VARONIS SYSTEMS INC Q3 FY2024 earnings call

• SaaS transition progress: ARR grew 18% to $610 million, with SaaS ARR at 43% of total. MDDR is a key driver, saving customers time and enhancing protection. Gen AI had a small positive impact on reported metrics.
• Customer wins: Large medical and insurance companies converted to Varonis SaaS Hybrid with MDDR to address data security and compliance needs.
• Federal business: Underperformed expectations; changes to the federal business management team planned, with expectation of FedRAMP authorization next year to better capture the market.
• Asset purchase: A small acquisition of a team of programmers to accelerate the product roadmap, with the $6.7 million asset purchase expensed immediately on the income statement.

ARR grew 18% to $610 million in the third quarter. SaaS ARR now represents approximately 43% of total ARR, amounting to $260 million. SaaS revenues were $57.8 million, term license subscription revenues were $68.8 million, and maintenance and services revenues were $21.5 million. Gross profit for the third quarter was $125.8 million, with a gross margin of 85%.

• Q4 2024: Expected total revenues of $162 million to $167 million (5%-8% growth), non-GAAP operating income of $20 million to $22 million, and non-GAAP net income per diluted share in the range of $0.13 to $0.14.
• Full year 2024: Expected ARR of $635 million to $639 million (17%-18% growth), free cash flow of $95 million to $100 million, total revenues of $554.4 million to $559.4 million (11%-12% growth), non-GAAP operating income of $20.6 million to $22.6 million, and non-GAAP net income per diluted share of $0.26 to $0.27.

• Federal business underperformance risk due to previous underperformance and the need for management changes.
• Uncertainty regarding the materiality of Gen AI contribution to financial results as it is still early in adoption.
• Potential competitive landscape changes that could impact Varonis' market share in data security.

Q: Congrats on the results. Focusing on Gen AI, what aspects of the portfolio are contributing to customer Gen AI spending?

A: Primarily related to Copilot on 365, but also includes Einstein in Salesforce and GitHub. Initially POC stage, now knowledge workers are demanding it, creating urgency for protection.

Q: Yaki, you and Guy teased Gen AI contribution but didn't size the opportunity. What percentage of pipeline is Gen AI related?

A: Gen AI comes up in every customer conversation, but deals closed in Q3 were small, giving increased confidence as adoption increases, not baking in material amounts in Q4 guidance.

Q: Brian Essex asked about transition pipeline and existing customers converting. How is it going?

A: SaaS value proposition is strong, customers tasting automated outcomes find it a game changer. MDDR release and coverage of more data/ user repositories elevate the value proposition, driving conversion appetite.

Q: Joel Fishbein asked about federal business underperformance. Any details?

A: Federal business underperformed by several million; changes to management team planned, expecting FedRAMP authorization next year to better capture the market.

Q: Fatima Boolani asked about conversion momentum and SaaS ARR mix. What's the status?

A: SaaS now 43% of total ARR, Q3 conversion similar to Q2. Looking to be at 49% SaaS mix by end of year.

Q: Roger Boyd asked about MDDR monetization. Any color?

A: MDDR is part of a bundle, customers buying more platform get MDDR at reduced price. Well adopted by customers and Salesforce, but not quantified yet.

Q: Andrew Nowinski asked about defining material impact from Gen AI. How?

A: Analyzing POCs, pipeline, and why customers/prospects buy. Quantified in dollar terms, Copilot SKUs sold in Q3 didn't have material impact but gave confidence for future tailwind.

Q: Joseph Gallo asked about overall business environment and 4Q guide. Any thoughts?

A: Philosophy of guidance unchanged, no Gen AI materiality baked in. Q4 is largest quarter, focused and confident.

Q: Rob Owens asked about small asset purchase. Elaborate?

A: Bought a small team of programmers to accelerate roadmap, shortening time to market, with $6.7 million expensed immediately on income statement.

Q: Joshua Tilton asked about Gen AI contributions and competitive landscape. Thoughts?

A: Gen AI adoption becoming more mainstream, but Varonis is expert in data security and complex problem solving, seeing no change in competitive landscape yet.

Q: Rudy Kessinger asked about gross retention and conversions. How is it trending?

A: Renewal rates consistently over 90%. Decline in maintenance and services line item is mostly from conversions, but momentum in quarter was from new customers and MDDR.