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Edited Transcript of SPLK earnings conference call or presentation 28-Feb-19 9:30pm GMT

Q4 2019 Splunk Inc Earnings Call

San Francisco Mar 5, 2019 (Thomson StreetEvents) -- Edited Transcript of Splunk Inc earnings conference call or presentation Thursday, February 28, 2019 at 9:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* David F. Conte

Splunk Inc. - Senior VP & CFO

* Douglas Merritt

Splunk Inc. - CEO, President & Director

* Ken Tinsley

Splunk Inc. - Head of IR

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Conference Call Participants

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* Andrew Michael Sherman

Cowen and Company, LLC, Research Division - Research Associate

* Brad Alan Zelnick

Crédit Suisse AG, Research Division - MD

* Fatima Aslam Boolani

UBS Investment Bank, Research Division - Associate Director and Equity Research Associate Technology-Software

* Kasthuri Gopalan Rangan

BofA Merrill Lynch, Research Division - MD and Head of Software

* Keith Frances Bachman

BMO Capital Markets Equity Research - MD & Senior Research Analyst

* Michael Turits

Raymond James & Associates, Inc., Research Division - MD of Equity Research & Infrastructure Software Analyst

* Philip Alan Winslow

Wells Fargo Securities, LLC, Research Division - Senior Analyst

* Raimo Lenschow

Barclays Bank PLC, Research Division - MD & Analyst

* Steven Richard Koenig

Wedbush Securities Inc., Research Division - SVP of Equity Research

* Taylor John Reiners

Piper Jaffray Companies, Research Division - Research Analyst

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Presentation

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Operator [1]

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Good afternoon, ladies and gentlemen, and welcome to the Splunk Inc. Fourth Quarter 2018 Financial Results Conference Call. (Operator Instructions) As a reminder, this conference call is being recorded.

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

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Ken Tinsley, Splunk Inc. - Head of IR [2]

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Great. Thank you, and good afternoon, everyone. With me on the call today are Doug Merritt and Dave Conte. We issued a press release after close of market today and it is posted on our website. Additionally, this conference call is being broadcast live via webcast. And following the call, an audio replay will be available on our website.

On this call, we will be making forward-looking statements, including financial guidance, trends and expectations, including our forecast for our first quarter and full year of fiscal 2020, trends and expectations regarding our markets, customers, deal size and international revenue as well as transaction product services, subscription and revenue mix, planned investments and trends in our operating model resulting from our investments and our expectations regarding investments, products and technologies. These statements reflect our best judgment based on factors currently known to us, and actual results and events may differ materially. Please refer to documents we file with the SEC, including the 8-K we filed with today's press release. Those documents contain risks and other factors that may cause our actual results to differ from those contained in our forward-looking statements. These forward-looking statements are being made as of today, and we disclaim any obligation to update or revise these statements. If this call is reviewed after today, the information presented during this call may not contain current or accurate information.

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

With that, let me turn it over to Doug.

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Douglas Merritt, Splunk Inc. - CEO, President & Director [3]

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Thank you, Ken. We're just back from our annual sales kickoff, where our field and partner communities are celebrating our tremendous fiscal year '19 success and strategizing around the opportunity ahead.

I am really proud of our delivery and execution over the past year and are more confident than ever about our position going into FY '20. Our energy comes from a fantastic Q4, where we delivered $622 million in total revenue, up 35% over last year, and 42% growth in software revenue.

For the full year, revenue totaled $1.8 billion, up 38% year-over-year. And we exited the year with more than 17,500 customers. Our growth continues to come from a combination of new and existing customers, expand their deployment both on-prem and in the cloud, letting them consume Splunk in the way that best enables their success.

We're seeing continued international momentum, evidenced by the growing number of customers adopting our platform around the world. Over the past year, we received overwhelmingly positive feedback about our product announcements. The update to our existing products, including Splunk Enterprise and Splunk Cloud, are integrating even better performance, scale, machine learning and analytics capabilities.

The strategy around our existing portfolio will empower new users regardless of their technical skill set or physical location to make things happen with their data no matter where it lives. Two things that our customers were really excited at .conf18 were Data Stream Processor, or DSP, and Data Fabric Search, or DFS, which deliver next-gen monitoring and analytics.

With DSP, users can access massive amounts of data, refine and adjust that data as it moves across the stream while simultaneously monitoring any metrics or events within this stream. And with DFS, they're able to search across their data landscape, both inside the Splunk index as well as non-Splunk data sources, to bring the right predictive decision-making to bear.

And by focusing on improved ease-of-use with our mobile and natural language processing capabilities, we're opening the aperture to a larger number of business users.

Splunk empowers our customers to thrive in a world where change is constant. Unlike other technologies, you do not have to know the questions you'll ask before you deploy our solutions. The magic of Splunk is that we embrace the complexity and chaos of an ever-changing data landscape and allow you to find insights for your data without first having to structure that data. Our goal remains the same, to become the ubiquitous data platform, solving our customers data challenges around IT operations and application delivery, security compliance and fraud as well as business analytics and the Internet of Things.

Our customer success is our #1 company priority, and we are uniquely poised to help as they go through a shift to an analytics and machine learning-based approach. I'd like to highlight a few key wins from Q4. Let's start with IT.

Longtime customer, Cox Automotive, expanded their use of Splunk Cloud and ITSI. The expansion gives them an enterprise-wide data analytics platform that enables the organization to monitor activity across their business units. Cox Automotive already uses us for IT operations, application monitoring and security.

The California Community Colleges, the largest higher education system in the United States, expanded their use of Splunk Enterprise so they can better act on their data across 115 different community colleges. With Splunk, they'll help colleges reduce the manual time spent on IT and security issues while also saving time and money on troubleshooting.

Special shout out to our partners at SHI who helped drive this opportunity and were instrumental in the deal. Queensland Health, which administers the public health systems in the state of Queensland, Australia, purchased Splunk Enterprise to monitor its integrated electronic medical records platform. Splunk is used across several business units to help Queensland Health share data, monitor the organization for security, predict services degradation and perform root cause analysis in service outages.

Moving on to security. The World Wildlife Fund, or WWF, is a new Splunk Cloud and Enterprise Security customer, who chose Splunk to help protect the organization from risk. Because the WWF works to conserve the environment around the globe, they will be leveraging Splunk at the heart of their SOC in the United States and abroad in 12 different countries.

Australian oil and gas producer, Santos Limited, purchased Splunk Cloud to gain wider, real-time visibility across the security operations. Santos, a longtime customer, already uses Splunk Enterprise and ES. Steel Dynamics extended their use of Splunk Enterprise, ES and UBA to increase real-time monitoring and threat detection around their steelmaking and metals recycling systems. Steel Dynamics chose us over the competition because they found Splunk to be the best platform tacked on data across all of their business units. I look forward to meeting with many of our security customers and partners at RSA next week and invite any of you who are attending to please come by and visit us at our booth.

Customers who standardize on Splunk as their data platform include a Fortune 50 technology company who has gone all in on Splunk, purchasing Splunk Enterprise, ES and ITSI. This major investment allows our customer to support a new internal initiative focused on cyber intelligence. They chose Splunk over the competition because they wanted a single platform that could address all of their security use cases and ingest data no matter what the source.

FIFA, the international governing body of football, which is now using Splunk Enterprise, ITSI, ES and Splunk Cloud to optimize a wide range of the business operations.

A longtime customer, NASDAQ, expanded their use of several products and moved to Splunk Cloud, all in an effort to support a global expansion across EMEA and APAC. New customer, Bertelsmann, purchased Splunk Enterprise, ES, ITSI and Splunk Cloud. The German media and service company will use us to support their threat detection in addition to other critical areas.

The University of Illinois is now using Splunk Cloud as its campuswide data platform. The university has a wide range of IT and security use cases and is actively exploring how Splunk can improve the student experience with IoT data streaming across the campus.

To highlight the effect that Splunk can provide on the IoT front, smart home security company, Arlo, who makes it simple for their customers to keep an eye on their home and be there when they can't, expanded their use of Splunk to help reduce cost and time spent on IT and security incidents around their IoT platforms. Arlo is using Splunk for real-time monitoring and troubleshooting of their connected products.

Puget Sound Energy, a utilities company in the Pacific Northwest, expanded Splunk Enterprise to add several IT and IoT use cases. With their expansion, Puget Sound will be using Splunk to analyze data from their industrial control systems and SCADA integrations in order to improve their operations with IoT data. Puget Sound will also gain a better understanding of their AWS performance and cost. Huge thanks to our partners at Arcus Data, who are instrumental in this deal.

Moving on to our partner ecosystem. It was an incredible year of momentum with our strategic partners, and I'm excited about the continued expansion and adoption within our ecosystem, which of course, is a key focus for us.

In particular, I want to thank our premier sponsoring partners from sales kickoff: AWS, Accenture, Cisco and Symantec, for their continued support. In addition to key initiatives we're driving, we're equally excited to take part in our partners' initiatives like Symantec's newly announced Integrated Cyber Defense Platform, which provides our joint customers with consolidated views across our security infrastructure.

In summary, it was a terrific quarter and finish to fiscal '19, and I'm so proud of the entire Splunk team. We are uniquely positioned to capture the tremendous opportunity in front of us, and we are pursuing it aggressively. We're early in our journey and are investing for scale and growth. We're delivering high value to our customers, who are expanding their adoption of Splunk as their platform for data analytics both on-prem and in the cloud.

I'd now like to hand the call over to our CFO, Dave Conte. Dave, over to you.

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David F. Conte, Splunk Inc. - Senior VP & CFO [4]

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All right, thanks, Doug. Good afternoon, everyone. Thanks for joining the call. I'm pleased to report a strong Q4, which caps an exceptional year for Splunk. Fourth quarter revenues were $622 million, a 35% increase over Q4 of last year. For the full year, total revenues were $1.8 billion, up 38% over last year. Cloud revenue was $53 million in Q4 and totaled $171 million for the full year, up 85% over fiscal '18.

Q4 software revenues, which is the total of license and cloud, were $464 million, up 42% over the prior year. And full year software revenues were $1.2 billion, up 44% from last year. We ended the year with total RPO of $1.3 billion, up 57% over last year and reflecting our strong bookings performance this year. As pleased as we are with our execution, we're never satisfied. As you've heard us say, we have a unique opportunity to establish Splunk as the data analytics standard for our customers, and we will continue our focused investments in our product portfolio, our market groups, our field coverage and Splunk Cloud. To that, in Q4, we added over 600 new customers and for the full year, we added nearly 2,200 customers overall, ending with more than 17,500 customers globally.

Our continuing commitments to product innovations around our platform and solutions as well as our continued pricing and packaging programs are accelerating Splunk adoption.

In Q4, we recorded 179 7-figure orders versus 136 in Q4 of last year. For the full year, we booked 394 7-figure orders. This included 24 8-figure orders during the year versus 10 in all of fiscal '18.

International operations contributed 33% of Q4 revenue as our international teams continue to help customers along their Splunk adoption path. Full year contribution was 29%. And longer term, we expect to see our international teams contribute to a greater percentage of total annual revenues.

Moving to services. Our education and professional services represented 6% of revenues in Q4 and 8% for the full year. Overall, our growing product suite, complemented by increased awareness in the market and a compelling ROI, are driving global and large-scale adoption.

Turning to margins and other results, which are all non-GAAP. Q4 overall gross margin was 87.6%, up 1% point on a year-over-year basis, as we're realizing the efficiencies from our scale and our cloud business. Q4 operating income was $166.4 million, representing a positive margin of 26.8%. And Q4 net income was $142.2 million or $0.93 per share using the fully diluted weighted average share count of 153.3 million shares.

For the full year, operating margin was 12.7%, above our expectations due to the strength of our overall top line performance. Net income was $202 million or $1.33 per share based on a fully diluted weighted average share count of 152.1 million shares. These results translate to cash flow from operations of $127 million in Q4 and free cash flow of $119 million.

Full year cash flow from operations was $296 million, free cash flow was $273 million, and we ended the year with nearly $2.9 billion in cash and investments. As we described on our Q2 call, our shift to a predominantly renewable model is significantly ahead of schedule. For fiscal '19, we were planning for a 65% mix of term and cloud software contracts. With the rigor around customer success and adoption, our renewable software mix was 77% for the year, above the 75% target we originally set for next fiscal year. Given the effectiveness of our efforts, we now expect that 85% of our fiscal '20 software bookings will be renewable.

Turning to guidance, which, based on a strong finish to fiscal '19 and continued momentum in our business, we are increasing our fiscal '20 full year revenue expectation to $2.2 billion, up from the $2.15 billion we previously guided, and we maintain our 14% non-GAAP operating margin target for the year.

Looking at the quarterization of fiscal '20. As you can see on our past results, 606 has caused greater seasonality in our revenues, particularly in Q1. We expect the weighting of revenues to remain at about 40% the first half of the year and 60% in the back half with the largest seasonal impact in Q1, where we expect total revenues of approximately $395 million.

Our op margin is seasonally impacted as well. We expect non-GAAP operating margin of a negative 8% in Q1, breakeven in Q2, then ramping in Q3 and Q4, consistent with the trend we've seen historically. And finally, for EPS calculations, since we expect to be in an operating loss position in Q1, you should use a weighted average share count of about 149 million shares.

The cash flow generating capability of our business is strong, especially when you think about our revenue trajectory beyond $2 billion. As I've mentioned before, in the near term, our successful transition to a renewable model has an impact on operating cash flow as more cloud and term contracts are billed and collected in 1-year increments.

Eventually, when the mix of renewable contracts normalizes, cash flow will normalize as well. In fiscal '20, we expect full year operating cash flow of about $350 million, reflecting our continued shift towards 85% of software contracts being renewable.

FY '20 will also be an important capital investment year for us. Our global expansion is driving the need for facility build-outs with major projects in London, Boulder, Singapore and the San Francisco Bay Area, where we are more than doubling our overall footprint. Collectively, these projects will require about $100 million in CapEx investment spread evenly over the year. These investments are important as we continue our global expansion and prepare for our next phase of growth.

In closing, fiscal '19 was an extraordinary year for Splunk, and our updated revenue outlook of $2.2 billion for fiscal '20 reflects our increasing confidence in the opportunity squarely in our sites and our ability to execute against it. Our product investments are driving customer success and our field expansion is enhancing our overall execution capabilities. Our strategy is working well, and we'll continue to fuel the pace of adoption as we drive to make Splunk the ubiquitous data platform for our customers.

Thanks much for your time and interest. With that, we'll open it up for 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 Raimo Lenschow from Barclays.

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Raimo Lenschow, Barclays Bank PLC, Research Division - MD & Analyst [2]

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Doug, first question for you. Like, if I look at the large-scale momentum, it has really increased and picked up as you go for the year. If you look at those kind of 8-figure customers, like, as an example, like, can you talk a little bit about how their -- what they are taking up and how they are using it versus what other guys that are just normal customers are doing and what you can do to kind of bring one from one camp to the other? And then for Dave, like, can you talk a little bit about RPO? Like, 57% growth sounds amazing. What are the puts and takes within there in terms of duration, for example?

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Douglas Merritt, Splunk Inc. - CEO, President & Director [3]

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Thanks, Raimo. Yes, as we've been talking about and you've followed for so many years, this cohort analysis has really been a key element that leads us eventually to what we want to see, these 8-figure deals, and that is, you get in, usually with 1 or 2 specific use cases. IT or security is usually our lead. And then they start to realize the power of the schema list index that can be powered at any use case across the company, and they begin to add in monitoring, predictive analytics and now with Phantom, VictorOps orchestration and collaboration capabilities to get a full end-to-end capability on this data fabric or overall data platform that we've been driving. I think for those 8-figure customers, there were fewer, but still very notable companies that were ingesting hundreds of terabytes or more years ago. Those are companies that have iterated enough. They've got tens, twenties, hundreds, thousands, in some cases, of use cases. They're now at a reasonable percentage of their population. 10% to 50% of the end users across the company using Splunk and they view us as a data platform. And our goal, obviously, is to continue to lean in on that. At SKO this week, our customer success organization rolled out a bunch of additional capabilities that are taking advantage of our phone home capability for our on-prem customers and the cloud anonymized data that we get access to, to help our customers and our employees get a better feel for time to value, ROI fulfillment, use case deployment, number of active query results, et cetera, so that we can do everything possible to help our customers get the value that they wanted out of Splunk. And ultimately, that should lead to more of these 7- and 8-figure deals. Dave?

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David F. Conte, Splunk Inc. - Senior VP & CFO [4]

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Hey, Raimo, it's Dave. We're certainly happy with our overall results and the performance that the field has continued to deliver obviously translates to the income statement of balance sheet. And as you know, we've been talking a lot about RPO because we just think it's a more comprehensive metric in terms of a proxy for bookings. In terms of duration, for the full year, our duration was about 32 months. That's up from our full year duration of about 27 months in the prior fiscal year.

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Operator [5]

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Our next question comes from the line of Philip Winslow from Wells Fargo.

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Philip Alan Winslow, Wells Fargo Securities, LLC, Research Division - Senior Analyst [6]

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I just wanted to focus in on just the unlimited agreements. Obviously, you have a lot of success, as Raimo just pointed out, in large deals. But when you think about sort of just the -- let's call it the pricing metrics and you use these metrics out there sort of around these contracts, are you putting any incentives in place to get customers start thinking about these, whether it be EAAs or these sort of the unlimited agreements to, call it, drive adoption across more use cases, and kind of take the, call it, pricing concerns sort of out of the equation? Can you help us walk through some of the price impacts and how that's maybe even impacting some of these larger deals?

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David F. Conte, Splunk Inc. - Senior VP & CFO [7]

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Phil, it's Dave. I just want to clarify, the 24 greater than 8-figure orders and in fact, the almost 400 greater than 7-figure orders are not all EAAs, do not have all have unlimited capabilities. What they're really structured around is predictive economics for the customers. And some of those have an unlimited element, some of those do not. But I just want to clarify that for everybody. Large transactions are not synonymous with EAA in our nomenclature.

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Douglas Merritt, Splunk Inc. - CEO, President & Director [8]

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And within that, Phil, we've worked hard over the past 2 or 3 years to make customers -- to make you guys aware, first, and customers aware, second, and reps aware third, we probably should've inverted that whole sequence, of the different banding that's available or bracketing that's available within Splunk, and we just leaned forth with a little bit more clarity for the sales force at this SKO that makes it very apparent where unlimited kicks in so that customers have a little bit more of that predictive economic visibility and assurance that there is a finite annual fee that we'd expect based on the size of the organization when it gets the upper ends of data. I think that it's helping these organizations feel more comfortable that when you really look at total cost of ownership, all the enhancements that we make and/or have made and continue to make on reducing the overall cost of infrastructure, significantly faster and more quality response with less CPU, compression of data everywhere for more efficient network utilization and storage. Separation of compute and storage so you get a much cheaper footprint and can actually scale out storage independently from the [prior] intensity. All those things resulted in roughly 80% reduction in infrastructure cost over the past couple of years for our customers. So I think the combination of helping to provide higher transparency on the thresholding for Splunk and helping our customers understand -- this is not an infinite scale. We try to infer it with the overall pricing that we publish on our website. We're trying to be more overt about that now, combined with the big TCO impact that we've made and the continued progress on applications, which also drive faster time to value. I think it's part of what's helping these companies feel more confident with unlimiteds or EAAs who gets the upper band. But as Dave said, it still is well below 1% of our installed base. That's at that EAA or unlimited arenas. We've got a lot of opportunity to help get more customers comfortable with us as an end-to-end data platform that will get them to these upper bands of saturation.

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Operator [9]

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(Operator Instructions) Our next question comes from the line of Kash Rangan from Bank of America.

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Kasthuri Gopalan Rangan, BofA Merrill Lynch, Research Division - MD and Head of Software [10]

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It looks like the Red Barchetta does not want to slow down. It keeps gunning at a high RPM and high speed. So congrats on that. I have a rush of questions that come into mind, but I have to keep it very focused. At a high level, the company's growth rate has been a lot more sustainable even as you work through this model transition with the transition to term licenses. There's been debate of how much of it gets recognized so far. You've been able to put up a target growth. Do you see any limitations or barriers to attain this kind of growth in a sustainable basis into the future? And secondly, at a more tactical level, there's been a little bit of talk from a lot of the companies in your space who do not recognize that they see vibrant replacement optionalities for logging and legacy SIM vendors. I'm just wondering if you can comment on the true state of the competitive landscape there. And that's it for me. Congrats again.

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David F. Conte, Splunk Inc. - Senior VP & CFO [11]

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Hey, Kash, it's Dave. We're obviously shifting and drifting through our model transition as we accelerate towards the one-lane bridge, which of course, would be all renewable contracts. For those of you who don't know, those are additional lyrics in the Red Barchetta song. So Kash, one thing about the model transition and sustainable growth, we -- there's a question about duration. And when we did our measurements in terms of like how the various components are moving, we gave an update on that on the last call. For the -- and at that time, I said, we had a headwind because we had a lot more cloud contribution of about $43 million. We had a tailwind from longer duration, about $40 million. And we looked at that for the full year, the headwind actually accelerated because we had a really strong quarter in the cloud. So our math said about $67 million of headwind from the shift to cloud and about a $47 million tailwind from duration. So now when we fast-forward and we say "Okay, we're going to take that renewable mix from 75% to 85%. Like, how much of that is going to be cloud?" Because obviously, the revenue yield is a little bit different. So we think about, well, what's the revenue yield and how does that translate into growth. Again, we're really satisfied, I guess, I would say, with getting to 77% renewable a year early. And if you rewind the clock, you might recall our original 75% estimate included that or stated that about 25% of our software business would be cloud. So we realized that similarly a year early. Fiscal '19 had about 25% of our software bookings being cloud. So within -- when we look forward to the 85%, we expect to see cloud continue to become a greater and greater percentage. And as a result, there's a difference in terms of the revenue yield, but that's all embedded in the guide. I think, ultimately, you think about RPO and change in RPO, the runway is long, $2.2 billion against what we think is a TAM. We think it's very early innings here.

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Douglas Merritt, Splunk Inc. - CEO, President & Director [12]

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And then dropping into the opportunity and competition side of the security piece. The other piece I'll add on Dave's comments is that total addressable market is large and continues to grow. It's now estimated at more than $70 billion for our TAM. And that, I think, ultimately is the fuel that's driving the expansion opportunity, and we're really honored that we can help with that -- fulfill that total addressable market and help these customers as they try and move to a much more data-driven outcome set of scenarios. Within security, we're still obviously seeing a lot of momentum, strength and excitement on people understanding that end-to-end cyber security automation is critical. So that means a combination of our investigative leg with effective monitoring, predictive analytics and automation routines, collaboration, orchestration, automation, which ultimately means that SIM continuously is being redefined. What was once just really monitoring and alerting is now becoming the combination of investigate, monitor, analyze and act. So even within our existing ES and Splunk Enterprise accounts, we're seeing a revitalization of what they mean by SIM, which generally means you're pulling in UBA and Phantom, and we've got a really exciting road map that our security market group is driving that further blends some of the other characteristics that were part of ITSI, VictorOps and others so that we can lead -- continue to lead the market in the security -- in the SIM -- or what was once called SIM. So I see that SIM, TAM continuing to shift and revitalizing itself every 18 months as people get more awareness of what it means.

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Operator [13]

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And our next question comes from the line of Michael Turits from Raymond James.

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Michael Turits, Raymond James & Associates, Inc., Research Division - MD of Equity Research & Infrastructure Software Analyst [14]

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I'd like to start off to Dave of what I think is somewhat of an extension of Kash's question, mix and duration. So previously, you'd said you expected mix comp for the next year, now mix is going up, which is, frankly, a headwind and so it appears to me that, that makes the guide up even better. But on duration, I just wonder if -- see whether you're not -- what you were reiterating that you expect duration to be the same into next year and therefore neither tailwind nor a headwind.

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David F. Conte, Splunk Inc. - Senior VP & CFO [15]

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Hey, Michael, it's Dave. Thanks for the question. Yes, we expect duration to now normalize even as we increase the percentage of the business to 85% renewable. The sweet spot for us is, we believe, 36 months and it all ties back to our #1 corporate priority, which is customer success. We think giving customers that kind of visibility really enhances the adoption of our products and ultimately, their value from their data. So I think that, obviously, we're not going to sell exclusively 36-month contracts, which is why I think 32 months is going to be our constant rate. And that's what we've used in terms of our own model for next fiscal year.

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Michael Turits, Raymond James & Associates, Inc., Research Division - MD of Equity Research & Infrastructure Software Analyst [16]

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Okay. And then another related question. Sorry to geek out on the financials and the duration stuff here. But as you expand the duration starting mostly at the beginning of last year, what happens as we move into the beginning of this year when some of those contracts would have come up for renewal and then a cross-sell/upsell opportunity. But you don't get to that for another couple of years. Does that create any kind of headwind for you in terms of the ability to cross-sell/upsell?

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David F. Conte, Splunk Inc. - Senior VP & CFO [17]

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Not typically. We've seen our upsell rates remain above 80% for a long time. That's why we don't actually talk about it in prepared remarks anymore. And of course, with customer success being #1, customers come back often in advance of the completion of their initial contract term or even their second or their third contract term. You might recall that one of our largest customers actually came back a year early. And it was really interesting for us and instructive because they were very transparent to say we've spent the first year deploying your product. We've spent the second year trying to displace you. And now that we're staring at a year left, we realized that there's nothing like Splunk and we like to extend so that we lock in the predictability around your cost. So when we see our success move across the enterprise, it's very typical or it's often that a customer will come back early and say, "We want to continue to expand the relationship."

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Operator [18]

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Our next question comes from the line of Brad Zelnick from Credit Suisse.

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Brad Alan Zelnick, Crédit Suisse AG, Research Division - MD [19]

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My question, you've seen news this week that one of your competitors in the orchestration and analytics space has gotten acquired by one of the larger legacy players in security. How do you think this changes the opportunity for Phantom? And how, if at all, does it make you think differently about your technology partnerships and alignment with all the various players in the security ecosystem?

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Douglas Merritt, Splunk Inc. - CEO, President & Director [20]

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Great question, Brad. The addition of Phantom to Splunk was both to augment the security portfolio. But we really believe that this combination of investigation, monitoring, analysis, which often goes with predictive capability and automation action is key for any operations use case, security operations, obviously, but IT operations, marketing operations, sales operations. So the generalization on the platform side of the Phantom components so that Rick Fitz and the IT portfolio can take advantage of them is key with our road map for IT this year, for instance. That said, that it is a really important pillar of the security landscape and I think it's validating for our strategy that a year later, the -- another big player in the security space saw the potential and leaned in with an acquisition. I think our uniqueness advantage is that, as you guys know, the security landscape is ridiculously heterogeneous. The average CSO is dealing with 80 or more major vendors and usually hundreds of minor vendors. And all those different products tend to be more action oriented, living in the network, on the endpoint, et cetera, and throw off a ton of data. And each one of those vendors has a point of view on trying to capture that actual direct landscape, we're the layer above, as high end's talked about, we're kind of the brain and the nerve center that tries to ensure that, that whole perimeter defense and detection capability is -- has the intelligence and coordinated activity that it needs to be adaptable and agile given the constantly changing attach surfaces. So we think that our neutral status and our 100% focus on the data layers that surround those gives us a unique perspective that I think will be hard for a vendor that actually has a point of presence on that landscape to be able to -- to make people feel comfortable with. Why would a company that owns a combination of multitude of different network and firewall and endpoint products feel confident that the vendor that owns some of those landscape is going to super elegantly integrate with their competitor's products to make them as good as their own products, right? It's almost counter to human nature. So we like being the neutral vendor. And all the landscapes you play in, IT and security at the forefront, that really turns into IoT or anything else are so convoluted and complex that we think there's a lot of value in being the abstraction layer that's focused on data.

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Brad Alan Zelnick, Crédit Suisse AG, Research Division - MD [21]

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That makes a lot of sense to me. If I could just add a quick follow-up. You just had your sales kickoff, what changes into fiscal '20 in terms of sales comp plans? And what specific products and behaviors might you be incentivizing?

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Douglas Merritt, Splunk Inc. - CEO, President & Director [22]

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Good follow-on question. So I'm excited that the amount of field dislocation is a reasonable level that we've been experimenting a lot over the last couple of years with segmentation and allocation that gets different segments, and this was more a tweaking and tuning this year against the segments that we feel like we've got it relatively right last year. So it's more an enhancement of what we've already done. On the compensation piece, we continue to lean forward on renewable contracts. We've seen the benefits to our customers with that motion and are making it very clear to our partners and reps that we really care about term-in and cloud. And I think we've really, we've been very thoughtful about rolling out customer success tools. They are now baked much more deeply into all of our different offerings so that both the customers and the teams who surround them are working collaboratively on the fulfillment of the ROI that's been promised that customer. And I think that's a key component of this renewable adoption type of engine. And we continue to lean forward on different programs and automation routines that our partners actually feel like they are more integrated, natively integrated as part of the natural sales team. A lot more -- they get the same types of visibility now and different customer characteristics, et cetera, that are internal Splunk teams do. So I'm hopeful and excited we'll see continued effective teaming given how complex a lot of these data initiatives are across a broad array of internal groups within Splunk and external groups within the partner base so we can keep those expansion and the renewal rates going in the right direction.

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David F. Conte, Splunk Inc. - Senior VP & CFO [23]

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And Brad, it's Dave. So it's -- it would be remiss to not congratulate the fields, which is both our employees and our partner ecosystem, with delivering 77% renewable full 12 months early. That's -- we're really excited about the rate that we're transforming our model, our go-to-market model. And of course, it takes a village, but kudos to everybody out there for that kind of execution.

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Operator [24]

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Our next question comes from the line of Keith Bachman from Bank of Montreal.

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Keith Frances Bachman, BMO Capital Markets Equity Research - MD & Senior Research Analyst [25]

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I also wanted to ask about the competitive landscape, but I'll go in a different direction. Splunk's capabilities in security and more broadly, are expanding as you talked about the role the SIM is changing. And yet if you talk to customers, one of the complaints about Splunk is -- remains on pricing. And while I don't think any vendor really gets high marks on pricing, I'm just wondering about as your role is evolving, how does pricing, you think, changing? And what I mean by that is I think, Dave, you said that ELAs are really a very small percent of the installed base, 1%. Do see those growing at a rate that changes as you try to bundle in these services? Or how do you think the pricing mechanism that you're focused with customers might evolve over the next year or so? And then I have a follow-up.

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Douglas Merritt, Splunk Inc. - CEO, President & Director [26]

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Thank you, Keith. So 2 aspects on the price -- 2 different aspects of pricing. One, the -- we're trying to continue to make more transparent and simplistic the different banding on a classic ingestion-based pricing. And I still, for some of the frustrations with the ingestion-based pricing, as people understand the investigative lake capabilities. There literally should be one copy of everything within an investigative lake given that there is no schema to it. And therefore, it is a singular, comprehensive source that you can ask questions to, where there's lots of manipulation and duplication and iteration to data as we get into metrics, events, data models, where you get the structure data, where you're asking the same question a thousand times or a million times against that data set. We -- with products like Data Stream Processor and Data Fabric Search and some of the newer iterations of the applications that we're looking at, I think there's an opportunity for us to continue to co-mingle non ingestion-based pricing with the ingestion-based pricing of the investigative lake. So there's, as we're trying to make it more clear, transparent and safe on that -- in the investigative lake. So people really feel like they've got predictability on that piece. We're also making sure that the value and the price are tightly correlated when it is more of a monitoring predictive analytics and automation set of scenarios around that investigative data lake. And it feels like that's generally working with customers, but it just depends on how clear we've been with them and how informed they are, and we can definitely raise the bar on those conversations.

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Keith Frances Bachman, BMO Capital Markets Equity Research - MD & Senior Research Analyst [27]

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And then just my follow-up is for Dave. Dave, you mentioned that the transition from 75% to, call it, 85% renewal is impacting your cash flow, can you just remind us in this coming year, can you remind us on -- do you think that 85% forms a barrier and therefore, your cash flow generation would resume to a more normalized level thereafter? Or is there some incremental opportunities on the renewable side that might further impact your cash flow? And that's it for me.

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David F. Conte, Splunk Inc. - Senior VP & CFO [28]

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Yes. Hey, Keith, thanks for the question. We were, again, transparent at the beginning of the year. We thought this was a cash trough year. The acceleration to renewable, 77%, well above our plan. Obviously, you had a downstream effect on cash flow as so many of those contracts are billed annually. Let me give you an example. The amount of uninvoiced contract value increased by $0.5 billion in fiscal '19. And it was less -- the total amount of unbilled contract value at the end of last fiscal year was less than $100 million. So we got to almost $600 million in fiscal '19. And yet still, I think the cash flow results were in line with what we expected. So as I forecast forward $350 million, we've built in estimates for that move from that 75% to 85% renewable and how might that affect the amount -- total amount of unbilled that's sitting out there. And then of course, ultimately, we'd have to get to 100% renewable to really normalize, but I don't expect a 25% -- 27% increase. Again, we're already at 77% so we can't go up by more than we've gone up this year. So I think fiscal '20 will probably be the last transitional year from cash flow yield and then we'll get to normalization at fiscal '21.

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Operator [29]

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

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Taylor John Reiners, Piper Jaffray Companies, Research Division - Research Analyst [30]

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This is Taylor Reiners on for Alex. It looks like international accelerated quite a bit in the quarter. I was wondering if you could comment on, on what drove that, how you see the mix evolving in the fiscal '20 and beyond with international? And then from a penetration standpoint, how are you thinking about that opportunity versus domestic?

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Douglas Merritt, Splunk Inc. - CEO, President & Director [31]

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Hey, Taylor. Yes, I think we -- I don't know if you remember back. But many quarters ago, we had a -- quarterly, we were not as pleased with and we were pretty clear that we felt that we had the wrong ultimate leadership in EMEA, but we felt that we had been making a lot of good progress in filling out the sub-theater leadership ranks and adjusted across that entire theater, brought in a new leader, continued to double down on the leader, so we had her meet that leader. And I think our general view is right, that we have dramatically up leveled the quality and thought process and capability and execution across those sub-theaters, which are big, big theaters on their own, Central, South, North expansion, et cetera. As we continue to build out the overall teams within those theaters as well. And we see the same motion in APAC and are now starting to get a little more focused on LatAm as well. And so I think that -- the continued leadership investment, the benefits that come through reference selling as we get -- as we maintain focus on a handful of high priority countries then get more coverage within those countries, have proven out to start to be beneficial for us. And I think Dave and I both felt since I came on board 5 years ago and probably before, that one of the bigger levers that had not been pulled as hard as it should is international expansion. And it's nice to see a year of good progress here. As Dave says, we're satisfied -- we're happy but never satisfied. There's a lot more that we expect out of the international sectors next year and the year after. Because while we're nosing up to 30% this year, that's great. But there's a lot of GDP outside the U.S, more GDP outside the U.S. on a percentage basis than there is inside. So how do we get that to be a more balanced approach is something that we remain focused on.

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David F. Conte, Splunk Inc. - Senior VP & CFO [32]

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Yes, hey, it's Dave. I'll just say that, again, proud, not satisfied. Kudos to all the folks internationally for a great and strong finish to the year. And the challenge they've had in terms of becoming a larger percentage contributor is a great performance of all the folks domestically. So it's great in my chair to be able to challenge all of our regional leaders to be #1. And that challenge is out there for anybody listening to the call. I know they're all at sales kickoff. But the execution was really crisp. And as Doug mentioned, I think continued delivery internationally is going to create a great foundation for us in terms of continued growth.

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Taylor John Reiners, Piper Jaffray Companies, Research Division - Research Analyst [33]

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Got it. And then just a quick follow-up on federal. I know 1Q isn't typically a big U.S. federal quarter for you. But was wondering if you're seeing any impact on sales cycles or linearity related to the government shutdown.

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Douglas Merritt, Splunk Inc. - CEO, President & Director [34]

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I think for us, public sector is pretty broad. I cover a bunch of civilian agencies. Obviously, the military complex as well as staying local in education. The shutdown definitely had some impact on some of the speed of deals for those agencies that had restrictive budgets. But since the approvals came through and the government's back up and we've seen a very -- as rapid as possible, they're still trying to assemble and there's definitely some long-term effects, I'm sure, that are felt there. But that team had a really admirable year last year. We're really proud of the performance of the public sector team. And they're very energized about the year in front of them. And we're absolutely thrilled with the belief that the public sector customers have in Splunk and their willingness to continue to make us almost part of their reference architecture for some of their key initiatives.

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Operator [35]

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Our next question comes from the line of Fatima Boolani from UBS.

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Fatima Aslam Boolani, UBS Investment Bank, Research Division - Associate Director and Equity Research Associate Technology-Software [36]

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Doug, maybe to start with you. As I think about some of the references you made to more broader adoption of your suite of premium apps, can you help us better appreciate on what sort of attach rates you're seeing on a general level? And any other KPIs or quantitative metrics to help us understand how that sort of portfolio of applications that you continue to build out on the core Splunk platform is trending and adopting? And then I have a follow-up for Dave, if I may.

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Douglas Merritt, Splunk Inc. - CEO, President & Director [37]

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Sure. Hey, Fatima. So there is -- while the attach rates have been growing for all the apps with Enterprise Security being the lead, Enterprise Security is still well under 30% across the portfolio and the average for all the premium apps is a fraction of that. So a lot like the data potential and growth potential within our accounts where you see that we're -- they were very pleased with our results. We still see that we're in the earliest innings of opportunity even within just the 17,500 accounts that we have. And we feel the same way with the premium apps. There's not a customer that I know of in the 17,500 that doesn't have an IT department and doesn't have a few -- at least a few folks focused on the cyber landscape and the bulk of our premium apps are really focused in on those use cases. And I think it's a combination of education of the reps, awareness and knowledge of the customers and then the definition of what the security operations center and the IT operations center look like continues to change as well, which means that we've got to continue to lean in on the portfolio within that served them. And what the teams have been focused on this year is rather than having a series of individualized apps, what kind of suite makes sense that is the amalgamation of, for security, VictorOps, components of ITSI, Phantom, UBA, ES rather than focus on the one-offs. And my belief and the team's belief is as we continue to simplify and have fewer broad-based SKUs, overall stocking units, for those operating centers that hopefully we can -- that we also will propel the attach rate up and with a higher payback for the customers because they get even more effective integrated offering.

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Fatima Aslam Boolani, UBS Investment Bank, Research Division - Associate Director and Equity Research Associate Technology-Software [38]

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That makes sense. And Dave for you, just 2. On your margin outlook. Wanted to better understand what the limiting reagent is there? Appreciate that you're probably seeing a little bit more of a headwind from the cloud revenue side as the mix shift accelerates on that front. But what other factors are you considering from hiring perspective or an investment perspective that's sort of leaving the margin levels unchanged?

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David F. Conte, Splunk Inc. - Senior VP & CFO [39]

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Hey, Fatima, thanks for the question. I mean, you nailed the first underlying component, of course, is greater percentage of cloud comes with greater cost of sale. And that's been a headwind to margin for years for us. As it relates to the overall investment thesis in our portfolio of investments, it remains the same. Product and field, field and product. We just really believe the long-term growth opportunity in terms of the amount of revenue that we can generate and the number of customers that we can deliver value to is quite large. The TAM has more than doubled since we went public. Obviously, so have we. But I think the opportunity is so much in the windshield that we've got to be appropriately leaning in on our investments with the appropriate discipline to ensure that they've got the right ROI down the road. And that's the work that we do here everyday. So when we think about the margin and what's the right level of margin, it's all part and parcel to what's the mix. And then what are those important investments, not for fiscal '20, okay, but beyond. Fiscal '20, I've got great confidence in how we're going to execute, but it's really setting ourselves up for that next leg of fiscal '21 and beyond that make those investments really important today.

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Fatima Aslam Boolani, UBS Investment Bank, Research Division - Associate Director and Equity Research Associate Technology-Software [40]

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I wanted to sneak another quick one and how should we think about the go forward relationship between the renewable software mix increasing and the maintenance growth we should expect as the perpetual license business is deemphasized. And that's it for me.

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David F. Conte, Splunk Inc. - Senior VP & CFO [41]

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No, it's a fine question. We certainly would expect the maintenance component to, in terms of its contribution, it will shrink over time. That said, for our on-prem renewable contracts, there is still a maintenance component. So we will continue to have maintenance as part of our total TCV and our total revenue stream, but the legacy perpetual maintenance stream will diminish over time.

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Operator [42]

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Our next question comes from the line of Steve Koenig from Wedbush Securities.

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Steven Richard Koenig, Wedbush Securities Inc., Research Division - SVP of Equity Research [43]

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So just one question here. So the size of the beat was just stupendous and it seems like the beats have been getting bigger. And so Dave, I'm wondering what was the delta between the assumptions in your guidance and how the results turned out? And how -- should we be conditioned to expect these kinds of beats in the future? Or kind of how are you forming your guidance in the future with respect to all the variables that are going into the actual results?

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David F. Conte, Splunk Inc. - Senior VP & CFO [44]

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Hey, Steve, it's Dave. Many of you out there on the call have, over the years, I've said, I hate the whole percentage gain because as the number gets bigger, the percentages get harder. Your growth rate's x, but on a much bigger number, your beat percentage is y. At the end of the day, the execution in the field, like, over delivered our plan. And as a result, we overdelivered in terms of our own expectations that's now reflected in our revenue. How sustainable is that? That's an enviable position if I had that crystal ball, I would maybe be in a different business than the one I'm in. But we really spent a lot of time trying to think about the pipeline characteristics, the pipeline generation characteristics, the capacity and the productivity in the field, how we're expanding globally to think about what's our opportunity to generate the top line. There's, as we all know, a lot of fun with Splunk, some complexity in terms of that mix because the revenue characteristics can create geographical challenges between income statement balance sheet and then op balance sheet. So we factor all of that in, in our estimates. And of course, as we get greater clarity, we get a quarter under the belt and the bottoms-up analysis for the next quarter, we continually will update all of you around our expectation. But we've done, I think, the appropriate amount of work on our current estimate and it was the basis for increasing our revenue guidance by $50 million to $2.2 billion.

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Operator [45]

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Our last question comes from the line of Derrick Wood from Cowen and Company.

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Andrew Michael Sherman, Cowen and Company, LLC, Research Division - Research Associate [46]

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It's Andrew Sherman on for Derrick. I was hoping you could shed a little light as to how the acquisition of VictorOps is going and as you enter this year, how do you plan to further integrate that from a go-to-market standpoint?

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Douglas Merritt, Splunk Inc. - CEO, President & Director [47]

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Yes, good question. We're really excited with the acquisitions that we've made over the past 18 months, including VictorOps. I think that -- we learned a lot of lessons over the past 5, 6 years and continue to iterate. And my sense is we're getting better at both selection and integration. VictorOps, the main reason for VictorOps was a lot like Phantom, collaboration capabilities, when you're in the midst of an investigation or trying to circle the wagons on the effectiveness of a monitoring alert or whether a true predictive alert is of value or not, are important to making sure that the teams that use Splunk are able to achieve the results that they want. So how do we bake the really elegant, next-gen cloud-based VictorOps alerting and collaboration capabilities into the platform? That's kind of the prime orientation. But in addition to that, they, I think, are doing an effective job as serving the DevOps community. And Splunk, obviously, is used in that IT, ops, app dev, app delivery arena within that community as well. So a lot like Phantom, there's an immediate benefit to the IT portfolio, the IT apps portfolio. But the long-term benefit that we're looking for is making sure that each of the 4 core pillars of our data platform: investigate, monitor, analyze, and act, are as strong as possible and VictorOps is a key element of that act pillar that we've been focused on building up the past 2 or 3 years.

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Operator [48]

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And that concludes our question-and-answer session. I would now like to turn the conference over to Ken Tinsley.

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Ken Tinsley, Splunk Inc. - Head of IR [49]

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Thanks, Tom. I really appreciate your help today, and thanks, everybody, for your participation. I hope you have a good evening.

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Operator [50]

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And that concludes our conference call. Thank you for your participation. Have a wonderful day. You may now disconnect.