It’s been five months since a CyberArk (NASDAQ:CYBR) article of mine landed on a public Seeking Alpha page. But it’s not because I lost interest in CYBR. Instead, the company has done exactly what was needed to finish turning the business over to its subscription model and turn on the revenue growth jet. It has simply been a wait-and-let-it-happen time period as I kept my eyes on the now two earnings reports between then and today. What I’ve seen is solid execution of the strategy, and what’s ahead looks even better for CYBR’s stock to finally establish its next leg higher with a significant upsell opportunity.
In the September article linked above, the company was just exiting its active transition to subscription licensing. Even then, though, there were some perpetual sales still needing to wind down to finalize the matter. But the Q4 report showed the process has now nearly completed, with recurring revenue coming in at $88.5M, up 86% year-over-year and making up more than 52% of the quarter’s overall revenue. Perpetual license revenue was just $14.6M in the quarter, making up 8.6% of revenue.
If you’re new to CyberArk or the software recurring revenue game, you’re likely wondering why I’m bullish about a lower revenue number in one of the sales categories. The simple answer is perpetual licensing is the model of decades past and requires a three-month sales urgency window to close deals and recognize revenue. And while the company gets to recognize virtually all of the deal’s revenue at once, that’s all it gets; another cycle of winning customers begins to build another quarter of revenue.
With recurring revenue, the product sales pitch is the same, but the advantage is a customer doesn’t have to outlay a huge sum of money upfront. Instead, it starts a subscription and pays a smaller amount each month or each quarter. Similarly, CyberArk doesn’t get a large sum upfront, but it does get to recognize the initial payments for the quarter and turn around and say we’re all but guaranteed this amount over the next 12 months (or however long the subscription period is).
And the market likes predictable revenue – it’s the crown jewel of the software business. Gone are the days of paying hundreds of thousands or even millions of dollars for software upfront while the vendor chases deals quarterly. Instead, the format brings customers into a deal with a subscription not much different than Netflix in a lot of SaaS (software-as-a-service) cases – pay and connect.
It works for the vendor, it works for the customer, and it works for the market. What’s not to like?
Well, it takes time if the vendor has to transition.
Reaching The Promised Land (Of Recurring Revenue)
Still, CyberArk has done a phenomenal job not killing its sales pipeline and not running the company into the ground from a profitability perspective. Yes, it has dipped and is continuing to dip into unprofitability on the bottom line, but it has done so methodically.
And with the recurring sales transition lapping the prior year of transition, both ARR (annual recurring revenue) and revenue growth are going to be the metrics that shine moving forward.
Let’s first look at the subscription revenue progress. The follow-through effect from the subscription business will drive revenue growth and make the next year or two easier to picture and grasp what CYBR is worth – the visibility is really the beauty of this entire strategy.
There are a few things I noticed on the below revenue trend chart. The first is the consistent subscription revenue gains as a percent of overall revenue. The second thing I noticed is the flatlining of subscription growth year-over-year. It has started to level out in the 70%-80% range. This is the basis of where subscription revenue growth will begin to pull up overall revenue growth.
This is also depicted by the smoothing of seasonality. Notice how the typical seasonality from Q4 to Q1 and then rising through the year for 2020 and 2021 mimics the seasonality of social media and retail companies. The fourth quarters are both the dominant peak next to their respective following first quarter. However, Q1 ’23 is expected to have the least drop-off from the preceding Q4.
This is the tipping the scales moment of the subscription business. If I add in the remaining recurring revenue coming from maintenance, only 8.6% of revenue in Q4 is from non-recurring, unpredictable revenue. This means 91.4% of revenue is going to be consistent over the year. No more large year-end IT budget dumps to make the company’s revenue lumpy. Now it’s beginning to see the fruit of its hard work to show more or less even gains each quarter since each subscription sales win adds a little to the pot immediately but fills the coffers of the backlog.
CyberArk has arrived at the moment it has been working toward over the last three years. It’s becoming more like an Adobe (ADBE) in terms of predictability than a shell of its past when it would miss revenue guidance due to a large deal not getting across the finish line in time – not that it happened often, but it was a continual risk.
Now let’s add in the revenue growth trajectory, including the upper end of FY23 guidance, and see how it’s starting to run toward the subscription revenue growth rate.
You can see Q4’s revenue is exceeded by Q2 in FY23, contrary to historical seasonality. The subscription revenue business is making a huge impact on the trajectory of overall revenue and is playing a large role in the consistency of quarter-to-quarter growth.
You’ll also notice my quarterly revenue numbers differ from the current consensus. Q2 and Q3 numbers are at the high end of the range (mine are $179M and $190M, respectively), but my Q4 number of $204M falls below the average. This is due to seasonality flattening out to nearly nothing in FY23. There might be some, but it will generally be taken up by 68% of total estimated revenue being subscription revenue.
Continuing To Find Wins, And Using Subscriptions As Leverage
After lousy revenue growth rates during the transition period, the company is finally reaping the benefits of its strategy with elevated and consistent growth as yearly revenue growth starts to accelerate. The next lever to pull is upsell deals to build the backlog in this tough environment. But because security is one of the leading priorities no matter what the environment is (attackers don’t stop based on a foreboding economy or high inflation), gaining customers and upselling current ones isn’t as challenging as one might think.
The company met or exceeded the logo acquisition of the prior year’s quarters for all of 2022. That not only means there hasn’t been a slowdown in this tougher environment but accelerated logo acquisition. CyberArk acquired 1,100 logos in FY22 – the most ever in a year – compared to FY21’s 960.
It doesn’t appear like the company is struggling during this challenging time to find more customers, not when it’s setting records.
And with 2023 starting out as gloomy as 2022 ended in terms of economic visibility, the recurring revenue model is going to be the company’s shelter in the storm because the backlog takes care of the business for the year ahead. Moreover, stretched-out sales cycles aren’t as impactful since the wins don’t add as much to the top line as a perpetual license sales, so stretching them out doesn’t lose as much to the top line.
The counter to not adding as much initially to a sale is the ease at which the company can upsell and add on new products, especially in the cloud. This continued to happen in Q4:
Our subscription transition is increasing the velocity of add-on business, particularly with our SaaS solutions…A major hotel chain is accelerating its cloud-first strategy with CyberArk expanding coverage from PAM, CyberArk Identity and Secrets Management to Endpoint Privilege Manager. A Global 2000 financial services company was our first Conjur Cloud customer and also Secret Hub. As customers implement Zero Trust strategies, they want the peace of mind with a single pane of glass into all privileged activity, visibility that only CyberArk can provide today.
– Udi Mokady, CEO, Q4 Earnings Call
That one paragraph explains the company’s two main strengths: its all-encompassing package of products and the ease of upsell.
This means even if the company’s logo acquisition slows down in FY23, it doesn’t mean its subscription revenue or total revenue will. With such incremental purchase opportunities due to the subscription model, the upsell opportunity is alive and well.
A Solid Buy On Dips
Moving to a recurring revenue model makes the company a solidly predictable revenue generator. As I’ve said time and time again and continue to do, CyberArk is becoming like Adobe. But CyberArk has something Adobe doesn’t: priority software. Therefore, CyberArk’s market position in the cybersecurity sector makes it an even better and more economic-resistance buy at similar valuation levels as an Adobe-type.
Management has done well to this point – transitioning while maintaining a methodical financial approach and coming out the other side with momentum already building on the model. The CEO transition may be a risk as Mokady has led the helm well this far, but the now-promoted CEO was only one seat over from him during the entire model transition as COO. Thus, I don’t have concerns about a continued push for what has worked.
Cybersecurity with an expansive product portfolio and a recurring revenue financial model; it’s hard for me to find something I don’t like about this company.