Curtis Smith - Chief Financial Officer Marcus Ryu - Chief Executive Officer

Justin Furby - William Blair Sterling Auty - J.P. Morgan. Monika Garg - Keybanc Tom Roderick - Stifel Ken Wong - Guggenheim Securities. Michael Turrin - Deutsche Bank Rishi Jaluria - D.A. Davidson Brad Sills - Bank of America Merrill Lynch. Peter Lowry - JMP Securities. Alex Zukin - Piper Jaffray

Good day, and welcome to Guidewire First Quarter Fiscal 2019 Financial Results Conference Call. Today’s conference is being recorded. At this time, I’d like to turn the conference over to Curtis Smith, Chief Financial Officer. Please go ahead.

Thank you. Good afternoon, and welcome to Guidewire Software’s earnings conference call for the first quarter of fiscal year 2019, which ended on October 31, 2018. My name is Curtis Smith. I’m the Chief Financial Officer of Guidewire. And with me on the call is Marcus Ryu, Guidewire’s Chief Executive Officer. A complete disclosure of our results can be found in our press release issued today, as well as in our related 8-K furnished to the SEC, both of which are available on the Investor Relations section of our website at ir.guidewire.com. As a reminder, today’s call is being recorded, and a replay will be available following the conclusion of the call. During the call, we will make forward-looking statements pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 regarding trends, strategies and anticipated performance of the business. These forward-looking statements are based on management’s current views and expectations as of today, and should not be relied upon as representing our views as of any subsequent date. We disclaim any obligation to update any forward-looking statements or outlook. Actual results may differ materially. Please refer to the risk factors in our most recent Form 10-K and 10-Qs filed with the SEC. We will also refer to certain non-GAAP financial measures to provide additional information to investors. A reconciliation of non-GAAP to GAAP measures is provided in our press release. Reconciliations and additional data are also posted in a supplement on our IR website. During the call, we may offer incremental metrics to provide greater insights into the dynamics of our business. These details may be one-time in nature and we may or may not provide updates in the future. With that, let me turn the call over to Marcus for his prepared remarks, and then I will provide details on our results before providing our outlook for Q2 and fiscal ‘19. Marcus and I will then take your questions.

Thank you, Curtis. In advance of reviewing our Q1 results, I want to convey the Guidewire team’s sympathy for and solidarity with those who’ve suffered terrible losses in the California forest fires that the company's we serve primarily Property and Casualty insurers play so crucial a role in recovery from these events, gives our work ever greater purpose and urgency. Total revenue in the quarter was $179.7 million, the year-over-year revenue comparison benefited from the adoption of the new ASC 606 revenue standard which Curtis will discuss in more detail later, as well as from a contract consolidation that pulled revenue forward from later in the year. But even adjusting for this effect our revenue exceeded our expectations for the first quarter of fiscal 2019, as did non-GAAP income of $0.36 per share. During the quarter, we saw market demand for Guidewire Insurance Platform, continue to build for core applications as well as our data and digital products. We hosted our Annual User Conference, Connections in Q1 and attracted record attendance from customers, prospects, and the growing SI and technology partner ecosystem who’re eager to participate in Guidewire's expanding role in serving insurers during a time of particularly rapid change, change in end-market behavior, change in the competitive landscape, and change in the underlying risks that insurers indemnify. During the conference, we announced a new major release of insurance we optimized for the Cloud, Version 10 as well as the 2018 release of the broader Guidewire InsurancePlatform of which InsuranceSuite is a central component. The conference further enhanced our optimism about the market demand we see for Guidewire InsurancePlatform both core applications that replace legacy systems and digital engagement in analytics and data services products that complement the core in the US and internationally, especially in continental Europe. At the conference, we also elaborated on our investments in Guidewire Cloud to drive cloud-based delivery in the entirety of our platform while providing our existing customers the flexibility to transition to the cloud when they are ready. Their positive response to this message strengthened our pipeline for both InsuranceSuite and InsuranceSuite Cloud opportunities, though our early experience suggests that cloud engagements are more complex to close. Though we did not close an additional InsuranceSuite Cloud deal in the quarter, we remain confident that we will close four to eight InsuranceSuite Cloud deals within our fiscal year. Our all-in-one core system, InsuranceNow also contributes to Guidewire Cloud adoption and during the first quarter, Oklahoma Farm Bureau Mutual Insurance Company, an existing on-premise InsuranceNow customer decided to meaningfully expand their investment with Guidewire by entrusting us to manage their influence of InsuranceNow via Guidewire Cloud. We believe that other on-premise InsuranceNow customers will follow their lead onto Guidewire Cloud over time. We continue to anticipate that between 40% and 60% of new sales to come via subscription agreements for the year. In Q1, that number was 26%. With respect to new sales, we had an active first quarter adding four new customers that selected a broad range of Guidewire InsurancePlatform products and 10 existing customers that selected additional products. Aioi Nissay Dowa Insurance Europe, a $500 million DWP subsidiary of MS&AD, one of Asia’s largest insurers selected a broad range of products that included InsuranceSuite, Data and Digital and other products. Optimum General Insurance Group of Canada selected PolicyCenter, Rating Management, and Reinsurance Management. Portage La Prairie Mutual Insurance Company also in Canada selected ClaimCenter. The Zurich Financial Services, Australia selected ClaimCenter which further expanded our relationship with multinational insurer, Zurich Insurance Group. Selected customer expansions included Donegal Insurance Group, which became a full InsuranceSuite customer with their selection of PolicyCenter and further extended their Guidewire commitment by selecting Data and Digital products along with Rating and other add-on modules. Connecticut Interlocal Risk Management Agency added Predictive Analytics, Farm Bureau Mutual Insurance Company of Idaho selected Rating Management. And a number of customers including EUI Limited, Fred Loya Insurance Agency, Insurance Australia Limited, Jewelers Mutual Insurance Company and Pekin Insurance Group added Digital Products. Our customer success continues to rely on an alliance of Guidewire services and our growing ecosystem of systems integrator partners. During the first quarter seven customers had core data or digital go live, and nine customers completed major version upgrades to core InsuranceSuite products. We also continued to win the recognition of independent industry analysts. Gartner recently recognized InsuranceSuite for the second consecutive year in Gartner's Magic Quadrant for P&C Core Platforms in North America. Gartner also initiated a new Magic Quadrant for Non-Life Insurance Platform in Europe. Both reports represent Guidewire as the leader on the two dimensions of completeness of vision and ability to execute. In summary, we’re off to a solid start for the year in the first quarter and believe that our value proposition is more compelling than ever to P&C insurers navigating industry change and seeking competitive advantage in a rapidly evolving marketplace. As we drive further standardization and reduce TCO as the platform of choice for the $2 trillion global P&C insurance industry, we enabled our customers to operate more efficiently through core process transformation and predictive analytics while better serving their policyholders through digital engagement. I’d now turn the call over to Curtis to elaborate on our results and financial outlook for Q2 and FY19.

Thank you, Marcus. We began fiscal 2019 with an accounting transition to ASC 606. This transition caused increases to our licensing subscription revenue for the quarter. Even with those impacts we began the year by exceeding our guidance for revenue, operating income, and earnings per share in Q1. Total revenue in the first quarter was $179.7 million, an increase of 66% from a year ago. License and Subscription revenue, which we previously referred to as License and Other revenue was $94.3 million representing an increase of 210% from a year ago. This outsized growth rate is positively impacted by four factors. The two largest factors were included in our outlook provided last quarter. First, and most notably, due to ASC 606 a number of our term contracts that we previously recognized on a quarterly basis due to quarterly invoicing terms will now be recognized upon the annual renewal. This anticipated change moved approximately $12 million in revenue from latter periods in fiscal ‘19 into Q1. Second was the start of a 10 year term license contract in Q1 which accelerated over $10 million of term license revenue into Q1 when compared to a typical new two-year term license contract. Third, in addition to those anticipated factors, a customer consolidated multiple contracts into one agreement, pulling forward approximately $9 million in revenue from latter quarters in fiscal year 2019. And fourth, license and subscription revenue benefited from approximately $3 million of hosting revenue moving from services under ASC 605 to subscription under ASC 606. These last two factors were not considered in the outlook we provided last quarter. Even without these two items, we exceeded the high end of our license and subscription revenue guidance for the quarter. Subscription revenue was $15.3 million compared to approximately $3 million a year ago and we had no perpetual license revenue in the quarter. Maintenance revenue was $21 million, an increase of 11% from a year ago and was also above the high end of our guidance range. With our subscription growth we continue to expect maintenance revenue to grow more slowly than license and subscription revenue as support is included as a part of the subscription fees. Services revenue for the quarter was $64.4 million, up 9% from a year ago. Turning to profitability. We will discuss these metrics on a non-GAAP basis and we’ve provided comparable GAAP metrics and reconciliation of GAAP to non-GAAP measures in our earnings press release issued today with the primary differences being stock-based compensation expenses, amortization of intangibles, the amortization of debt discount and issuance costs from our convertible note, and the related tax effects of these adjustments. Gross profit was $109 million in the first quarter up 98% from a year ago due to the revenue growth already discussed. Gross margin for the quarter was 61% compared to 51% a year ago. The increase in gross margin for the quarter is largely related to timing of revenue previously discussed. Services gross margin for the quarter was 8%, down from 20% a year ago due to continued investments in ongoing cloud implementations and capacity for future implementations. Total operating expenses were $77.3 million in the first quarter, an increase of 22% from a year ago consistent with our strategy to continue investments in R&D and sales as well as the impact of our Cyence acquisition that was completed in Q2 of fiscal year ‘18. As a result, operating income was $31.7 million exceeding the high end of our guidance range largely from revenue upside, representing an operating margin of 18% for the quarter. Net income was $29.9 million or $0.36 per diluted share. Turning to our balance sheet. We ended the quarter with $1.2 billion in cash and cash equivalents and investments, a decrease of $29 million from the end of the fourth quarter, primarily due to the seasonal use of cash for bonus and commission payments in the first quarter. Also consistent with normal seasonality, operating cash flow was an outflow of $27.2 million compared to an outflow of $31.2 million a year ago. Free cash flow was an outflow of $30.7 million compared to an outflow of $33.7 million a year ago. As we turn to full year revenue guidance it is important to note the following: A meaningful portion of our license and subscription revenue upside in the first quarter was due to timing of revenue recognition previously discussed. And therefore does not have a significant impact on our full year expectations. Our updated guidance includes approximately $12 million in expected hosting revenue that is now reflected in subscription revenue due to the adoption of ASC 606. Under ASC 605 this was included in services revenue. We now expect a later start for certain InsuranceSuite cloud engagements due -- engagements to reduce our services revenue expectations for the year. This dynamic is neither due to new competitive pressures nor changes in cloud demand but reflective of prospective customers conducting comprehensive reviews before migrating mission-critical core systems to the cloud. With that backdrop, we now expect total revenue for fiscal 2019 to be in the range of $722 million to $732 million, an increase of 9% to 11% from fiscal 2018 and a decrease of $19.5 million at the midpoint from our prior outlook due to the lower expected services revenue. We are increasing our license and subscription revenue guidance to be in the range of $379 million to $389 million, an increase of 20% to 23% from fiscal 2018, reflecting an increase in subscriptions and ongoing momentum. Reflecting the change to hosting revenue, we are increasing our subscription revenue outlook to $60 million to $66 million this year. We continue to expect perpetual license revenue to be less than $10 million for the year, down from $11.8 million in fiscal 2018. We are increasing our maintenance revenue outlook to be in the range of $81 million to $83 million for the year. We anticipate services revenue to be in the range of $257 million to $265 million compared to our prior outlook. And adjusting for the change in hosting revenue this represents a decrease of $22 million at the midpoint, which reflects the timing of InsuranceSuite cloud deals previously mentioned. With respect to gross margin, we still expect overall non-GAAP gross margin to be between 59% and 61%. This margin profile is positively impacted by lower services as a percent of total revenue, offset by decline in services margin. We now expect services non-GAAP gross margin to be between 12% and 13% in this fiscal year. We are modestly increasing the midpoint of our outlook for non-GAAP operating income for fiscal year 2019, which we now expect to be in the range of $106.5 million to $116.5 million representing a non-GAAP operating margin of 15% at the midpoint. With respect to cash flow, we continue to expect cash flow to be between $115 million and $130 million before the one-time impacts associated with the buildup of our new headquarters, which is expected to be approximately $35 million to $40 million and complete it in fiscal 2019. In addition, our outlook for non-GAAP net income is $102.7 million to $110 million or $1.24 to $1.34 per diluted share, based on approximately 82.8 million diluted shares and an assumed non-GAAP tax rate but 17% for fiscal 2019. Turning to the second quarter, we anticipate total revenue to be in the range of $157 million to $161 million, within revenue we expect license and subscription to be in the range of $75 million to $79 million. We expect Q2 maintenance revenue of $20 million to $21 million and Q2 services revenue of $60 million to $63 million. For the second quarter, we anticipate a non-GAAP operating income of between $12.5 million to $16.5 million and non-GAAP net income of between $14 million to $17.3 million or $0.17 per share to $0.21 per share based on approximately 82.6 million diluted shares. In summary, it was a strong Q1 and a great start to fiscal 2019. We understand the complexities that ASC 606 create in our reported financials and are pleased to have outperformed our Q1 guidance even after normalizing for the one-time contract consolidation. We remain confident in the cloud demand we are experiencing and the cloud transition progress we are making as we continue to focus on growing our recurring revenue. Thank you. Operator, you can now open the call for questions.

Thank you. [Operator Instructions]. And we'll take our first question today from Justin Furby with William Blair.

Hey guys, can you hear me?

Yes, we do.

Great. I just -- maybe I missed this in the prepared remarks but the ARR targets that you set out at your annual stated 15% to 18% growth. Are those still on the table just given some of the push out? And can you give a sense for with some of these cloud deals that keep pushing out, what do you feel like Marcus -- the linearity this year might look like versus last year or years past? Does it feel like it's going to be abnormally backend loaded or any kind of commentary there would be helpful?

Yes, sure. On the ARR, when we put the range out, the annual range out for the year at Analyst Day, we indicated that we would be providing an annual update for it, an annual guidance, but that we wouldn't be updating it – we wouldn't be updating that number on a quarterly basis. Our view for the year though is we’re maintaining the range that we provided on Analyst Day and confirming it.

And to your other question, Justin, as you would guess, pursuing and closing the InsuranceSuite Cloud deals, it is absolutely paramount. It's the strategic objective for the year and probably will be for years to come for the sales team, and we would love to have a more linear year than it looks like we will have. We have, we believe more than enough demand in order to meet our targets but the each individual transaction is enormously complex in part because we have not yet established -- negotiated in the market validated standards for all the different dimensions that we’re negotiating, economics aside, and that's actually a familiar pattern to us from when we brought PolicyCenter, our second major core system to the market or broader Data and Analytics products to the market. It’s the kind of journey we have to go through with every new offering, and InsuranceSuite cloud is absolutely like that, if anything on the higher stakes, so the deals are definitely more backend loaded than ideal, but we're committed to getting -- to meeting or exceeding the targets that we talked about at our Analyst Day, and we’re confident that we have enough add-backs to achieve that within the year and then beyond.

Just let me correct one statement I misread on my script and that has to do with the four factors that impacted our revenue beat. I mentioned the two largest factors were included in our outlook provided last quarter. The first one, and most notably due to ASC 606 a number of our term contracts that we previously recognized on a quarterly basis due to quarterly invoicing terms will now be recognized upon the annual renewal. This anticipated change moved approximately $20 million in revenue from latter periods in fiscal 2019 into Q1, and that's the correct number, $20 million versus I think what I said was $12 million.

And then maybe just Curtis just given the last couple of quarters the magnitude of the services cuts and I think part of it last quarter was around systems integrators, this time it seems like it's all about the timing of deal closure. Can you just give us a sense -- I think the last update was you were assuming these two deals would close in the first half of the year, what are you assuming now, and I guess what gives you the confidence that the quarter from now we’re not looking at another services cut?

Yes, that’s right. In this quarter, we indicated the services cut was related to the start date of anticipated IS cloud deals, and that we noted in our script here in our prepared comments that we’re now expecting those four to eight to be more backend loaded, and we noted that we didn't close an InsuranceSuite cloud deal in Q1.

And are you expecting them in Q2 or now in the back half?

At this point, Justin, we’ve taken a more conservative look and assume that they’re going to happen in the second half of the year. Obviously we’re trying for them as soon as – it can happen in the second quarter, but as – took a more conservative approach of assuming that that’ll happen in the second half of the year to avoid precisely what you suggested; also to be clear in both cases, these are non-competitive, these are primarily about negotiating all of the different dimensions of delivering the solution with heightened service levels and security expectations on the part of our prospects.

Next question is from Sterling Auty with J.P. Morgan.

I want to follow-on in terms of the insurance cloud deal closures especially looking at how the stock is reacting after hours, I think whenever software companies talk about deal slippage, there's always concern. And Marcus, you kind of mentioned couple of them not being competitive, but looking at those deals, how much of this is demand driven, meaning that do your customers have the motivation to be buying this shift to the cloud now, or is there any concerns from either macro or anything else that could further delay winning these closures or is it simply just -- it’s a shiny new toy and everybody's got to get comfortable with all the bells and whistles to sign on a dotted line?

Thanks for the question, Sterling. I don't think the demand is motivated by novelty. I think that this has been a long, long sought after a set of transfer of accountability and complexity to Guidewire’s shoulders that our customer base has been seeking for quite a long time. And so, that was our intentions and our investments, and really explicit commitments during the user conference and another one-on-one conversations have all been really enthusiastically received. Now, when we're trying to formalize and transact on that intention, there's -- it's been daunting the sheer number of questions, and expectations and audits, and other participants who get involved in that deliberation. In many cases insurers have not interrupted really any core or mission critical applications to the cloud. And while they are absolutely resolute in their pursuit of the benefits, simplification and transfer of responsibility, no overhead and declining unit costs and computing and all of the things that all the benefit that cloud brings, they have a lot of hurdles, even our internal sponsors have to jump through, and we're alongside them in that process. We have every confidence both in the underlying demand because this is just the winds are literally blowing on in this direction in this requirement and also that these discussions will get more and more simple as we establish and negotiate the standards in the market. But we are in the early days of this and the whole industry, and the going has been more complex and kind of more bespoke in these conversations than ideal. Nonetheless, we standby our targets for the year.

And then just one point of clarification. The four to eight wins, are those all four to eight expected to be brand new customers Guidewire or are any of those existing customer conversions? And if it’s brand new customers as you mentioned I think a conversion that you won during the quarter. What should we expect in terms of existing customers decide to make the move?

It will be a mix of both of those. We have demand coming in both flavors. That actually kind of a third flavor where we have an existing customer that is adopting cloud for a business unit or a portion of their premiums that is not yet licensed for us in the traditional model. So all three flavors are net new customer conversions of existing customers or existing customers doing new sets of business, they're all represented in our pipeline. And it would be a little difficult to call exactly what the final mix will be, but I would -- if I have to guess now I would say know all three types will be represented in the final new customer count.

We’ll now hear from Monika Garg with KeyBanc.

Hi, thanks for taking my question. This later starts engagement of cloud deals what you talked about just as a follow-up, how many -- you've got pushed out. If it's one deal or two deals, could you give -- share the number?

Well, Monika, as you’ll recall the -- in our Q4 call, we had hoped to get an additional two InsuranceSuite cloud done actually at the end of last fiscal year. And we shared that both of those have pushed into this year. We're still engaged in those two as well as well a host of others that we're striving to get close within the year. We did a lot of progress on those. But those -- progress wouldn’t count until we have a final consummated transaction and that's what we look forward to sharing over the next couple of quarters.

Then just given that like in the two quarters we have seen the slippage of the deals because of the complexities. Is it like -- given you gave us the five year targets on the subscription and the cloud transition, kind of do you feel confident about achieving that or do you think given it is taking longer to close, it could be that, those targets if you are conservative enough or, we could see some of that still not coming into the cloud and coming as insurance deals?

I mean, there are unknowns here Monika and you know that it's not in our nature to get -- try to get ahead of ourselves and forecasting points of inflection that we don't know exactly when they will happen. The source of our confidence, though, is that the underlying demand is so sustained. It's so broad across all the segments of our customers in different geographies, like different lines of business, whether they are mutual companies or publicly traded, whether they're large or small. There's just a remarkable unanimity across our customer base that sooner or later all of these -- what they want is no longer an IT asset, but a business service relationship where we're delivering a highly standard platform as a reliable business service. That's just -- it's almost now receipt of wisdom and common sense across the industry. So now just to the specifics of are they -- can they go through all the steps of validation that were worthy to take on that role for a mission critical system, as a transactional source approved for their entire customer base and business? That's the question. There's no question that we are the right party to evaluate. But even longstanding relationships don't entitle us to that next stage of relationship. Most of the discussions are not really economic in nature. They're much more about substantiating or are bonafide to that house with really sensitive mission critical data to deliver high service level that are required. And then of course negotiations about all the liabilities and risks transfers that are part and parcel of these kinds of deals.

Tom Roderick with Stifel has our next question.

Hi guess thanks for taking my question. So we have a lot of moving parts here obviously and if I kind of look at the bigger picture there is a big beat in the first quarter, some of that coming from later in the year so kind of come full force from that. At the end of the day services revenue a little lighter than you expected for this year just given a little bit more conservative outlook on timing of the cloud deals. But if I think big picture about it I guess the question would be is the demand environment really changing much out there for you or is it simply timing of InsuranceSuite cloud kind of tricky core demand for everything else that we historically talked about, steady as always and then the big picture around ASC 606 and all the timing movements, there’s a lot of noise but we'll get through that. So I guess the big picture is all the stuff going on out there in the economy, what's changing for you?

Right. So if you bracket out all of the accounting considerations which I personally don't focus on tremendously myself but just on the underlying demand, I would think the demand is more robust than we've ever had and you’ve heard me voice that at in our other -- in our earnings calls at our Analysts Day. There’s more dynamism and change in the industry in the present and once for most of Guidewire’s history and all of that motivates technology investment, the way that consumers -- that the end markets that our insurers serve is changing in there and they’re rising expectations absolutely cannot be met with the existing platforms, with the legacy platforms that is and the drivers of digital engagement of new product offering of much greater business agility of much linear and more automated operations, all of these things and more origin, more deeply felt than ever, and we are seeing that across all market segments and in particular and very excitingly for us also in Europe, which has been a challenging place for us historically but now we have more activity than ever before. Now that’s kind of exogenous to us, that’s just happening because of just the industry and the market. On top of that we have -- we’ve taken a very assertive stance in the market that we believe that the platform wants to be cloud-based and that insurers should not be trying to over time have an IT relationship with Guidewire, but really a cloud-based business service relationship as I alluded earlier. And that has I think -- that has created its own complication on the one hand it’s agitated a lot more interest because that’s what insurers are really seeking, on the other hand, again now the question of the surface area of evaluation is much broader than it was before, there’re many more questions to be asked about, many more credentials that were expected to supply before entering into that relationship. So that’s where we find ourselves with more sales activity, more customer engagement than ever before. But where each of the major relationships are a little bit more difficult to rest hold on to the ground. And again as that becomes more routinized we think that will be the beneficiary of it, but that’s the year that we’re in right now.

And Marcus you talked about digital engagement quite a bit, and it seems like the partnership you’ve had with Salesforce has been one where you can take advantage of their presence in the front office, they’re taking advantage of your awareness on the policy and claims side. But I’d love to hear a little bit more about perhaps digital as a means of sort of accelerating your installed base of potential customers to the cloud to the extent that they may already be going on the front office with pure play cloud vendors like Salesforce. Does that accelerate demand, with your digital offering or will that still be sort of a little a bit slower approach on the cloud side?

So well, two points here, Tom. Number one, digital is probably the single biggest catalyst for major IT investments within our end markets. It’s probably true to a lot of enterprise in other industries as well. But certainly among insurers digital is the driving catalyst. There’s a need to completely transform the interaction that insurers have with primarily their policyholders; secondarily, their distribution channels; and then thirdly, with their supply chain partners that were involved in the claims process for example. All of those need to be in a much more digital mortality than they are today and that in turn led insurers to realize that their core system environment just won’t support the kind of digital interactions that they need for the future, you just can't paste those onto a 1980s COBOL mainframes, it’s just not designed for that. And so that’s in turn motivating core system evaluations which is also good for us. So even if the initial business motivation may be digital distribution that may lead to the decision to seriously evaluate core policy replacements, which is what we want. The second part of your question is about the relationship with Salesforce that’s been very productive. We’re hopeful of announcing a couple of meaningful wins this year in collaboration with them. We’re collaborating very effectively in the field where we have wholly complementary value proposition. They do things that we will never do, namely deliver all of the horizontal CRM capabilities that insurers are seeking, but in turn they will never build an insurance core system. And these two universes have to work together to deliver what insurers want which is a 360 view of the customer and a really satisfying consumer grade digital experience for both internal and external users. And that's what we -- that's our value proposition together. So our -- the relationship with Salesforce is a component of our digital value proposition, but it's not the entirety of it. For some insurers it's hugely exciting and it’s where they want to talk about digital, for others it's just -- it's kind of off the side and what they really need is a core system replacement to complement with digital engagement for customers and distribution partners.

Our next question comes from Ken Wong with Guggenheim Securities.

Hey guys. I wanted to touch on the two contracts, the two large contracts that's on Q1 a little bit. First, you mentioned kind of a 10 year deal that seems a little longer than I'm used to hearing in the past. And then second the consolidation. Any of that has to do with of customers seeing in kind of a shift in subscription and maybe trying to do some last minute buying and making sure that they can kind of lock in the ability to buy the way that they have purchased in the past?

It's interesting question Ken. I think these are both kind of anomalous one-off cases where it really was not about the technology decision. I think it was more about their own internal accounting and capital allocation requirements. One of the cases with a European insurer that was just very dogmatic about capitalizing the investment on a 10 year horizon and they just needed the contract to conform to that. And for our US insurer, we probably would have been a little more resistant, even though we did something perverse about this because of course we like long-term relationships. And historically we've been proud of the fact that we had five year plus contract durations, but the accounting regime held us on us for a loop. We've adapted to that with a much more annual kind of subscription model. This one European customer was just absolutely adamant to that, they needed on a 10 year horizon and so we found ourselves in a perverse position of reluctantly agreeing to what we always would have wanted historically. And the accounting for that was again led to a kind of acceleration of recognition, but that's not the norm. And I don't think it was motivated by any kind of macro or market consideration. The other case was a renegotiation or a kind of consolidation of a longstanding customer we had, also international, has licensed many of our products across many different portions of their multinational business over the years. And we just wanted to -- we both wanted a full rationalization of that under a single contract. And so we did that mostly motivated just like by business considerations to keep things simple. And then the accounting that followed from that was almost an afterthought. That's what we reported today.

Got it. And then Curtis, in terms of the moving pieces on top-line, I'm just wondering if license is benefiting from any additional shift in hosting revenue from services up to that particular line and obviously does the inverse for whether or not that's a headwind to services?

Yes. That's one of the things we noted Ken, in some of the reasons for the growth rate in Q1. The fourth item that we noted or factor was license and subscription revenue benefited from approximately $3 million of hosting revenue, moving from services under ASC 606 to subscription under 606. And for the full year, that was a $12 million amount that came out of our services outlook and we put into our license and subscription. So that was the impact on the hosting revenue moving from services to subscription.

Okay. Perfect. And just a 12 million. Thank you for the clarification.

Michael Turrin with Deutsche Bank has our next question.

Marcus in fiscal '18, you started to see some more notable recent strength in Europe that could be pointing to more of a tipping point, I’m wondering if we could get an update on that region it’s still showing similar signs of momentum, or does the added complexity around the cloud transition have a more pronouncing impact on some of the overseas regions as well?

We continue to be really enthusiastic about the traction that we're getting in Europe, in other region meaningfully exceeded the target of last year. And we're hopeful that they'll do so again this year. I just returned from there a few weeks ago and felt great about what I saw in multiple countries in terms of just the level of engagement that we're getting. I don't want to overstate that. These are still extremely conservative organizations, and as always, we have more evaluation friction there than we do in the US or English speaking countries. But nonetheless, we feel very positive about that, and we've invested accordingly. The cloud discussions are relevant in Europe. I would say there are may be a half dozen or so behind where they are in North America. I couldn't give you a specific reason for that whether it's -- it could be cultural, it could be just additional conservatism on the part of companies working with US vendor. We're not sure if this -- there's a lot of interesting cloud as a certainly the theoretical subject that will become relevant later. For the most part, our discussions in Europe are still focused on the traditional on-premise model and licensing model for now. But we have every expectation that that will evolve over time, just as it is here in North America.

Helpful. And then Curtis, it sounds like 606 adoption had more of a positive impact to Q1. First is, is that a fair classification? And then secondly, are you still expecting that overall impact to be closer to neutral as we work through the course of the year? Thanks.

Yes, on Q1 that's a fair comment. We noted the 10 year multi-license contract in Q1 which accelerated over $10 million of term license revenue. We noted this when we provided out that that we were expecting, it came in a little bit above our expectation and we finished closing it out. And that did bring some revenue from future years into fiscal '19 and then directly into Q1. The other impact of 606 on the quarter revenue from periods later in the year into Q1 and this was also an anticipated when we provided our initial outlook for the year and that's approximately $20 million that I referenced in my comments that came from later years in fiscal '19 into Q1 due to the quarterly invoicing of those contracts now being recognized on annual renewal in Q1.

Our next question comes from Rishi Jaluria with D.A. Davidson.

Hey, guys. Thanks for taking my question. Curtis, I will start with you. On the subscription side can you maybe help us directionally understand what the components of that number are? How much is actual InsuranceSuite cloud versus Cloud Services versus InsuranceNow versus $3 million of hosting that you talked about within the quarter? And alongside that you talked about subscription guidance for the full year, it essentially implies that subscription revenue is going to be flat for the balance of the year, and I’d expect that line to be growing. So may be help us understand that? And then I’ve a follow-up for Marcus?

Sure. So we noticed in the quarter that the subscription revenue of $15.3 million versus a year ago was approximately $3 million and then we updated our guidance on our subscription revenue outlook to a range of $60 million to $66 million and that includes the additional $12 million in hosting revenue that was previously in services revenue and is moving into our subscription revenue outlook. So you know one component of that $60 million to $66 million is going to be the $12 million in hosting revenue for the year. We have not split out the other components or how that divides up within subscription, subscription is a new metric that we've been providing. You'll see in the press release and in our 10-Q but we don't break it up beyond showing it as a line item of our overall license and subscription revenue.

Okay. And then just alongside that, actually doing $15 million in subscription this quarter, based on the $60 million to $66 million guide, you’re essentially saying that subscription revenue is going to be flat for the next three quarters or maybe marginally up sequentially, why would that not be growing faster?

We don't break out the amount per quarter. There is some -- we don’t break that amount per quarter, we just have given the annual guidance for the year. So it’s a $60 million to $66 million and I hear your point if you’re doing math on the $15 million in quarter, another $15 million per year to get up to the $60 million to $66 million. So also one of the things we’d note too that with the subscription revenue because it’s ratable, it can be backend loaded, so you are going to get more. Then if you start a subscription agreement early in the quarter, you’re going to see more of that subscription revenue come in the fourth quarter. So that’s one of the components that might be factoring into that number.

Okay, thanks. And then Marcus last quarter, you mentioned that maybe there’s some difficulty on the InsuranceNow business. Just wanted to see -- the conversion that you talked about in the quarter and any updates just on how the InsuranceNow business is trending?

The conversion was an important one, that was almost a resale of the product and the company. So that customer has very materially increased the value of that relationship, the recurring revenue of that relationship and we’re -- we expect that that’ll happen pretty much for the rest of their self managed in-fills right now over time. As for net new customers, I think we’ve -- we feel we’ve a handle on what's been challenging over the -- over the previous periods, we have new business leader who is driving the alignment of go-to-market end product, who is longstanding Guidewire leader that took the assignment about half a year ago and I think it’s having really good impact. And we think that the underlying demand for the products in that market segment is as strong as ever. So with those ingredients and with the commitment to better sales execution we think we can do materially better this year than we have -- than we did last year in that product area.

We’ll now hear from Brad Sills with Bank of America Merrill Lynch.

Hey, guys. Thanks for taking my question. I wanted to ask about getting these customers over the hurdle with InsuranceSuite cloud, is there's something about the architecture, the data center model whether it's hosted or do you need to go to multi-tenancy? Is there some kind of investment that you might need to make to make it easier to kind of get these customers over that hurdle for adoption?

No, that it's really -- well as best as we can tell there really isn't an architectural hurdle here. It's entirely about a risk aversion and/or with a pursuit of opportunity and benefit that our customers are going for. And they need to overcome that risk aversion by doing lots and lots of validation, confirming that that we understand all of their data sovereignty requirements, a ton of in-fill security. There's a lot of negotiation around them, around liabilities and indemnification on different theoretical bad outcomes that can happen. And then there's just the governance process that sometimes our customer have to discover for themselves about what it takes, what levels of approval they need in order to make a decision like this. It's almost always now a board level topic. We're not a stranger to building -- having to build serious institutional consensus for a company to work with us. We're seeing that kind of maybe doubled now when we're talking about these hard relationships, because our customers tend to see that as kind of a one way ticket, but once they make this decision they're really interrupting us for the long haul, which is true for core systems, but they in a sense they feel doubly true when it comes to the cloud, because now it's not only the application that they're betting on, but division of labor that would be very difficult for them to reverse in the future. And I think it's rational for insurers to want to think about it very carefully and all the implications of it. And that's what's involved in these discussions. What makes it easier over time, I think it’s simply repetition and greater market adoption. And just because the -- this isn't a novelty, this is really responses to thesis, the most strategic need that our customers have and that's what we're responding to here and that's why they're investing the time to do these explorations. Once we validate that with a growing number of customers in our nearly 400 customer community, we think that there really will be a momentum behind that becomes -- that feels more and more like inevitability.

Great. Thanks Marcus. And one more if I may please. Just it sounds like you're seeing real good traction here with Data and Digital. Any color on maybe some of your larger customers in terms of some of the use case scenarios where they may be going deep on the analytics platform. What are some of things that you're seeing often used for? Thank you very much.

Yes. Sure. There are really two separate sides, Data and Digital and quite different in their value proposition. And most of what ensures one out of data are a combination of data visualization just being able to see a much larger universe of data and interpret it better, whether that's -- and then sometimes combining different universes of data that are that are difficult to interpret when they are in raw form but -- such as geo location data, with climate data, with the financial and policyholder data, kind of the new visualizations that we offer I think are quite compelling, even though they have to now ensure how to use and figure out how to operationalize their usage of that. Then there’s Predictive Analytics, which is just making better high volume decisions by taking out some of the guesswork and just doing it in a more systematic data driven fashion which is what machine learning is ideal for. And we've shown that we can create uplift across many of the core insurance decisions about whether to take on business and underwriting, how to think about a claim, how to think about the customer value, and whether you want to renew them and at what price, et cetera. So those are the kinds of very standard data use cases that insurers are really beginning to pursue now, and where we think we're very well situated. On the digital side, simply put, it's about creating more and more of a consumer great experience for all of the interactions that -- the distribution service interactions that insurers have to support. And here, the standard is not being set by any particular insurers being set by Amazon, by Uber, by Apple, right by the consumer Internet. And that's a very high bar, especially when you consider how complex insurance products are, but every insurer feels like almost a substantial need to get closer and closer to that standard, because that's what their distribution partners and their customers want. And so we have years of collaboration and additional products and market developments to go in digital. It's not just kind of one-off phenomenon that would satisfy the requirement, the expectations are so expensive and the gap is so wide that we will be I think at work in the digital arena for many years to come. And that's a great opportunity for us because it's a more compelling transformation than simply the back office function that has been our traditional focus for the first decade at the company.

We'll now here from Peter Lowry with JMP Securities.

Thanks for taking my questions. On the cloud InsuranceSuite deals, it’s mission critical, so I get all the validation, the steps that they're taking to manage their risk. I guess the question is, how much your industry best practice is moving towards you? Or is there anything there that people are trying to figure out?

I'd say, well, we have more insurers, more customers saying that the future is hard for them, but they cannot afford the proliferation of IT complexity, they cannot afford the degree of customization that they have across their enterprise for all their systems. And so they need the simplification of the divisional labor that is inherent in the cloud. And that frankly, their business users just don't really care where the blinking boxes are located. They just want a function that works. So that's kind of universally sort of sentiment, I think where there's more -- there's much more divergences, well how ready are we as an insurance company to entrust an outside party to domicile all of our customer data. And what questions do we need to ask, how much diligence is enough diligence to feel that we've done our job, alright? And how much liability is it appropriate to -- for the vendor to hold? How much can we as an insurer take on, how much has insurable? These are the questions being wrestled with. And I would say there really is not an established industry norm on these questions. I -- we find ourselves often referring to or invoking the examples of Workday and Salesforce, who have somewhat meaningful insurance customer base to say, surely you cannot hold us to a higher standard than these height and yet some times the reply is actually we have to hold you to a higher standard because what we're asking you to do is more strategic and mission-critical than what we do with Salesforce and Workday. That's the nature of the conversations we are having. But I sense -- that we sense it over time, these will just become more and more natural, more and more routinized as we have more examples to point to.

Okay, great. And then just quickly, could we get an update on the -- your M&A stands with your $1.2 billion of cash or your capital allocation in that regard?

Yes, a fair question. So we have no M&A announcements, the energies of the core teams here are focused almost entirely on cloud these days. That said, this time was enormous investment in technology and innovation in insurtech, there are -- that insurtech mama is still going strong. We still believe and have told all the time that we’re the logical consolidator that we’re the most logical home for a lot of these technologies both by our customers and sometimes by the technology companies themselves. So I think we’re in kind of prime position to act when we find the right fit, then again evaluations are still quite daunting and the thing that we’re most mindful of right now is not getting distracted from the job one which is obviously the cloud transformation. So I think we’re in a target rich environment, but also we’re not in any rush and it’s unlikely that -- well it’s extremely unlikely that you’ll see us announce anything very consequential until we’ve really shown the kind of traction that we’re committing to you here with cloud.

Our next question will come from Alex Zukin with Piper Jaffray.

So Marcus just going back to the kind of pushed cloud deals just to finish with that thought, is this about the two deals pushing -- the push from 4Q that -- pushing from the first half to the second half, what are other deals that you’re expecting to close in the first half but have also pushed up in the second half? And then I’ve a couple of follow-ups.

I’d say we’re still range finding on just how long it takes to get one of these deals done or what the steps are I should say, that’s a temporal question that are we going to process a phased question that we’ve to go through with customers. And it’s fair to say that we were surprised in the other two cases, because in both cases there were additional cycles of evaluation by different constituencies that we normally have to interact with but really wanted to weigh in on the cloud decision and that’s what’s taken longer than we’ve hoped. And insurers will differ in this respect, but I would say it’s a broad pattern, there’s just more people who have to weigh in and evaluate with more questions than our historical norm. And there’re cases where the decision is largely made and then it’s been more conventional commercial negotiation but on the whole it is a different set of questions with more reassurances, more personal commitments that have to be made, more trips to visit boards than we’ve had for our core system sales for a long while.

And then I guess so the confidence around continuing kind of ARR growth you guys reaffirmed on this call and the four to eight deals this year, correct me if I am wrong, but it sounds like your confidence is stemming from a volume of deals perspective but if the velocity of all of these deals is a lot longer or just longer than you anticipate, what gives you -- is there something that you feel like with these two you’re going to figure out and then be able to replicate on those or just again what is giving you the confidence that all of these deals or many of them are just going to take a lot longer than you anticipate?

Well, we’re not sitting in the dark Alex, nor are these all at a standstill, or they were -- or we anticipated based on all of these, some of these are more just advanced discussions that we’ve varying degrees of confidence of getting done within the year and as always as the portfolio estimation of how many we can get done within the timeframe. It is a forecasting challenge for us right now because on the one hand we have a very high volume of deals in pursuit as we’ve been talking about today there’s more variance and there’s been more negative variance in the amount of time it takes to get them closed. On the other hand, we have every reason to believe that that's an FY'19 question and kind of a two or three year modeling question. We've every reason to assume to believe that with an initial corpus of adopters and success stories that flow from them, including the ones that we already have in production today, that there will be a meaningful acceleration. And we have a large customer base, several hundred customers that have been seeking this and are looking to make this transition, whether or not they're prompted by us. So it makes for a challenging forecasting question for us, but the best we can do is say we think we have enough targets that are sufficiently advanced at the portfolio that we can make our targets that -- publicly committed targets for the year.

Yes. And then just -- maybe just one final one. With some of your larger existing customers that maybe most modern version of the Guidewire platform, can those customers jump directly to the cloud version or do they need to do it in steps, meaning get current and then go to the cloud version?

The best practice that we’ve asserted is to use to get to InsuranceSuite 10, which was a big theme of Connections is that this is really a cloud-optimized release, not that at the end phase. Of course we're going to have a lot more to do as we advance our products, but that this is -- that everything about InsuranceSuite 10 was designed to put the concept of us managing the applications in the cloud for our customers. And therefore, our best practice would be to upgrade to that before moving on. And that's not just an architectural question at all for the functional -- the many functional enhancements that we can deliver, that our intent and in the release is in between. So that will generally be the recommendation for customers and that's based on which way we're estimating the capital required to make the transition for both new and existing customers.

That will conclude today's question and answer session. At this time, I’d like to turn the conference over to Marcus Ryu for any additional or closing remarks.

No additional comments. Thank you all for participating in our call today. Good bye.

Thank you. That does conclude today's conference call. Thank you for your participation. You may not disconnect.