Good afternoon and thank you for joining us to discuss PagerDuty's First Quarter Fiscal Year 2024 Results. With me on today's call are Jennifer Tejada, PagerDuty's Chairperson and Chief Executive Officer and Howard Wilson, Chief Financial Officer. Before we begin, let me remind everyone that statements made on this call include forward-looking statements based on the environment as we currently see it, which involve known and unknown risks and uncertainties that may cause our actual results, performance or achievements to be materially different from those expressed or implied by the forward-looking statements. These forward-looking statements include our growth prospects and future revenue, among others, and represent our management's belief and assumptions only as of the date such statements are made, and we undertake no obligation to update these. During today's call, we will discuss non-GAAP financial measures, which are in addition to and not a substitute for or superior to, measures of financial performance prepared in accordance with GAAP. A reconciliation between GAAP and non-GAAP financial measures is available in our earnings release. For further information on these and other factors that would cause the company's financial results to differ materially are included in filings we make with the Securities and Exchange Commission, including our most recently filed Form 10-K as well as our subsequent filings made with the SEC. With that, I'll turn the call over to Jennifer.

Good afternoon and thank you for joining us on the call today. PagerDuty delivered solid 21% revenue growth in line with guidance and record non-GAAP operating margin well ahead of our range at 16%. Year-over-year operating margin expanded by more than 1,800 basis points as we balance growth with profitability in an increasingly challenging macro environment. Enterprise and mid-market customers exhibited resilience contributing to our stable ARR churn rate of less than 5% and a 17% increase in account spending over $100,000 in ARR. Total customer count was up marginally year-over-year as we saw more pronounced headwinds in SMB acquisition and retention. From a pipeline perspective, total ARR and mix from new products improved meaningfully during the quarter, a positive demand signal especially in a more conservative spending environment. We entered the first quarter with ramped capacity and pipeline value at their highest levels in several quarters. This combination generated strong transaction volume. However, customer spending was more centralized and rigorous, which lengthened sales cycles and put pressure on average deal size and conversion rates, especially for in-quarter created and closed business. At a high level, we saw stability in our enterprise and upper mid-market base but more cost-constrained behavior and reduced budgets for new services while customers progress cloud and IT optimization efforts. SMB, which represents a high percentage of our customer mix, but only 20% of our ARR saw higher than historical churn with customers primarily moving to homegrown or free solutions. Free accounts on our platform grew by 65% year-over-year. Platform usage grew in the quarter, demonstrating the essential nature of the Operations Cloud and criticality of incident response. The competitive environment remains stable as PagerDuty continues to widen the gap through innovation in AIOps and automation. We are adapting to our customers' evolving needs by ensuring…

Thank you, Jen, and good day to everyone joining us on this afternoon's call. In Q1, we delivered solid revenue growth in line with guidance at 21% and record non-GAAP operating margin well ahead of our range at 16%. It was a quarter with significant Operations Cloud product, innovation releases each month with general availability of flexible workflows in February, cloud-based process automation in March and the next version of our AIOps solution in April, which provides complex support for both developers and centralized ITOps teams. Q1 also saw large enterprise customers continuing their Operations Cloud journey, embracing our more advanced product offerings with large expansion deals. In the quarter, we generated standout sales pipeline with a strong focus on multi products. And we saw high levels of customer engagement reflected in a high volume of expansion transactions and high usage of our platform. In enterprise and mid-market, new customer acquisition remained strong. The enterprise and mid-market segments continue to contribute to more than 80% of our annual recurring revenue. In some respects, Q1 proved to be a challenging quarter where we noted an increased focus by customers in cost containment, either making decisions to defer spend or looking for ways to reduce cost in the near term. Sales cycles continue to lengthen as deals required higher levels of justification and more approvals. This was particularly pronounced in the back half of the quarter where more deals were pushed, deal size has decreased and conversion rates came under pressure compared to our historical trends. We have made operational adjustments in response to the changes we are seeing in customer buying behavior as well as revising some of our estimates for the rest of the year. Unless otherwise stated, all references to our expenses and operating results are on a non-GAAP…

Great. Thanks so much, Howard and Jen. [Operator Instructions]. We're going first over to Matt Hedberg with RBC.

Can you hear me okay?

Yes.

Maybe I wanted to start with a macro question and then I had an AIOps question. But on the macro, relative to the guide 90 days ago, I mean, did things deteriorate as kind of Q1 progressed that caused kind of that lower view for the full year. I just want to maybe better understand that macro element in terms of things deteriorate further here.

They did. In fact, when we set our guidance at the beginning of the year, we were looking at trends from the back half of last year. And macro trends seem to have stabilized in Q4, but then deteriorated further in Q1. I mentioned that we entered the quarter with a very strong pipeline and probably the best level of ramp reps we've seen in several quarters, but the changes in our customers' spending patterns really put pressure on the business. And that included them taking longer to get deals done, deal sizes being smaller. And we're now adjusting to a macro where we require higher than historical pipeline coverage. So we are being somewhat conservative in our guidance. This is an outlook that gives us cushion as it contemplates the macro either staying the same or potentially getting worse. But we're also still investing in making sure that we have capacity available, innovation available should the macro improve, we can take advantage of that situation.

Got it. Thanks for that Jen. And then on the AIOps consumption pricing model, curious how you think that ultimately impacts the model longer term. To me, it feels like it could be an easier on-ramp for customers taking it, maybe some customers spend more, some less. But just sort of wondering like how you think about it being sort of potentially accretive to growth longer term.

I think you really nailed it when you said it's an easier on-ramp. We think it will be a net positive over time because instead of having to license your whole organization for AIOps, you're going to license based on the events you consume or the events you push into the platform, what we call events that are accepted by the platform. And that means small teams that generate high demand on the platform but also get high value are going to be charged accordingly. The pricing and value will be better aligned, then simply, you've got to license this number of heads. I think that bodes very well for centralized teams like security teams, network operations, SREs, et cetera. And really, this was driven by feedback that we got from our customers over the course of the last several quarters. The other thing we've done is improved our global event orchestration, which means these centralized teams can manage events across many parts of the business across the infrastructure at a much higher reliability and scale than a single developer managing their particular service. So there's also a pretty significant product enhancement that goes along with this. So something we're really excited about and is competitively differentiated because it leverages our foundational data model.

Thanks. We're going to hear from Joel Fishbein at Truist. Joel, go ahead.

Jennifer, another one for you as well on the AI front. I would love to hear how you mentioned a little bit on the call, but how Generative AI is going to impact the space in general. Obviously, there's a lot of noise, a lot of fundraising going on right now. Just to take a step back, a bigger picture and give us your thoughts on the how Generative AI is going to impact the industry? And how PagerDuty is positioned to deal with that?

I think it will be transformative for the industry. And I think we're going to see the way people work change dramatically because of the consumability or the intuitiveness of how using a natural language engagement model enables everybody to participate in the benefits of Generative AI. And so for example, I think it's going to increase productivity and the cost efficiency of every worker by enabling them to do more with less, work faster, start things from a reasonable draft as if they had an assistant analyst helping them versus starting from scratch and being able to use their expertise to iterate and build higher quality products and services, whether we're talking about developers or marketers or DevOps engineers or IT operations people. For our space, in particular, I think it is an accelerant and I think it will expand PagerDuty's TAM because as you know, many development teams are already leveraging Generative AI to build software faster to develop code more cost efficiently and more quickly. But just like distributed computing, that means we will see more services launched into an ecosystem that will generate more complexity. And it means, I think, a step change in difficulty in managing the technology ecosystem, which is already fraughtless technology debt today. So we think that is a net tailwind for PagerDuty that, that level of complexity, the expansion of the ecosystem means customers are going to need more automation and more support in identifying issues and automatically diagnosing those issues and auto remedying those issues. And we've been using AI for quite some time and now Generative AI in our platform to help teams do that, but with the expert human in the loop so that you're not reacting, making decisions, actioning maybe inaccurate information, right? You're going to see a lot of, I think, fast iteration using Generative AI, and you're going to see a lot of experimentation. And one of the things that's really exciting to me is that our customers are already experimenting with how to use Generative AI alongside or in complement to our products. So I think there could be an explosive nature in use cases that comes from development not just be limited to us but others building on the platform. So that's super exciting to me, but I say all that in, I think, the important context that we also understand how important fidelity, security, scalability and reliability are to people using our platform. So that's why we're really thoughtful about how and where we apply Generative AI into different workflows. But overall, I think it will be incredibly transformative for the industry and a net positive for the company.

Next, we will hear from Tim Jausovec. I hope I say that right. Tim, go ahead.

I was wondering relative to the outlook you provided in March, your conversion rate has decreased as customers which are spending. Could you speak to what are the potential catalysts for customers to convert over the next couple of quarters versus continued to post spending and will be getting more visibility on the macro environment?

Yes. Thanks, Tim, for that question. First of all, I would start with we already see customers engaging in large strategic Operations Cloud deals. And we talked about two earlier in the prepared remarks, where the actual cost pressure and the margin pressure to do more with less is actually, in some cases, the impetus for a customer to engage with us and expand their deployment from pure incident response to include the benefit in our AIOps product and automation. So that is one area. And we also, as I mentioned, saw an improvement in the mix of new product versus more traditional incident response in both our pipeline and our ARR for the quarter. So that's a green shoot that I think is sort of good news. I would also say that we've seen now four quarters of cost containment and trying to tighten budgets and manage headcount across the customer base, frankly, in every segment. And I do think that customers are starting to settle into where their budget may land and eventually may see more certainty around their budgets that enable them to potentially invest more in future quarters, but that's outside of our control. What's within our control is enabling our sales force to adapt to a new way of buying, a buying that is more centralized, somewhat more rigorous to anticipate more approvals and higher level approvals for even smaller purchases. It also means that we've had to adapt our marketing to think about our coverage ratios from a pipeline perspective and make sure that we have more coverage than we would have historically needed to get to our targets again in every segment. And I've said this in the past when we saw kind of a change during the first quarter of COVID, that we take the long-term view with our customers. And if it is better for them to move from free to paid in this environment, we're going to support them in that migration because we know they will be back when they do have access to capital to invest and ensuring that our customers can get benefit from the investments that they've already made from the deployment they've already got is priority number one for us, making sure that they continue to see that value. And I think that's one of the things that drives the resilience of our mid-market and our enterprise customer base.

Thank you. And then a follow-up, Howard, could you provide a little bit more color on what type of conversion rates your full year revenue guidance assumes relative to the conversion rates that you've seen this quarter?

Yes, sure, Tim. So in looking at the full year guidance that we gave, we had a look at the most recent conversion rates that we had seen within Q1, and we did a comparison looking at how things have played out within Q3 and Q4 when we've seen a level of stabilization. So we have had a look at both how long deals are taking to close. So the average days to close has lengthened. We've seen the percentage of pipeline that shifts and we've had to look at what the conversion rates look like. And some of these are multiples of what they would have been a year ago. And so we've adjusted accordingly to be able to take that into account. So our expectation is that as we look through the rest of this year, we've built some conservatism into that guide, expecting that things would stay the same or get worse, and that then gives us confidence in the range that we provided of the $425 million to $430 million for the year.

Next, we'll hear from Chad Bennett with Craig-Hallum. Chad, please feel free to ahead.

So I didn't see in the press release or here on the call, have you guys taken any additional cost actions related to, obviously, a pretty material guide down for the year. And what is your, if we're looking at kind of revenue or billings growth, it went from the low 30s to effectively mid-teens in a year. Are you comfortable with the level in sales and marketing spend at that growth rate that you're running at?

Yes. So thanks, Chad. We haven't taken any incremental action apart from the action that we took in January of this year. We've been running a structured program over the last 2 years to be able to get to an efficient cost structure, and we're continuing to execute on that plan. We still retain a focus of being able to maintain our R&D spend in the 20s, and you'll see that that's tracking around the 22%, 23% mark. We're looking for continued scale in G&A and those programs are working well, and we think they will deliver more in this year, hence, the improvement in our operating margin guide for this year. And from a sales and marketing perspective, we have a plan that sees us improving our model, whilst being able to still prioritize quota-carrying reps, so that as the macro improves, we're in a position to be able to take advantage of that. So we're balancing both the growth with the profitability, and hence, the improvement that we are guiding to in terms of operating margin is because we've seen a way to make sure that we can offset some of that top line movement with an improvement in terms of how we manage expense.

Then maybe one follow-up on Generative AI and the impact. I saw the use cases you put out on your blog earlier today. That were very interesting. But just kind of the broader picture of Generative AI being a pretty significant tailwind to developer productivity in general. And the whole thought of -- you can do more with less, which I think you said, and that means maybe developer growth or seat growth moderates as Generative AI is adopted. How do you balance that with kind of the automation, AIOps aspect of less seats but maybe bigger deal sizes, more automation deals and so forth. Is it net-net a tailwind or a positive? I understand the more software out there, more complexity, and so forth. But I'm just wondering if, net-net, it's a tailwind.

I think it's a more is more sort of a tail. It is definitely a tailwind because I think my experience with developers, and I've spent a lot of time with developers is if you make them more efficient, they just build more interesting, more stuff, right? So I think both the quantity and the quality of the creativity on the part of the developer is going to increase, right? And we know from the transition to continuous deployment that when you make developers more efficient, whether that's through the way the developer value chain works or how distributed compute and the democratization of compute freed up capacity for developers or now Generative AI, they just build more and they ship more and more amazing things. And if you sense a sort of excitement in my voice, that's because I really do think that this is going to be transformative, not just for the tech industry, but for every enterprise that relies on technology to change the way they engage with their customers to change their products and services. I mean the amazing things that can be done in an IoT environment for a manufacturer now in health care, in automotive. So I think we're going to see real breakthroughs in all industries, not technology, and all of these industries are going to leverage the breadth and capability and genius of developers to really advance their own business models and their own innovation. And remember that a lot of the work that a developer is responsible for is not creative work. It's maintenance engineering, it's testing, it's security management, right? Its operations in some cases. So the more you can make that work efficient and free up time for them to ideate, to stay and flow, to build interesting and…

We'd like to hear next from Rob Oliver with Baird. Rob, go ahead when you are ready.

I had one for each of you. Jen, I'll start with you. I think part of the surprise here on the guidance, I think, for the full year, you guys had that kind of extra month being an off quarter and sort of like an extra look. So I kind of want to dive a little bit deeper into some of what happened here and what transpired throughout the quarter. Certainly, macro, which I think we all get but there were some other things you guys had that I wanted to touch on and just see to the extent that they had impacted things. You did have a change in Chief Revenue Officer, and I know David left in February. So I'd like to get your sense on how that transition to Jeremy is going to the extent in which that created potentially any disrupt at enterprise, which, of course, is always a fear when you have this. And then secondly, I know you guys had raised some prices and [indiscernible] those price increases. I just wanted to get a sense for whether price is an issue or became an issue in any of your negotiations? And then Howard, I had a follow-up for you.

Okay. That was a lot of questions. I'm going to see if I can get to them all here. So we did have a look at May, and May was largely similar to April, right? And I think that was important in helping us think about our guide and trying to be somewhat conservative in terms of looking at where the macro could go. We don't have a crystal ball, but we did see the macro deteriorate in Q1 compared to the data that we were looking at in Q3. And data is really what drives our guidance. In terms of the revenue leadership transition, that transition has gone exceptionally well. And it would be an easy scapegoat to say, oh, well, it's the transition, and that was the challenge. But we really have an experienced veteran in Jeremy, and he's led the largest parts of our business over the course of the last several years and management in mid-market and enterprise has not meaningfully changed. So we continue to, I think, go from strength to strength there. As I mentioned, entering the quarter with more ramp reps than in the past with a stronger pipeline than we have in the past. But when you see those conversion rates come down because it's taking longer to convert pipe because customers are taking longer to make decisions to secure budgets to make determinations around growth, that has been the bigger issue is the buying behavior.

Yes. And I can maybe just jump on the pricing side of things, Rob. So you're right. We did anniversary in March, some of the price increases that we introduced about a year ago. We haven't seen pricing play an outsized role in terms of the decision-making. Obviously, in this environment, people are looking at price carefully. But I would say that the value that we deliver, particularly in the enterprise, where there's very strong ROI still creates the compelling reason for customers when they're ready to act in this current environment. So we're positioning that value, but customers still have that constraint in terms of when they're ready to spend. But certainly, the value that we deliver is clearly evident.

Great. Okay. That's very helpful. Thanks guys. And then Howard, just a quick follow-up for you. I know you were clear in most of the cost actions that you guys had done, were done back in January. I thought you had said in your prepared remarks that you did make some operational adjustments as a result of the new lowered outlook. And I think Chad may have asked about that, and I apologize if I missed it, but could you just clarify what those were?

Yes. So the operational adjustments were not associated with any changes from a headcount perspective. So there hasn't been any incremental change in terms of a reduction in force. So we did one back in January, which we discussed on our prior call. The operational adjustments that I was referring to were more around us having a look at the new data because we made decisions around our guidance for this full year based on the data we had from Q3 and Q4. We saw a change, a noticeable change in the data in Q1, particularly the back half of Q1, and that led to us making some decisions around how do we think about the pipeline that's required? How do we want to direct investment or capital into additional pipeline generation. And what are the things that we can do to improve conversion rates even in the current environment. So those were mainly adjustments that we're making from a go-to-market perspective in recognition of conditions essentially being worse for us in Q1 than they were in Q4.

Next, we have Matt Stotler with William Blair.

This is Alex on for Matt. Appreciate you taking our questions. So just one on the macro. Could you maybe just qualify the change in trends a bit more? Was it more of a few big deals falling under the pipeline or was it just more due to a broader slowdown? Thanks,

Yes. And thanks for the question. In terms of the change that we've seen, these were generalized from a customer buying behavior pattern in terms of we noticed across segments, across verticals and across geographies that customer buying behavior became more constrained, and that was reflected again across those segments doing smaller deals, taking longer for deals to close and in some cases, deals being deferred or being pushed out. So there was no -- it was not a specific -- specifically related to only a specific segment.

Got it. Thanks for that. And then just switching gears a little bit. Regarding your pipeline for other new use cases such as SecOps, customer support, marketing, IoT, et cetera, what do you view as the most compelling with the most immediate market opportunity?

That's like asking me who my favorite child is. I would tell you, Gabriel, that I think the 2 biggest opportunities in front of us right now are AIOps and automation because they're the most intuitive, right? And because we're seeing an increased appetite for automation across the platform. But every single one of our products like customer ServiceOps automates the engagement between customer service teams and the developer and tech community so that they can collaborate more effectively in an automated way when there is an incident, for instance. So it's kind of hard to say, but I am very excited about AIOps. I think it will take time for the market to understand that product and see the opportunity. Long term I think that is a big opportunity for us. Automation continues to I think surprise us in terms of just the breadth of use cases that people are applying process automation to and the different types of customers like you don't have to be a big enterprise to leverage process automation. And now that we have parity in terms of the feature set in our cloud-based or SaaS version process automation, it can be used in zero trust environments. And I think that is a great step forward. And the funny thing is when we look across all of our customers, whether they're enterprise, mid-market or SMB, they're at widely varying points in the operational maturity curve. Some of them are like literally just getting engineers on call. And some of them like the online travel company we spoke about earlier is really looking at how do they automate their entire digital operations environment from detection of an event all the way through to auto remediation. And ours is the only platform that you can do all of that on in a safe and scalable and secure way. And so not really a direct answer because I think there's opportunity in all of those products. But maybe one way to address your question is when you bring it all together, and you leverage the power of the entire platform, you start to see very high ROI, tens of millions of dollars of ROI. And that's what we're starting to see in some of these bigger multiyear deals that we're doing.

And we're going next to Gabriel Roade Gomez.

Congrats on the quarter. So I have just two quick questions about the guidance or how do you guys expect cost to trend as the quarters progress towards the end of the year? So in the case of gross margins for efficiency, are you guys working on any initiatives there to widen the gross margin? Or how should we expect that to trend as the quarter has progressed?

Yes. So Gabriel, we still would be thinking about gross margin being in our target range, which is 84% to 86%.

Okay. And then in the operating expenses, in terms of how -- because you're guiding for 11% operating margin, you deliver around 15%, 16%. So I was wondering how will the increase in capital expenditures or those expenses how will they be distributed between sales and marketing, research and G&A.

So the way that we think about this is we anchor around R&D and trying to keep R&D expense around the 22%, 23% range. And then we're looking to drive for the full year, continued improvements around G&A and sales and marketing. So if you look at where we ended for the full year last year, those are the two lines that you would expect to see the most improvement while we try and keep the R&D plan at the same level.

It looks like we've made it through all the questions. Jen, we will turn to you for a final comment, please.

You might be on mute, Jen.

I'm just talking to myself. Thank you, Josh, and thank you all for your interest and attending today. As I mentioned earlier, our mission to revolutionize operations is unchanged. We are focused on the long-term building a durable growth company and confident in our ability to execute. PagerDuty remains essential to our customers. Our tech lead continues to grow. Our strong operating margins lend themselves to sustainable investment in profitable durable growth, and we are excited about the potential TAM expansion and possibilities that Generative AI presents. Thank you and have a great evening.