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    ServiceNow Inc (NOW)

    Q3 2023 Summary

    Published Jan 10, 2025, 5:10 PM UTC
    Initial Price$560.85July 1, 2023
    Final Price$558.96October 1, 2023
    Price Change$-1.89
    % Change-0.34%

    What went well

    • Robust Growth in Large Deals and Core Products: The company saw significant growth in large deals, with the number of $5 million-plus deals more than quadrupling year-over-year and $10 million-plus deals doubling year-over-year in America. EMEA's $1 million-plus deals increased 70% year-over-year, and APJ's increased 40% year-over-year. Strong performance in core products like ITSM and ITOM continues, reinforcing their position as the core offerings.
    • Exceptional Performance in Federal Business: The federal business had the biggest quarter in the company's history, with ACV up over 75% year-over-year, including 19 deals over $1 million and 3 deals over $10 million. This strong performance is expected to be sustainable, with durable demand and opportunities for expansion into state, local, and international public sectors.
    • Positive Outlook Driven by Generative AI and Digital Transformation: The company's generative AI capabilities are resonating with customers, acting as a productivity multiplier and complementing the ServiceNow platform. Early adoption of gen AI offerings is accelerating transformation journeys for customers, contributing to a strong pipeline and confidence in achieving growth targets for 2024 and beyond.

    What went wrong

    • ServiceNow's strong Q3 results were significantly driven by an exceptional performance in the federal sector, with ACV growth over 75% year-over-year and 19 federal deals over $1 million, including 3 deals over $10 million. However, this reliance on federal contracts, which are typically of 12-month duration, may introduce volatility and pose a 1-point headwind to Q4 cRPO growth due to renewals timing. This could lead to future revenue growth challenges if the federal sector does not maintain this level of performance.
    • The company is significantly increasing headcount in sales and marketing (over 500 net adds) and R&D (almost 400 net adds), which may pressure operating margins if revenue growth does not keep pace. While the company expects to maintain strong profitability, increased expenses could impact margins in future quarters.
    • In new market areas like cloud observability, ServiceNow acknowledges that they have "a lot of work to do" to compete with established players. Despite recent product advancements, entering competitive markets where they are a newer entrant may hinder their ability to rapidly gain market share and could require significant investment.

    Q&A Summary

    1. Federal Business Growth
      Q: How sustainable is the strong federal ACV growth?
      A: The federal business had its biggest quarter ever with 75% year-over-year ACV growth, including 19 deals over $1 million and three over $10 million, such as the U.S. Air Force deal, the third-largest in ServiceNow's history. This demand is durable, driven by federal agencies consolidating contracts and digitizing. Success in federal can be replicated globally in the public sector.

    2. Generative AI Adoption
      Q: Will adoption of ITSM Pro Plus outpace previous versions?
      A: Demand for Pro Plus is strong, seen as a productivity multiplier. In late September, four customers purchased Pro Plus immediately after launch. Conversations have shifted to implementation and data strategies rather than potential benefits.

    3. 2024 Growth Outlook
      Q: How does AI affect 2024 growth prospects?
      A: Confidence in 2024 goals remains high, with potential upside from generative AI. While AI was part of the plan in May, excitement has grown significantly. Generative AI is expected to boost IT budgets, with IDC predicting a 7% increase next year.

    4. Microsoft Partnership
      Q: How is the traction with Microsoft impacting growth?
      A: The partnership with Microsoft expands the market through co-selling. ServiceNow helps streamline migrations to Azure, with deep integrations across Microsoft products. Joint deals influenced Q3 across geographies, including government wins.

    5. Observability Market Positioning
      Q: How is ServiceNow positioned in cloud observability?
      A: With the recent addition of logging capabilities, ServiceNow now offers a full cloud observability solution. This positions the company to compete head-on in the enterprise market.

    6. Current RPO Beat and Outlook
      Q: Was cRPO beat driven by federal deals, and what's the Q4 outlook?
      A: The cRPO beat was due to strong net new ACV growth, primarily from federal business and early renewals. A 1-point headwind is expected in Q4 cRPO due to 12-month federal contracts rolling off.

    7. Headcount Increase
      Q: What's driving the uptick in headcount this quarter?
      A: The company invested in critical areas, adding over 500 in sales and marketing and almost 400 in R&D. Focus remains on quota-bearing sales and key engineering roles.

    8. Vertical AI Solutions
      Q: When will AI solutions become more vertically oriented?
      A: Focus is on core use cases across industries for now. Vertical solutions are being developed, like on-premise offerings for public sector customers. Financial services and TMT will be prioritized next.

    9. Commercial Business Ex-Federal
      Q: How was performance excluding federal growth?
      A: Strength was also seen in other industries and geographies. Employee workflow products grew significantly due to demand for productivity.

    10. Revenue Recognition Impact from Federal
      Q: Did federal deals impact revenue recognition and margins?
      A: On-prem revenue remained consistent year-over-year, with no impact. Revenue strength resulted from strong execution.

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