, our President, has been working with the [Aussie] team to just be more disciplined around managing renewals in general which, obviously, will impact the dollar base retention. So we are very focused on it, and we'll talk more about it here in the coming quarters.

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Operator [22]

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Our next question comes from the line of Mark Murphy of JPMorgan.

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Pinjalim Bora, JP Morgan Chase & Co, Research Division - Analyst [23]

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This is Pinjalim sitting in for Mark. Adam, just taking a step back, as you look ahead to the second half of this year and 2019, has your assumptions changed across the various growth vectors like international, federal, strategic mid-market content? Are you stacking your bets incrementally more on a few and maybe some are still wildcards?

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [24]

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Yes, it's a good question. I think the opportunity remains across a variety of growth vectors, and those include everything from upsell of product like recruiting in Cornerstone HR, to the new business unit around content, to continued upsell of the newer recurring revenue streams like Client Success packages and connectors, to the international opportunities we're seeing good long-term opportunity in Asia Pacific and Japan. We think there's nice long-term opportunity in Latin America and we continue to see very good growth, obviously, both domestically with the public sector team and internationally with our EMEA team. So we don't view these as mutually exclusive. We think there's opportunities across all these segments and all these areas, and our perception around potential attached rates and potential market penetration remains consistent for a while now. So we think there's a lot of long-term opportunity here.

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Pinjalim Bora, JP Morgan Chase & Co, Research Division - Analyst [25]

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And one more if I can. I just wanted to go back to the retention rate question, and just double click on the comment that you had made a couple -- or last quarter, was it, about the churn in the mid-market. Are you seeing any change in the churn there, good or bad?

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [26]

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Yes. So as we said last quarter, that was somewhat an anomaly due to the fact that we had a peak period of roll-in sales 3 years prior, and we think that will now naturally smooth out over time. And you could see that, obviously, this quarter with a much stronger client add on a net basis.

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Brian L. Swartz, Cornerstone OnDemand, Inc. - CFO [27]

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Just to add there, too, what Adam was referring to in Q1 where we did have a lower net client add, as you said, that -- those represent much -- the low end of the market, the average ARR for those clients dramatically below the average of the company. And it's happened before, too. You'll recall, Q2 of 2016, we saw a similar phenomenon on a unit basis versus a dollar basis. So it happens periodically, just the nature of the client base and when renewals come up and when they renew or don't renew, so...

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Operator [28]

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Our next question comes from the line of Jesse Hulsing of Goldman Sachs.

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Jesse Wade Hulsing, Goldman Sachs Group Inc., Research Division - Equity Analyst [29]

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Adam, can you give us a sense of how content is trending versus your plan? I guess, both so far over the last couple of quarters and also if you look at your pipeline, how is that trending versus plan? And what do you think it can contribute this year to ARR?

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [30]

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Yes. So specifically on the content point, we're feeling really good about our progress to date, obviously, up 300% -- up 200% year-over-year. And we saw that the largest deal we've ever done happened in Q2. We're seeing really good momentum across geographies, across verticals. And this is before we introduced the full product set. So this is really an early adapter phase, if you think about it, because the product is limited. We only have the Cornerstone Content Anytime essentials subscription. There'll be many more subscriptions over time, and we think there's a lot of runway here. As we've said before, we think this could become as large as our learning business which, at the end of 2017, was about $225 million in recurring revenue. So we're feeling very good about our traction. We're feeling very good about our momentum, and we think this can become a meaningful part of our business. Obviously, right now, it's still relatively small and a meaningful but not significant contributor to ARR for 2018.

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Jesse Wade Hulsing, Goldman Sachs Group Inc., Research Division - Equity Analyst [31]

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That's helpful. And on the large deals, it sounds like things are trending better there. Is that a timing thing? Is it a competitive or market dynamic? Or is it just better execution? I guess, I'm trying to assess out the sustainability of the large deal trend as you move forward.

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [32]

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Yes, look, we've consistently been doing large deals now for a long period of time. I think it varies what vertical has activity, it varies in, sometimes, what geography has activity. But we have now seen, as a company globally, fairly consistent business upmarket. And we think there's more opportunity ahead, particularly as we refine our marketing in that segment. We're starting now with a new CMO in place to do account-based marketing to be much more surgical about how we're marketing upmarket. And we think that's going to create better opportunity for us and probably even more big deals into the future.

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Operator [33]

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(Operator Instructions) Our next question comes from the line of Siti Panigrahi of Wells Fargo.

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Sitikantha Panigrahi, Wells Fargo Securities, LLC, Research Division - Senior Analyst [34]

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I just want to dig into the competitive landscape. How has that been evolving? Especially, you compete with some of the traditional vendor like SumTotal and Saba and then ERP vendors also kind of picking up. Just wondering who are you winning against at this point? Any color would be great.

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [35]

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Yes. I'd say the competitive landscape has been relatively consistent over the past several quarters, and we expect that to continue in the near term. There were some upstarts that were in the space that were making some noise, gaining some traction, but we've seen that get somewhat diluted more recently. You have the legacy players like Saba and SumTotal who are still out there, but they've been long-term competitors of ours. They compete predominantly on price at this point, and our innovation continues to outpace them. And then we compete with the ERPs. As I've said in past calls, our biggest competitor by far remains SAP, and we still see them as our #1 competitor around the world across verticals. And our win rate continues to improve relative to them and to others. So we're seeing lots of opportunity. We're seeing good positioning in Europe. We're seeing the ability to compete even in full HCM deals, and that creates more opportunity for us around the world. So we're feeling good about the competitive landscape generally. And as I mentioned a few minutes ago, we're seeing a lot of opportunity to continue to innovate ahead of the competition. So I believe our product positioning also continues to improve. So even though we're #1 in the space, we view there being lots of opportunity to expand our lead, and we're going to keep investing in R&D to make sure that happens.

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Operator [36]

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Our last question comes from the line of Corey Greendale of First Analysis.

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Corey Adam Greendale, First Analysis Securities Corporation, Research Division - MD [37]

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Two, actually. First of all, on the recruiting product, now that you've revamped that, any early signs of level of uptake or how the product is operating in the market relative to the solution set new customers might have had before?

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [38]

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Yes. So as I've said before, I'm extremely bullish about recruiting. We think it's a very significant opportunity for us. We have a lot of clients in the installed base that have both learning and performance suites but not recruiting, so we're actively going after that portion of the market. We're also seeing good attach of recruiting around the world, in public sector, in Asia, in EMEA and in Latin America, so we're seeing a lot of opportunity in the recruiting space. We've significantly invested in the product. I think you'll see us continue to invest in the recruiting space. And that, we believe, will result in significant incremental ARR over time.

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Corey Adam Greendale, First Analysis Securities Corporation, Research Division - MD [39]

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Okay. And then one for Brian, I think, in your comments, you pointed out that the correlation between growth in users and revenue may break somewhat, given some things you're doing. All the factors you listed sounded like they would result in revenue growth higher than user growth, but I also know you're doing well at the upper end of the market which, presumably, has the opposite effect. So I just want to clarify, are you -- is the concept that we should expect revenue growth to outpace user growth?

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Brian L. Swartz, Cornerstone OnDemand, Inc. - CFO [40]

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Yes, I think, to just add, it's not one way or the other, Corey. The point of my comments, as we go -- as we think about moving forward, I think it's best to think about modeling the business in the context of ARR and ARR roll-forwards from year-to-year and not building it up by users relative to ARPU and how ARPU can change in any given quarter. So that was really the nature of the comment. It just is not -- we don't run the business based on users, we run the business based on products and market and opportunity and, ultimately, ARR and growth in ARR and, obviously, renewals which flow through that. So that was the nature of the comment. It's just not -- we don't believe it will be as correlated in the future as it has been in the past, and that's a better way to think about how to model our business.

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Operator [41]

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At this time, I'd like to turn the call back over to Adam Miller for any closing remarks. Sir?

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Adam L. Miller, Cornerstone OnDemand, Inc. - Founder, President & CEO [42]

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Thank you, and thank you to everyone for joining us today. As always, I especially want to thank our global team for all of their great work during this transition to help nearly 37 million people around the world to realize their potential. We look forward to seeing you at the upcoming investor conferences and on our non-deal roadshow. Thank you.

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Operator [43]

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Thank you, sir. Ladies and gentlemen, this concludes today's conference. Thank you for your participation, and have a wonderful day.