Earnings Call Transcript - GWRE Q3 2021

Operator, Operator

Welcome to the Guidewire Third Quarter Fiscal 2021 Financial Results Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. Please note, this conference is being recorded. I would now turn the conference over to your host, Alex Hughes. You may begin.

Alex Hughes, Vice President of Investor Relations

Thank you, operator. Good afternoon and welcome to Guidewire Software’s earnings conference call for the third quarter of fiscal year 2021, which ended on April 30. My name is Alex Hughes, I am Vice President of Investor Relations, and with me on this call is Mike Rosenbaum, Guidewire’s Chief Executive Officer; and Jeff Cooper, Guidewire’s Chief Financial Officer. A complete disclosure of our results can be found in our press release issued today, as well as in our related Form 8-K furnished with the SEC, both of which are available on the Investor Relations section of our website. Today’s call is being recorded and a replay will be available following the conclusion of the call. Statements made on this call include forward-looking statements regarding our financial results, products, customer demand, operations, the impact of COVID-19 on our business and other matters. These statements are subject to risks, uncertainties, and assumptions, and are based on management’s current expectations as of today and should not be relied upon as representing our views at any subsequent date. Please refer to the press release and risk factors and the documents we file with the SEC, including our most recent Annual Report on Form 10-K and our Quarterly Report on Form 10-Q to be filed with the SEC for information on risks, uncertainties, and assumptions that may cause actual results to differ materially from those set forth in such statements. We will also refer to 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. With that, I’ll now turn the call over to Mike.

Mike Rosenbaum, CEO

Thank you, Alex. Good afternoon, everyone, and thanks for joining us today. I'm pleased to say that we had a great third quarter with both ARR and subscription revenue coming in ahead of guidance. We continue to build on our cloud momentum with key cloud wins, migrations, notable cloud deployments and the third release of our cloud platform, Cortina. Cortina is the latest in our twice yearly release cycle for the Guidewire Cloud Platform and includes numerous advances and innovations that bolster our position as a leading cloud solution for P&C insurers. On today's call, I'll provide more color on each of these areas and talk about how and why our performance in the quarter gives us increasing confidence in our cloud transformation. Then I'll turn it over to Jeff to discuss our financial results and outlook. Starting with sales activity. We closed eight cloud deals in Q3, five for InsuranceSuite Cloud and three for InsuranceNow. We continue to see very healthy year-over-year growth in deal count. And year-to-date, we've had 11 InsuranceSuite Cloud deals, up nearly 2x compared to the same period last year. Sales activity in the quarter showed strength across Americas and Asia Pacific regions and included the following highlights. FCCI Insurance Group, a middle market commercial property and casualty insurer headquartered in Sarasota, Florida, and writing in 20 states plus Washington, D.C., decided to upgrade ClaimCenter to the Guidewire Cloud Platform and replace their existing billing system with BillingCenter cloud. This will allow FCCI to simplify its IT environment and benefit from the continuous upgrades and innovation cycle provided by Guidewire Cloud. An existing ClaimCenter and BillingCenter customer specializing in commercial trucking and auto insurance chose PolicyCenter on Guidewire Cloud in a first step towards adopting Guidewire Cloud more broadly. Key factors that impacted their decision were a need to increase their speed to market with new insurance products, seamless integration with ClaimCenter and BillingCenter, and lower overall total cost of ownership. RLI Insurance Company, a Tier 2 specialty insurer headquartered in Illinois, was in the middle of a ClaimCenter version 10 upgrade when they decided to accelerate straight to Guidewire Cloud. This will allow them to stay current with the ClaimCenter roadmap to improve automation and dynamic claims processing while aligning with their cloud-first strategy to improve speed to market. This is a great example of how our effort to streamline cloud upgrades accelerates customer adoption. Aioi Nissay Dowa Insurance New Zealand, a subsidiary of MS and AD in Japan that provides motor insurance through the Toyota dealer network in New Zealand, selected InsuranceSuite Cloud after an extensive competitive review. Key differentiators included our product breadth, our proven ability to scale and our cloud innovation roadmap. This is the first great win at Aioi, which will allow us to demonstrate our cloud platform to the larger MS&AD group. Earthquake Commission, or EQC, a New Zealand Crown entity that conducts natural disaster research, education and provides insurance to residential property owners, elected to migrate ClaimCenter cloud from V8 for our cloud's compelling financial case, improved configuration tools and strong innovation roadmap. This is a Guidewire-led migration that utilized our cloud direct framework. We also continue to gain momentum with InsuranceNow, which is our all-in-one core offering targeted at smaller insurers in North America and where we tend to see the broadest competition. An MGA headquartered in Nashville selected InsuranceNow for its product versatility and for the maturity of Guidewire. This will be a Cognizant-led implementation, which demonstrates early momentum with partner-led implementations of InsuranceNow. After an extensive review, we also saw InsuranceNow selected by Lititz Mutual Insurance Company, a provider of homeowners and business insurance through a network of independent agents. Additionally, a long-time Tier 1 customer chose to invest in another instance of InsuranceNow to support an additional business unit for its versatility, rich feature set and ability to scale. This customer leverages both InsuranceSuite and InsuranceNow as they have many different business units that each have different core solution needs. And finally, in a great example of how InsuranceNow can scale as our customers grow, we significantly expanded our partnership with Andover Companies, a Tier 3 insurer who has been an InsuranceNow customer since 2017. We also continue to see healthy activity and strong demand for data and analytics with six deals in the quarter. Our Cyence business continues to grow as insurers are seeing growing demand from policyholders looking to safeguard against the threat of increasing frequency and severity of cyber risk around the globe. Notable wins in the quarter for Cyence include Donegal Insurance Group, Ascot US Services and eSentire. eSentire, a global leader in managed detection and response, represents an exciting use case for Cyence outside of insurance. In addition, we also had a great digital win in the quarter at Automobile Club of Southern California. The AAA affiliate carrier, an existing InsuranceSuite customer, wanted to improve their digital presence, and our Yujiro framework enabled their team to create compelling digital journeys faster and cheaper than with their existing alternative. While this was not a cloud deployment, I want to point out that the architecture of the digital solution and how it aligns to our cloud platform was a key factor in the decision and points to our cloud platform. Turning to customer success, 12 customers went live on implementations for 30 Guidewire products globally, and we were particularly pleased to see two initial go-lives on the Guidewire Cloud Platform. Aviva Italy, a leading Tier 1 insurer, successfully deployed InsuranceSuite on Guidewire Cloud Platform in less than nine months and experienced immediate cost reduction in application maintenance operations. The Hartford, a leader in property and casualty insurance, was able to deploy InsuranceSuite Cloud for the Putty Insurance brand and achieve full end-to-end functionality in less than six months. Putty provides a direct-to-consumer quote and buy experience for contractors and handymen, allowing the purchase of usage-based insurance for as little as a few hours of coverage. In the quarter, we also saw Insurance Australia Group, Australia’s largest insurer, go live on PolicyCenter, BillingCenter and Digital. This was a large transformational project, four years in the making and included partners, PwC, Tenzing and Cognizant. For large transformations like this, an insurer will often focus on modernizing their core systems first before moving to the cloud. We're excited about this go-live and look forward to continuing to support IAG on its journey. With that, let me turn to discussing Cortina, our most recent Guidewire Cloud release, which I'm very excited about and we are all very proud of. Cortina represents a significant step forward in advancing our cloud strategy, and is a major expansion of the innovation, efficiency and ease of integration for customers. It demonstrates the advantage of combining Guidewire's depth and breadth with the speed, ease and efficiency of the cloud, and the large amplifying ecosystem of solution partners, who can more easily plug in through open APIs and standardization. I'm especially happy about Cortina, because the key enhancements contained in it exemplify how the platform has evolved and will continue to evolve, how the pieces work together and build on each other and how now after three releases, it's more and more apparent how powerful this innovation machine will become for our customers. Cortina included three important examples of innovation that I want to highlight. First, we introduced a new integration gateway as a native part of Guidewire's platform. The integration gateway orchestrates API calls to and from InsuranceSuite and third-party applications, and greatly simplifies the approach customers take to integrating Guidewire to other systems. This simplifies process automation and enables insurers to create their own differentiating workflows based on an ecosystem of connected apps and services. It's a great example of the type of thing that is repeated over and over again with every single implementation of Guidewire around the world. By centralizing and standardizing the approach to integration with InsuranceSuite, we can make this important part of every implementation faster, cheaper and more reliable. Second is Data Studio, a new data management tool built on top of our Guidewire data platform that enables customers to access, create and publish business-ready data sets whenever they are needed. Now every single Guidewire Cloud Platform customer automatically has out-of-the-box access to a data lake populated with the event-driven data streams from InsuranceSuite and paired with Data Studio. This enables customers to quickly and easily define and publish these data sets to be used for any reporting and analytics requirements they have. Again, this foundational platform capability reduces the costs associated with initial implementations and makes ongoing innovation on the platform much faster and more effective. Finally, we have now made it possible to run InsuranceNow on the Guidewire Cloud Platform, which will extend many of the Guidewire Cloud Platform benefits like scalability, monitoring and easier integration to our InsuranceNow customers, and this will also drive greater efficiency for Guidewire. It's a critical first step in extending the innovation and benefits from InsuranceSuite and Guidewire Cloud to our InsuranceNow customers. Switching gears to our SI ecosystem and marketplace. We continue to see tremendous enthusiasm and excitement across Guidewire's global partner community. We ended the quarter with more than 1,600 consultants from 31 partner companies who have now earned the advanced certifications required for Guidewire InsuranceSuite Cloud implementations, and this is up 36% from the end of last quarter and continues to demonstrate the strong demand for partner implementation, services and Guidewire Cloud. Additionally, Cognizant and Deloitte qualified for the cloud specialization within our PartnerConnect program, joining PwC, EY and Capgemini as key systems integrators who have earned this designation. This growth in certified consultants and partner specializations is proof of the opportunity our SI partners see in the future of Guidewire Cloud. We also saw continued momentum with our marketplace partners. There are now over 700 applications from Guidewire and 120 partners, and we added a record number of partners and partner applications in the quarter. As we continue to grow this marketplace, we deliver more and more value for customers by enabling insurtechs to innovate on top of and in conjunction with our platform. As I mentioned just a minute ago, Cortina delivers a very significant new integration capability that I expect will unlock innovation and accelerate the development of simple, repeatable plug-and-play integrations on our marketplace. Finally, Cortina also includes Guidewire usage-based insurance, which is a packaged set of products and services built on the Guidewire platform and integrated with key capabilities from our partner ecosystem, such as TrueMotion and Cambridge Mobile Telematics. It's the industry's first end-to-end usage-based insurance solution supporting the entire life cycle from quote to claim. In summary, we continue to execute well across the key elements of our strategy, including cloud deals, go-lives in our partner ecosystem and our Guidewire cloud roadmap. Customer interest engagement continues to grow, and activity levels are high as we close out our fiscal year. We feel good about our cloud pipeline and long-term position in the market, and I continue to be very confident in the connection between our successful short-term execution and the long-term outcome we're driving towards in 2022 and beyond. I'll now turn the call over to Jeff to discuss the financial results in more detail.

Jeff Cooper, CFO

Thanks, Mike. We were very pleased with our results in the quarter, exceeding our outlook across the board. Third quarter ARR ended at $538 million, up 11% year-over-year. We saw continued InsuranceSuite Cloud combined with strong contributions from analytics and InsuranceNow. Total revenue was $164 million, ahead of our outlook, primarily due to strong subscription revenue. Subscription revenue was $44.6 million, up 48% year-over-year. Subscription revenue benefited from higher-than-expected variable revenue from Cyence and InsuranceNow customers and strong third quarter revenue conversion from cloud deals sold in Q2 due to faster software provisioning. As a reminder, we start recognizing subscription revenue for our cloud arrangements upon provisioning of the software. Other components of total revenue finished largely in line with our outlook. Term license revenue was $50.9 million, which is $12 million lower than Q3 last year due to $12.8 million of deal duration impacts last year that did not recur this year, and more generally, due to the fact that almost 90% of our bookings in Q3 came from our cloud products. Turning to profitability for the quarter, which we will discuss on a non-GAAP basis. Gross profit was $81.6 million. Overall, gross margin was 50% compared to 56% a year ago. Subscription and support gross margin was 42%, and benefited from revenue outperformance that I just discussed. Services gross margin was 10% compared to 12% a year ago. Operating loss was $16.3 million, better than our guidance range, due to higher-than-expected total revenue and lower-than-expected expenses, due to the timing of hiring. We ended the quarter with $1.3 billion in cash, cash equivalents and investments. During the quarter, we invested $80 million on the repurchase of 765,000 shares, with $77.4 million remaining in our share repurchase authorization. Turning to our outlook, I will discuss the full year outlook. And then, I will discuss some preliminary expectations for fiscal 2022. For the full year, we now expect ARR to be between $562 million and $569 million. Our fourth quarter is always a very active period for Guidewire, and this year is no different. We have a large number of cloud evaluations ongoing at the moment. This includes a healthy mix of cloud migrations, existing customers looking to bring new systems to the cloud and new customer engagements. Sales activities with existing customers contemplating a migration are focused on the timing of an eventual upgrade. However, the timing of the final resolution of these engagements is always hard to predict, and our outlook reflects our best view into where we believe we will finish the year. As we look ahead to next fiscal year, we continue to feel confident in demand, as customer upgrade schedules firm up. As a reminder, we measure ARR on a constant currency basis and revalue ARR at the end of each fiscal year. If FX rates remain unchanged from the end of Q3, we would expect some benefit to our ARR numbers, but this benefit is not reflected in our outlook. We are increasing our total outlook for total revenue, which we now expect to be between $732 million and $738 million. This reflects increased strength in subscription revenue and services revenue. We are increasing our guidance for subscription revenue to approximately $167 million. There is no change in our term license revenue expectations. And there is just over $3 million in longer-than-normal deal duration embedded into our term license outlook in Q4. We are also increasing our services revenue outlook to $185 million, as a result of delivery schedules firming up in Q4. We still expect total gross margins for the year to be approximately 55%, with subscription and support margins at around 43%. Services gross margins for the fiscal year are still expected to finish in the low-single digits. We are raising our outlook for operating income to between $14 million and $20 million, due to an increase in the mid-point of our total revenue outlook and due to expense favorability from the timing of hiring. Our outlook for cash flow from operations remains unchanged for the year. Finally, I wanted to provide some high-level commentary on our expectations for fiscal 2022. As we look ahead to next year, we are confident ARR growth and subscription revenue growth will both accelerate. In addition, subscription gross margins will also start to demonstrate expansion. These are foundational building blocks of our long-term model that we discussed at Analyst Day last October. We expect ARR growth of 12% to 14% from the midpoint of our fiscal 2021 ARR outlook in fiscal 2022. We expect subscription revenue growth of 42% to 48% from our fiscal 2021 expectations. License revenue is expected to decline due to cloud migration activity and less new term license sales as most of our bookings now come from cloud. Services revenue is expected to grow in the low single digits. As a result of all of these factors, we expect total revenue growth in fiscal 2022 of between 3% and 5%. As noted in the past, we expect subscription gross margins for fiscal 2022 to be higher than fiscal 2021 as we gain leverage from accelerating subscription revenue and begin achieving efficiencies. Overall, subscription and support gross margins are expected to be relatively flat as the overall mix of subscription and support revenue shifts towards subscription revenue and away from higher-margin support revenue. This preliminary view is consistent with the long-term outlook we discussed at Analyst Day in October, and we hope that you find it constructive as you begin to think about your fiscal 2022 models.

Operator, Operator

Thank you. At this time, we will be conducting a question-and-answer session. Our first question is from Chris Merwin with Goldman Sachs. Please proceed with your question.

Chris Merwin, Analyst

Thank you for taking my question. I wanted to inquire about the cloud deals for the quarter, as I believe there were eight, which is a significant number. Could you provide some insight into how many of those were Guidewire Cloud Platform deals? Additionally, at a broader level, how do you approach encouraging more customers to opt for Guidewire Cloud Platform deals rather than transitioning their existing deployments of Guidewire to the cloud if they are not using the Cloud Platform? I'm trying to understand how you guide customers in that direction as much as possible. Thank you.

Mike Rosenbaum, CEO

Yes. Chris, thanks for the question. Yes, let me be clear about this. So going forward, all of the InsuranceSuite Cloud deals will be on Guidewire Cloud Platform. We work with some of the early Guidewire Cloud customers on migration to Guidewire Cloud. But going forward, everybody that's buying cloud, and specifically InsuranceSuite, will be going direct to Guidewire Cloud Platform. On the InsuranceNow side, I think that will take us a bit of time. As I called out, we had this one important milestone this quarter of getting one of the InsuranceNow customers onto that Guidewire Cloud Platform infrastructure, and that's an important milestone for us. But we'll see how we progress with the rest of the InsuranceNow customer base and net new customers for InsuranceNow. But the way to think about it is that going forward, every InsuranceSuite Cloud customer is going to Guidewire Cloud Platform. Does that make sense?

Chris Merwin, Analyst

Yes, that's perfect. Thanks, Michael. And just a follow-up for Jeff on the initial look into next year for the 12% to 14% ARR growth. Can you talk a bit about what you're seeing in the pipeline today that gives you confidence in that acceleration? And how much of that acceleration is being driven by your expectation for more deals or larger deals versus the impact of ramp pricing starting to come through and getting captured in the standard ARR definition? Thanks.

Jeff Cooper, CFO

A lot of the acceleration we are witnessing is due to the model we implemented a few years ago starting to take effect. We're beginning to see significant impacts from the ramped deals reflected in our numbers. As we add more cloud customer cohorts, this enhances the effectiveness of our model. We are also observing positive buying signals from existing customers who are considering making a move. I mentioned earlier that it can be challenging to predict the timing of those moves, but the trends we see with some promising existing customers are shaping our expectations for next year. Additionally, there has been a somewhat sluggish market where insurers have hesitated to modernize their systems, waiting for cloud platforms to mature. However, we are now seeing encouraging momentum in that segment, which is exciting for us.

Chris Merwin, Analyst

Okay. Thanks very much.

Operator, Operator

Thank you. Our next question comes from Sterling Auty with JPMorgan. Please proceed with your question.

Unidentified Analyst, Analyst

Hi. This is Maya on for Sterling. Just sticking with the cloud deals in the quarter. How many of those came from existing customers? And were there any Tier 1 deals in those eight?

Mike Rosenbaum, CEO

Yes. Thanks for the question. Let me make sure I get this correct for you. There were no Tier 1s in that group. And I apologize, I'm looking at the numbers here to get you the percentage. My rough is 50% roughly, and the team will add it up here for you in a second. I think it's in line with what we typically see in the pipeline between upgrades of existing customers and net new deals that we're able to close. But in the quarter, we didn't have a Tier 1. We did have the Tier 2, as I called out, RLI Insurance Company.

Unidentified Analyst, Analyst

Okay, great. Thank you.

Operator, Operator

Thank you. Our next question comes from Ken Wong with Guggenheim Securities. Please proceed with your question.

Ken Wong, Analyst

Great. This first question, just building on what Chris is asking Jeff on the 12% to 14% guide next year. I guess, how should we think about the trajectory towards the 17% to 19% CAGR? So it does feel like last year or this year is going to be the trough. Should it be fairly linear in getting to that longer-term target?

Jeff Cooper, CFO

Yes, Ken. I believe this aligns with what we discussed at Analyst Day. We are quite pleased to see some acceleration as we approach next year. This matches our previous expectations that it would likely take a couple of years for us to reach that mid-teens level. Hopefully, we can continue to experience acceleration beyond that. That's how I perceive the situation. We have considered this as a two-year journey to get back to the mid-teens, and that perspective remains consistent.

Ken Wong, Analyst

Thank you for the clarity. Mike, I have a broader industry question. Last week, Lemonade faced some backlash regarding their AI-powered claim commentary. One of the most impressive value-adding automations we've observed from Guidewire Cloud is autopilot. You've also mentioned the advantages of data insights enabled by the cloud. Do you have any initial thoughts or insights regarding Guidewire and other P&C platform providers in light of the AI concerns?

Mike Rosenbaum, CEO

Yes. Appreciate the question. I think it's a very, very good one. I think the way we think about this is that, trust is a very, very important word as it relates to a cloud platform provider like Guidewire or an insurance company. And establishing trust with your customers about how you do things and how systems work is critically important to any company, maybe not just in our industries, but in the world. And the degree of social commentary and discussion about the way different companies operate is just becoming more and more important every day. I think the way we look at it at Guidewire is that machine learning techniques are going to enable insurance companies to become significantly more efficient. They're going to enable companies to price risks more effectively. And all of that benefit eventually flows back to consumers and businesses. A better-run insurance industry that I work very hard every single day to make possible, the net result of that is a benefit to consumers and companies. But it's important that everybody understands how these systems work, how they're being used. And that we're very careful and open about the approaches that we're taking. Autopilot is a small first step in that direction, and I hope that we're able to achieve very significant results in our customer base with it. But it will always be done in an open way in partnership with our customers and in partnership with our customers' customers, so that people can understand how these systems work and build the trust necessary to enable us to achieve that output. So, I really do appreciate the question, and it's something we do think about quite a lot.

Ken Wong, Analyst

Fantastic insights. Thanks a lot, Mike.

Operator, Operator

Thank you. Our next question comes from Matt VanVliet with BTIG. Please proceed with your question.

Matt VanVliet, Analyst

Thanks guys for taking the question. I guess, Mike, you highlighted marketplace as a big opportunity and something that a lot of the developments on Cortina are really enabling. Maybe just help us think about over the longer term, how do you monetize that most effectively, and how much can that sort of contribute to the actual reported results and financial model versus just being another key element and feature for your underlying customers to enable their future-proofing of their business.

Mike Rosenbaum, CEO

I would say yes. Thanks for the question. Primarily, I'm thinking about this much more as a distinguishing feature of the platform and the product, something that enhances the value of what Guidewire can deliver. There is certainly potential to monetize marketplaces, and many leading platform providers have been successful in such endeavors. However, right now, we are much more focused on growing that ecosystem and enhancing the platform's capabilities so that the ecosystem can truly thrive because I honestly believe we're just getting started. One important reason is that Guidewire Cloud provides a stable and consistent environment for partners, unlike the current Guidewire customer base, which is spread across various versions and typically implemented on-premises or in public clouds. In a Guidewire Cloud environment, with the integration framework we outlined as part of Cortina, you have a stable environment, and I believe this will contribute to a thriving marketplace. It will decrease the costs associated with building and implementing these solutions, and I genuinely want to see that flourish. That's how I'm viewing it as a distinguishing feature of the platform. There is certainly monetization potential, but I don't want to begin forecasting that too early. At this stage in our development, it's more important for us to establish that marketplace and invest in its growth so that everyone can gain from its existence, if that makes sense.

Matt VanVliet, Analyst

Yes, that's great. Jeff, could you share your initial thoughts on the gross margin outlook for next year? What challenges might we face in achieving gross margin expansion across the subscription line? If we have another strong quarter or two of new cloud deals, could that potentially compress the near-term gross margin as these deals ramp up? Or have we already addressed most of the impacts from layering in new deals, allowing for leverage from this point forward?

Jeff Cooper, CFO

Yes, we have made significant progress in hiring and developing our cloud operations team, which has been a major focus for us over the past couple of years. We have seen substantial hiring this year, and while this will affect margins next year, we expect to achieve noticeable margin expansion in the subscription line. In terms of subscription and support, since support currently has a relatively high margin and as the mix shifts more towards subscription, the overall margins for subscription and support should remain stable based on our projections. However, we do anticipate significant growth in subscription margins.

Matt VanVliet, Analyst

Okay, great. Thank you for taking my questions.

Jeff Cooper, CFO

Thank you.

Operator, Operator

Thank you. Our next question comes from Mayank Tandon with Needham. Please proceed with your question.

Kyle Peterson, Analyst

Good afternoon, everyone. This is Kyle Peterson speaking on behalf of Mayank. I wanted to discuss the preliminary thoughts for license sales in 2022. Are there any assumptions regarding existing license customers moving to the cloud? Additionally, are there any long-term effects from deals signed in FY 2021 that we shouldn't expect to repeat? I’m interested in understanding how we should consider the factors affecting license revenue for next year.

Jeff Cooper, CFO

Yes. Thank you. And that's part of the reason why we wanted to get some of that outlook out there is I know this can be hard to model on the license revenue side. You mentioned two of the big factors that are impacting license revenue next year. One is we are seeing healthy migration activity. When a customer enacts a migration deal with Guidewire, there will be a license event in the year that that deal is signed. But then going forward, there won't be any future license revenue associated with that customer as we transition them to subscription. So, there is cannibalization of our license revenue that will take place from our subscription revenue line. So that is happening, and that's showing up in the model. And then, as term license bookings become a smaller and smaller piece of the overall new bookings, and because term licenses are typically two years in duration, the year after, there's no recurring event on the term license side, and so we're seeing that impact the model. But those are the two things that you highlighted, and those are the two primary factors that are causing year-over-year declines for license revenue.

Kyle Peterson, Analyst

Okay, great. That's helpful. And then, I guess switching over to kind of the services line item. I know it's been declining for a couple of years, and you guys are saying kind of low-single-digit growth next year. Do you guys think you’ve kind of right-sized where you want your services business to be moving forward or maybe it's like a low-single-digit growing business? And then, a lot of the rest of the growth is kind of done through some of your SI partners. Just want to kind of get a feel for what the right mix of services is for you guys.

Jeff Cooper, CFO

Yes. We have been directing a significant portion of our business to our partners, which is an integral part of our long-term strategy. We are thrilled about the momentum we are seeing with all of our partners. This approach provides us with the scale we will need as we aim to drive meaningful change in the industry. We believe our organization is now positioned appropriately to grow, albeit at a modest pace. Currently, we have set our service margins lower than historical levels as we are investing alongside our customers to facilitate these migrations. We anticipate that our margins will improve gradually over time, but we do not expect to see significant changes next year.

Kyle Peterson, Analyst

Great, that’s good color. Thanks guys.

Operator, Operator

Thank you. Our next question comes from Michael Turrin with Wells Fargo Securities. Please proceed with your question.

Michael Turrin, Analyst

Hey, there. Thanks. Good afternoon. Certainly appreciate the initial outlook for fiscal 2022. Always helpful. Jeff, can you maybe just remind us how much visibility you have into next year at this point in time? The ARR guide throughout the course of this year has held fairly steady throughout the course of the year, which is actually pretty remarkable, given the moving pieces that you're dealing with. So, maybe just any commentary just around visibility as a starting point here is helpful.

Jeff Cooper, CFO

Yes, I think there are three key factors that influence our approach to ARR. These include the new deals we close within a specific timeframe and their contributions to ARR, the ARR from previously secured agreements that continue to contribute as we execute, and our expectations regarding ARR attrition, which can be influenced by various events. As we look ahead to next year, we have improved clarity on the contributions from our existing base, particularly from the agreements already in place. Adding new cohorts of agreements enhances our visibility. However, it remains crucial for us to pursue new business, acquire new customers, and transition our existing clients. These two aspects are essential. Additionally, regarding ARR attrition, we have experienced some elevated levels in the last couple of years, but we anticipate seeing some improvement in that area as we plan for next year, which is reflected in our guidance.

Michael Turrin, Analyst

Okay. That's all helpful. Last quarter, you also mentioned some insurers or maybe not all the way ready for cloud and highlighted a few self-managed deals. This quarter, the tone suggests things are maybe troughing. So are you still seeing that self-managed dynamic as well? Or did something there also maybe change as we get closer to the end of the fiscal year?

Mike Rosenbaum, CEO

Yes, we observed a notable difference between the results in Q2 and Q3, which likely stems from a few deals that can significantly alter those percentages. Overall, the majority of our bookings activity is focused on cloud, which is our main priority. However, we occasionally encounter specific situations in certain regions, similar to what we mentioned last quarter, where it might be more practical to start with on-prem solutions. I want to emphasize that every time these situations arise, we are very clear that the ultimate goal for that implementation will be Guidewire Cloud. The architecture of the service and our approach support this, which is advantageous for many customers. Still, the majority of our bookings activity remains in the cloud, and while the percentage may fluctuate from quarter to quarter, the overall trend is definitely leaning towards cloud.

Michael Turrin, Analyst

Got it. Thank you.

Operator, Operator

Thank you. Our next question comes from Bhavan Suri with William Blair. Please proceed with your question.

Dylan Carden, Analyst

Hey, guys. This is Dylan on for Bhavan tonight. I appreciate you taking the questions here. Maybe first for Mike starting out. So we had the Connections Conference a week or so ago, and it really seemed like there was much more kind of the cloud emphasis and readiness. Here, you've talked historically about having three releases under your belt to where you'll feel really comfortable with the kind of underlying infrastructure there. We're now at that point. I guess can you just kind of talk about some of the key takeaways and learnings over the past 18 months here and how you're giving kind of customers' confidence that the time is now?

Mike Rosenbaum, CEO

Thank you for the question and for noticing that event. When we embarked on our journey with Guidewire Cloud, we believed that completing three releases would give us the confidence needed and enough experience with our existing customers to refine our direction and focus our innovation efforts. We've also made significant strides in integration and the data platform, both of which are crucial steps in any implementation. However, what I've come to understand during my almost two years at Guidewire is the importance of future-oriented thinking. For insurance carriers making decisions about these projects, the execution can take anywhere from nine to 18 months. Therefore, it's essential for our customers to not only consider where Guidewire Cloud is today but also to envision where we will be in 18 months. Our evolution will align with the project timeline as it progresses and goes live. We have built strong confidence internally in our ability to execute and support complex implementations. It’s essential for us to earn that trust and project confidence so that customers feel comfortable making decisions. This is why we were particularly excited about Cortina, as it demonstrates everything coming together. However, we also need to focus on what the situation will look like in 18 months. This is the vision we need to communicate to our customers, as that will be the platform they'll ultimately go live on, even if they decide now. Overall, this was an exciting release for us and a significant connections event.

Dylan Carden, Analyst

Yes. No, I appreciate the color. That's helpful. I guess, maybe just kind of piggybacking off of that as well, you kind of emphasized the cloud readiness and these releases lining up with the legacy version end of life. I think it's almost kind of half of your base here, facing end-of-life in the next year. You've got your CloudDirect program. I think you highlighted a customer transitioning direct from version 8 to the cloud in the quarter here. But would love to kind of get a sense of how you guys are viewing this dynamic? And how these conversations are trending? And then, how that's giving you maybe confidence and not only maybe the back half of this year, but that initial kind of fiscal 2022 guidance that you guys have laid out there. Thank you.

Jeff Cooper, CFO

Thank you for the question. At Guidewire, we are actively collaborating with all of our customers regarding their upgrade plans, the versions they are transitioning from, and the specific situations they are facing. Our goal is to help them make the best decisions regarding timing for their upgrades. Fortunately, the environment we are in includes a natural upgrade cycle tied to the versions our customers are currently using. Our efforts to simplify the upgrade process, such as with CloudDirect, have allowed us to demonstrate our capabilities and build our customers' confidence and trust. Throughout my career, I have noticed a unique trend where many customers express that the conversation is not about whether they will proceed with the upgrade, but rather when they will do it. That feeling among over 300 customers and more than 400 instances of Guidewire plays a significant role in our complex project plan, which informs our projections regarding the components of those deals and how they will contribute to annual recurring revenue. This also indicates what it will mean for Guidewire's financials. What's crucial is the underlying commitment to building a cloud platform that benefits our customers. By understanding their needs and what will foster their trust and confidence in us, we are able to execute effectively, which gives us the confidence to make projections for the upcoming year. It feels like we have laid out a plan and are successfully following it. However, these projects are quite complex and can be slow to progress. The transformation will unfold over several years. My impression, especially after the Cortina release, is that we are progressing according to plan, and we have a positive outlook. I hope this lengthy response provides clarity on what supports this confidence.

Dylan Carden, Analyst

Yes, very helpful. Thank you. I appreciate you taking our questions.

Operator, Operator

Thank you. Our final question comes from Joe Goodwin with JMP Securities. Please proceed with your question.

Joe Goodwin, Analyst

Great. Thank you so much guys for taking my question. Just wanted to kind of double-click on the DataStudio and what the early feedback has been there. And then maybe you can just speak to kind of how you view the importance of data and kind of the maturity of that ecosystem over time for Guidewire and kind of just the large industry largely? Thank you.

Mike Rosenbaum, CEO

Yes. Sure. Thanks for the question. So and again, initial feedback has been wildly positive. It's one of those product features that we've been able to work with a couple of customers behind the scenes on. A couple of our cloud customers have been able to have access to it, and it's been received very, very positively. It's one of those circumstances where the product and engineering teams are sort of excited to be coming to work every day because of the feedback they're getting from a customer. For me, it highlighted just how different the approach will eventually be with much, much more of the Guidewire product suite where we're going to be able to work with cloud customers on early versions of these new products, new capabilities, almost in real time in a way that we weren't really able to do in the past. And that's been very validating for me. With respect to the importance of data and analytics, I think insurance companies are and always have been and always will be very data-driven. It's a data-driven industry. It's an analysis-driven industry. It's critical not just to support the regulations associated with operations but to be able to make the right decisions every single day about the risks you underwrite and the way you approach claims. It's all data-driven. The more fluid we can make access in that approach, the better. Thanks for the question.

Operator, Operator

Thank you. Our next question comes from Parker Lane with Stifel. Please proceed with your question.

Parker Lane, Analyst

Hi. Yes. Thank you. It's Parker on for Tom Roderick. Mike, I think it was about eight months ago when you gave us the figure that 75% of the base is on InsuranceSuite 8 or 9. Just wondering if you can give us an update on that and maybe talk to the relevance of Cloud Direct as customers start to contemplate whether or not to upgrade to IS 10 or move over to cloud. Is that something that seeing really resonate right now? Or do you think there's still some room to go for customers to really see the value there?

Mike Rosenbaum, CEO

I think the answer to your question is both yes and no. It resonates, but there’s still work to be done. This is a very complicated decision for our customers. As I've mentioned in past calls and discussions, often this decision is tied to the overall IT environment of an insurance company, rather than solely focusing on Guidewire. It tends to be part of a broader cloud strategy and the other workloads or applications that a company is integrating with Guidewire. This makes it a significant decision. Our momentum with Cloud Direct, along with the valuable functionality included in the cloud, greatly supports this process and resonates with customers. Customers express a sense of when rather than if regarding their transition. However, it can sometimes make sense for a company to continue with their current on-premise or self-managed cloud setup. One of the reasons I wanted to highlight the impressive go-live we had this quarter with Insurance Australia Group is that it signifies a four-year modernization project. This partnership is exceptional, and the implementation is a major achievement for them. It’s very exciting for them to reach this milestone. We're excited to serve them effectively as a platform provider. When executing a project that spans over four years, and with Guidewire introducing cloud in the middle, it makes sense to see it through to completion. Once the project is live and the execution risks are mitigated, we can consider the next steps. This scenario is occurring with all our customers, and we need to align ourselves with their project plans and enterprise architectures in a way that makes sense. Cloud Direct supports the current upgrade cycle related to their existing version, but it's not a simple solution. It's a substantial and complex project, and we feel fortunate to have the opportunity to be involved.

Parker Lane, Analyst

Yes. Makes sense. Then maybe a point of clarity on the new usage-based insurance solution. As we think about the target buyer there, is it typically a customer that would have adopted InsuranceNow for a new line of business? Is it going to be more a situation where a customer maybe has Guidewire already deployed and they choose to move over to usage-based insurance? Could you just give a little bit better sense of who the target customer is there?

Mike Rosenbaum, CEO

The target customer is generally an InsuranceSuite user, ideally one utilizing Guidewire Cloud. Our investment was driven by the observation that this concept was transitioning from a test-driven or experimental phase to something much more mainstream. We aimed to provide a complete solution that serves as a guide for implementing a usage-based insurance model on InsuranceSuite and Guidewire Cloud. Instead of suggesting that this would merely become a fraction of everyone’s auto insurance strategy, we sought to facilitate its integration into the overall business model. It's been fascinating to see how we can utilize the new functionalities in Guidewire Cloud along with the available marketplace solutions to create a template that has garnered significant interest in how it could be executed.

Parker Lane, Analyst

Got it. Thanks for the clarity and thanks for taking the question.

Mike Rosenbaum, CEO

Yes, thanks for the question.

Operator, Operator

Thank you. Ladies and gentlemen, we have reached the end of the question-and-answer session. I will now turn the call over to Mike Rosenbaum for closing remarks.

Mike Rosenbaum, CEO

Hey. Thanks, everybody. I just wanted to just once again say thanks for joining the call. It was a great quarter. We look forward to seeing you at the end of Q4. So, thanks very much and good night.

Operator, Operator

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation, and have a great evening.