Pegasystems Inc Q2 FY2024 Earnings Call

Thank you for standing by. My name is Celine, and I will be the conference operator today. At this time, I would like to welcome everyone to the Pegasystems 2Q '24 Earnings Call and Webcast. All lines have been placed on mute to prevent any background noise. After the speaker’s remarks, there will be a question and answer session. I would now like to turn the call over to Vice President, Corporate Development and Investor Relations of Pegasystems, Peter Welburn, please go ahead.

Good morning, everyone, and welcome to Pegasystems Q2 '24 Earnings Call. Before we begin, I would like to read our safe harbor statement. Certain statements contained in this presentation may be construed as forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. The words expects, anticipates, intends, plans, believes, will, could, should, estimates, may, forecast, guidance or variations of such words and other similar expressions identified forward-looking statements, which speak only as of the date the statement was made and are based on current expectations and assumptions. Because such statements deal with future events they’re subject to various risks and uncertainties, actual results for fiscal year 2024 and beyond could differ materially from the company's current expectations. Factors that could cause the company's results to differ materially from those expressed in forward-looking statements are contained in the company's press release announcing its Q2 2024 results, and in the company's filings with the Securities and Exchange Commission, including its annual report on Form 10-K for the year ended December 31, 2023, and in other recent filings with the Securities and Exchange Commission. And investors are cautioned not to place undue reliance on such forward-looking statements, and there are no assurances that the matters contained in such statements will be achieved. Although subsequent events may cause our views to change, except as required by applicable law, we do not undertake and specifically disclaim any obligation to publicly update or revise these forward-looking statements, whether as a result of new information, future events or otherwise. And with that, I turn the call over to Alan Trefler, Founder and CEO of Pegasystems.

Thank you, Peter, and to everyone who has joined today's call. I'm very pleased with our performance for the first half of 2024. We continue to improve execution, and I'm happy to see that our focus on profitable growth is working well. We're accomplishing our financial goals while continuing to deliver breakthrough technology innovation. Our cinema architecture and approach to statistical AI and generative AI continue to be significant differentiators that we believe our competitors can't easily replicate. Our newest offering, especially Pega GenAI Blueprint, has captured the imagination of clients, prospects, and partners, allowing them to identify new possibilities and helping us drive deeper engagement. Client discussions I've had since the launch of Blueprint are some of the most positive I've had in the 40-year history of Pega. In fact, when our clients see what we've delivered, they quickly recognize its power and the opportunities. I believe that the energy and confidence in our vision is increasing and is helping to drive the kind of results we're discussing today. With tens of thousands of Pega Blueprints created over the last few months, we're identifying opportunities to accelerate growth and creating additional momentum for Pega Cloud, which will contribute to monetization. We've barely scratched the surface of what we, our clients, and our partners can do with this game-changing technology, and we're really energized by this. I do believe that Blueprint is fundamentally changing how we engage, sell, and deliver with our clients. Now I want to take a few minutes to remind you about what makes our approach to AI unique and powerful because a lot of the language we see in the industry is very busy and sounds very similar. But at the core, if you strip away all the text, we're moving our clients way beyond the ability to write more code faster, which is what many of our competitors are doing. This is the 100% wrong focus. No client has ever told us they want more code. They are grounded in code in legacy systems. They want to drive innovation, ensure their employees are satisfied and productive, and ultimately serve their customers better so that the customers are satisfied, loyal, and profitable. As we've always done, we're using AI to help clients solve business challenges by giving them the ability to completely reimagine their workflows and then execute quickly and effectively. GenAI allows us to take this to a whole new level. For decades, we've been investing in an application development approach centered around business outcomes on our code, things like enterprise processes, rules, data models, and user interface. This aligns us perfectly with our approach to GenAI. Now this allows business and IT to come together with a common visual language focused on business concepts and the customer journey, not on any particular technology or channel. Infusing GenAI into our approach lets users unlock new ideas and implement them efficiently and effectively. And because so much of our architecture is patented, we believe it can't be easily copied or reproduced, and we don't see anyone going at this problem the way we are. Now in the last few calls, I've talked about the four major areas we believe our GenAI approach will have a massive impact for us and our clients. By delivering solutions first, double developer productivity by putting Pega skills at their fingertips. Secondly, ignite enterprise innovation to a powerful plan of industry expertise, Pega technology, and incorporating client insights all driven by generative AI. Third, maximize revenue and efficiency with real-time optimization and personalization of customer interaction in workflows, and finally, streamline their work processes and customer experiences by giving the right people the right access to enterprise knowledge and putting processes in their hands to execute based on that knowledge. We continue to deliver on that strategy, which we showcased at Pega World last month. We've added GenAI capabilities that help all who use Pega do more. Business and IT teams design and plan new applications, and Pega GenAI Blueprint is helping them collaborate to dramatically accelerate the design phase, inject new ideas and best practices, and use the power of AI in the Internet to stimulate best practice thinking in their applications. And developers benefit from the Pega GenAI autopilot, which helps them turn Blueprint into live applications, providing the ability to move from Blueprint to an application and offering potential guidance in the systems at every step of the development journey. I also love Pega GenAI Socrates, a first-of-its-kind GenAI tutor that revolutionizes learning by creating an interactive tailored dialogue with each individual student to help them learn Pega skills. Now users of Pega applications across operations, service, and customer engagement—where we have a powerful integrated suite of more than 20 productivity boosters aimed at different use cases—are all seeing enormous benefits. Customers are leveraging self-service to get answers using the GenAI knowledge buddy. Employees get their work done faster with expert guidance and direction from AI through the GenAI Coach. Service agents can serve their customers better using Pega GenAI analyze to summarize conversations and follow up more relevantly. In marketing, they can effectively create action and manage holistic customer engagement with GenAI CDH assistance. As you can see, we've integrated GenAI throughout our entire product suite. This is the basis of how we want our clients to advance in the future. Now a moment on Pega World; it was really inspiring and as exciting as any event that I've seen in more than 30 years. The attendees were eager to explore the new innovations, especially Pega Blueprint, where we had multiple Pega Blueprint kiosks around the event, and there were a lot of people waiting to get their hands on it. More than 1,000 new blueprints were created in just the two days of Pega World. In client meetings I've had this quarter, including some at Pega World, clients are excited about our vision for GenAI and the potential impact it can have on their business. Although it's early days, several clients spoke about their Blueprint experience. I found what Aflac said particularly inspiring. For the second year, they ran what we call a Pegathon, which brought together about 70 of their teammates across the company for two half days to develop application prototypes for key business units, all using Pega. The team included business stakeholders with no software experience, developers with no Pega experience, representatives from their partner Coforge, and VPs from the business units involved. This year, they used Blueprint to create the workflows for apps. They defined that really fundamentally have the prospect of changing their business and driving a digital transformation strategy. Terry Henry, the digital service delivery leader at Aflac, delivered a presentation at Pega World, saying, "I’m hoping that all clients will say, 'Well, we've been quite impressed with the speed, agility, and intelligence of Pega GenAI Blueprint. It helped us optimize workflow designs across an array of scenarios and for a number of different business departments. By drawing on Pega's best practices via generative AI, we can quickly create apps and processes that meet our requirements in record time. This is truly a differentiated use of generative AI that will help propel our digital transformation project forward for the ultimate benefit of our employees and customers.'" Just terrific when customers stand up and express that sort of thing. We were also very excited to see that our partners have recognized Blueprint's value and have created over 10,000 blueprints themselves. With the latest release, we can upload their proprietary blueprints to Pega's best practice library for them to use in their client engagements and to help them create new services. About a dozen partners have already taken advantage of this new capability and have created approximately 70 best practice blueprints to use with their clients. It was a terrific opportunity for us to broaden our go-to-market strategy by empowering our partners to take advantage of this new capability. I love that the Pega team in the first quarter of this year engaged with our partners to ensure that they were up to speed and able to proactively utilize this new facility, even as it continues to evolve. I know many of you attended Pega World and our investor conference, and it was great to see you. For those who missed day two, I encourage you to check out our website to watch the keynotes. If you want to hear the rest of what Aflac was saying, there are dozens of videos available there as well. In addition to the incredible client stories, we also made several important product announcements to move our vision forward, including enhancements to Pega GenAI Blueprint that accelerate transformational design—such as an improved, more intuitive user interface, the ability for clients to import existing assets, content, and knowledge to jump-start their designs, the ability for multiple people to collaborate directly on blueprints, and the ability to upload and save their workflow templates into our best practices library. Blueprint is getting better every week as a SaaS app that runs on pega.com. It's empowered us to operate at an incredibly rapid pace with our clients. In fact, just last night, we added functionality to allow the import of BPMN and business process management notation diagrams to turn them into the key workflows of a blueprint. BPMN is, from my point of view, an outdated standard from the early 2000s that Pega has long surpassed, but many people still use. We’re going to make it much easier for people to transform these challenging legacy systems into the extremely modern model-driven design that underlies Pega. We also announced Pega GenAI Socrates, which completely transforms the process for learning Pega skills. This dynamic learning environment fosters interactive dialogue, and it's very new, but I think it's incredibly exciting. We've actually had clients begin to incorporate their assets and information into Socrates classes so that they can better teach their staff, even in areas that don't relate to Pega. We think this represents a really interesting opportunity going forward. We expanded our GenAI framework with new connectors to Google Cloud and AWS that give our clients more options to utilize different LLMs when appropriate. Our clients now have a broader set of capabilities to build generative AI applications. We’ve focused on bringing security, privacy, and key aspects of responsible AI into what our technology does. I also mentioned that this morning, we announced we have achieved FedRAMP high ready compliance and in-process status for Pega Cloud for government. We've been FedRAMP moderate for a long time, and now being raised to the most rigorous standard is something we're very excited about, and we'll work on completing this in the coming months. As you know, the government business is quite important to us, so we think this just helps provide another vote of confidence in the U.S., and even around the world, as people take notice. In summary, we continue to improve execution to drive profitable growth while delivering what I believe is revolutionary innovation. We have a vision for leveraging AI and GenAI that is driving deeper engagement and increasing confidence with our stakeholders. While many of our competitors are talking, we're delivering tangible groundbreaking solutions and architectural approaches that we don't believe competitors can match. This approach and architecture are unique and have been the basis of Pega, developed over decades. What I love about the way we work with statistical AI and generative AI is how perfectly it fits in with this heritage. Now to provide more color on our financial results, I'll turn it over to Pega's COO and CFO, Ken Stillwell.

Thanks, Alan. Our execution was truly exceptional in the first half of the year, and I'm really proud of the way our team is improving profitability while also focusing on driving growth. This success reflects our continued commitment to delivering efficient growth and demonstrates that we're fully committed to the Rule of 40 mindset in the business. The most important metric to measure the success of our business is growth in annual contract value. ACV grew 13% year-over-year in constant currency, exceeding $1.3 billion. Our ACV growth reaccelerated from Q1 to Q2 for three reasons. First, we significantly increased client engagement thanks to the go-to-market changes we've made in 2023 and the enormous interest in what we're doing with artificial intelligence. Clients are very excited about our AI vision and execution. We've reinvigorated their enthusiasm about Pega and it's driving strategic conversations. More specifically, Pega GenAI Blueprint is dramatically changing the way our field teams engage with our clients and prospects. Nailing down an app design used to take weeks or months; now it takes hours. Pega GenAI Blueprint helps businesses and technical teams align on a vision quickly. We've seen tens of thousands of new blueprints created so far, which is a strong sign that Blueprint is transforming our overall selling process. Our decision to align our product line with AI is really energizing clients and making them more amenable to moving forward with us, which is also transforming our selling cycle and culture. To be very clear, we don’t view the monetization of GenAI primarily as the selling of new priced offerings, although we did see some activity in Q2. Instead, we see GenAI as a totally different way to engage and work with clients to modernize legacy applications and enable digital transformation. The second reason ACV accelerated from Q1 to Q2 is that our latest innovations are serving as a catalyst for clients to build new workflows on or move existing workflows to Pega Cloud, where they can access our latest capabilities. Pega Cloud net new ACV contributed 81% of the total net new ACV added in the first half of the year, which is an acceleration and amazing to see. Pega Cloud ACV grew 19% year-over-year, and Pega Cloud backlog passed $1 billion for the first time ever in Q2, which is just awesome. Third, our growth was more balanced in the first two quarters of 2024. In 2023, in contrast, ACV growth in Q1 was much stronger while ACV growth in Q2 was far more subdued. What you're seeing now is one of the reasons we love SaaS. Pega Cloud ACV is up 19%. Pega Cloud RPO grew 18%, and Pega Cloud revenue was up 19% for the first half of 2024. Free cash flow is another important metric to measure the success of our business and our execution. Free cash flow totaled $218 million in the first half of 2024, a record for the first half of the year for us. The 119% year-over-year increase in first half cash flow was driven by two factors. First, our continued improvement in sales execution is resulting in strong net ACV out of $146 million year-over-year in constant currency. ACV is a proxy for subscription billings, so greater ACV means greater recurring billings. The second key driver was our continued focus on operational discipline. One of the biggest levers we have for free cash flow is gross margin expansion, and the biggest factor for gross margin expansion is our Pega Cloud business. Pega Cloud gross margin increased to 78% in Q2, with a series of consecutive increases in gross margin for Pega Cloud. We're going to keep pushing to expand Pega Cloud gross margin with increased scale and automation. If I go back a few years, you might remember that we targeted 70% gross margin for Pega Cloud, then 75%, and now 80%. We believe that as this business continues to scale, there's significant potential to increase our gross margin while still delivering amazing service to our clients. Our sales and marketing expenses in the first half of 2024 decreased by $26 million year-over-year. We believe that reducing expenses and increasing cash flows provides us the capacity to make strategic investments in innovation that help our clients drive digital transformation. Our free cash flow momentum provides numerous options for executing our capital allocation strategy, leading to increased shareholder value. The combination of our solid ACV growth and robust cash flow margin demonstrates that our team has adopted the Rule of 40 mindset. We define Rule of 40 as our ACV growth rate plus our free cash flow margins adjusted for non-representative items related to core business operations. We're committed to being a balanced growth and profitable company. While we will always strive for faster growth, we're going to do it smartly. Many of you have mentioned that you find it helpful when I share modeling thoughts, so I'll continue to do that. In the first half of 2024, subscription license revenue was stronger than many of you might have expected. Although subscription license is recurring, we believe Pega Cloud is the best place for our clients, and it's great to see more workloads transition to Pega Cloud. Given our Pega Cloud momentum, we believe subscription license revenue will decline year-over-year in 2024. We have a very low number of subscription license renewals planned for Q3, and expect the majority of remaining renewals in 2024 to shift towards the backend of the year in Q4. Keep these dynamics in mind when modeling our subscription license revenue for the second half of 2024, particularly for Q3. I also want to point out that GenAI is making implementations easier to deliver and our partners continue to play a critical role for our clients. As a result, consulting revenue is growing at a moderate pace compared to total revenue, and we expect that trend to continue through the second half of 2024. Closing out my thoughts on modeling, I'll end with a few comments regarding free cash flow. Once a contract is signed, we typically bill one year in advance or in some cases, one quarter in advance. ACV ties directly to billings. The seasonality of our free cash flow often follows the seasonality of our contract renewal cycle, which is typically stronger in the first quarter and the last quarter of the year. As a result of these dynamics, it’s more instructive to look at our free cash flow on a trailing 12-month basis. Over the last four quarters, our free cash flow was just over $300 million. In conclusion, we’ve worked hard to ramp up our ACV growth and drive free cash flow. Our first half results show that the changes we made to our go-to-market strategy in 2023, focusing on seller productivity and the latest AI innovations are working. Therefore, we can selectively and strategically grow from here and expand quota-bearing resources in a smart way, evaluating the impact of new logos on our growth strategy. It was great to see many of you in person during our investor session in June in Las Vegas. We’re also looking forward to seeing you on the road in August and September. And with that, operator, please open the line for questions.

We will now begin the question-and-answer session. Your first question comes from the line of Steve Enders with Citi. Please go ahead.

I guess maybe just to start, I mean, pretty impressive ACV new ads in the quarter here. Can you just maybe talk a little bit about what's helping drive performance in Q2 specifically? Looking back, it looks like one of the better Q2s from an ACV ad perspective in quite some time. Can you just give a little bit of clarity on maybe what's going on in the deal environment? If there's any pull forward or what drove the strength in ACV this quarter?

I'll start, and then Alan, feel free to jump in. I think that one of the significant changes, Steve, that we made in 2023 that is really paying off is because of our focus on dense coverage of target organizations and the approach of selling Pega Cloud. We're not as dependent on very large episodic deals for our sales team to hit targets. That’s not to say that such deals won’t happen. But our sales team is now in a mode of continual prospecting, selling, and pipeline development advancement. We really embrace that because it helps reduce dependency on larger deals at the backend of the year. I think you’re seeing that in the first couple of quarters. So that's from an operational execution perspective. I'll also let Alan touch on GenAI and Blueprint and how that's reinvigorated discussions.

If you go back a year ago, we made organizational changes to bring together what we used to call the Catalyst Group, which was a distinct group with our solution consultants—those who do demos and work with customers—to figure out their needs, with our professional services staff, who do the delivery, and our partner teams because our partners are critical to delivery. When we saw what was going to happen with GenAI last July, we decided to combine these teams and utilize generative AI to rethink how we engage with customers. As a result, I think it's made it much clearer for them to see what an application might look like and understand what it will take to deliver. This is still a process, but what I see from our clients’ enthusiasm and the results from Q2 is pretty exciting.

That's great to hear and helpful context there. I guess, maybe a little more pointedly, I think at the Analyst Day on the GenAI front you maybe expected some contribution coming in Q3 from Blueprint. Are you feeling the same way? Are you seeing those conversations building in the pipeline? How do you feel about that pipeline converting over to deals at this point?

One of the things that's different about Pega's approach is—if you look back and listen to my keynote at Pega World—we discussed the three forms of GenAI: Statistical AI and machine learning, which we've been doing for 15 years, really critical to next best action, making recommendations, and doing process improvements. The second form being productivity tools that offer useful capabilities like summarization. The third type of AI we spoke about was transformational; using generative AI to change how organizations perform their processes. We have a significant opportunity to do that because we don’t just go from GenAI input to code, which frankly means more code equals more mess. We go into the model, the same model we’ve perfected for decades. That means we’ve plugged GenAI in a way that is transparent to customers—they can see and change what's happening. I think this energy from GenAI represents a fundamental change for all aspects of our business. We’ve woven it in everywhere, which is why we talk about GenAI integrated into our products. I would say there's not a single sale or pursuit that doesn’t have GenAI at its core because that’s now how we use our products.

Your next question comes from the line of Kevin Kumar with Goldman Sachs. Please go ahead.

Alan, you had mentioned the federal segment, so maybe if you can give an update there—kind of the trends you’re seeing with the federal business. How's growth trending relative to the broader Pega growth? And can you touch on the strategy there? Is it similar to the broader Pega strategy of going deeper into existing accounts? Any color would be helpful.

Yes. One thing to realize is when we go deeper into an existing account, it often involves new pursuits as much as anything else. I mean, the Department of Commerce is an existing account, as is the Department of Justice, the U.S. Army, and the IRS. We're only starting to tap into their potential. So we do have a targeted strategy there, and I’m thrilled with what I’m seeing. Big organizations are experiencing success and seeking ways to go broader—not just in the U.S., but we’ve had significant work recently with HM Revenue and Customs across the globe, and I believe that will continue to be crucial for us.

To add one thought, Kevin, an interesting dynamic is that the government has shifted from being skeptical of SaaS and cloud, say, 10 or 15 years ago, to really embracing it in the last 5 years or so. You’re starting to see that same trend with GenAI; the government is cautious about the risks associated with something like GenAI, looking to understand how to control it and mitigate potential impacts on their business. However, I believe you’ll see the public sector in the U.S. and other governments leverage GenAI, so we’re focused on the impact of GenAI in our government solutions as well, including Blueprint.

That's great color. Ken, you mentioned license term growth being a bit stronger this quarter, yet it sounds like your full-year expectations haven't changed. So was that just really a pull forward? Are you expecting a weaker Q3 and a typically strong Q4? Any additional insights on customer buying patterns?

Yes, that’s a great question. You're correct, our term license is likely to be lower for the year as opposed to higher. It’s primarily because more clients are moving to Pega Cloud. What happened was just the timing of renewals. So what you should anticipate is that Q3 will be relatively weak in terms of renewals on the revenue side due to a lower number of them in that quarter. We still expect some term revenue in Q4, but for Q3, not many. We believe term revenue is likely to be down low double digits for the year because more of it is transitioning to Pega Cloud.

Your next question comes from the line of Jacob Roberge with William Blair. Please go ahead.

It was great to hear the traction that you're seeing with those GenAI blueprints. I'm curious when you think these blueprints will actually go live into production. Are you starting to see some customers take the blueprints into live runtime today? Or is that still a few quarters away from really impacting ACV growth?

It's interesting, Jake. We met yesterday with one of our key partners, who has closed two engagements driven from Blueprint. They used Blueprint to create engagement opportunities for clients. Now it doesn't necessarily mean those are direct license orders for us, but they lead to that in time. The partners are on the front end of this, which is remarkable because typically companies like ours move quickly. Our partners are actually keeping pace and using Blueprint to deliver solutions to our mutual clients. We’re already seeing this, and I think that momentum will continue to grow.

I've witnessed it with some direct clients who have used blueprints to accelerate applications that they brought live. When Ken mentioned that these engagements don’t always translate to immediate license sales, we have been transitioning our customers to a more consumption-based model over several years now. Our goal is to make it easy for customers to initiate new applications without the need for complex contracts or paperwork. The aim is to foster usage of our systems. We’re excited about the increases coming from consumption, whether this leads to immediate licenses or future agreements.

Yes, that's great to hear. And it's good to see Pega Cloud representing 81% of net new ACV growth. How are you seeing GenAI impact the cloud migration timeline for your customers? Are you seeing customers accelerate their journey to Pega Cloud? How should we think about that mix heading into the back half of the year in terms of Pega net new ACV growth?

Sure. So you'll see that clients were already on a path to migrating to Pega Cloud. We have been patient with that move and not really pushing anyone. There's a lot more incentive for clients now with GenAI. They want to move to the cloud anyway; this is part of their digital transformation plans. GenAI gives them another essential reason to make that transition. Thus, the pace of clients migrating to Pega Cloud is accelerating, and we believe that will continue into 2025.

Your next question comes from the line of Pinjalim Bora with JPMorgan. Please go ahead.

Alan, what are you hearing from customers regarding implementing Blueprint? It's clear that creating Blueprints is relatively easy and that they're deriving value from creating those blueprints, but what about actually going live—from creation to launch? What hurdles are people facing? Is this easy? What’s the feedback from customers at this point?

The feedback continues to be very positive. Customers tell us that this has fundamentally changed how they design new applications. They're able to take best practices, their input, things we've learned from the internet, and bring them together to challenge conventional business processes. Even if a model doesn’t make it into the application, this approach changes the business process thinking in hours instead of weeks. That in itself is a substantial advantage. Some customers are experimenting with this for systems that may never actually become a Pegasystem, but I believe that all feedback we’re receiving is encouraging. Our recent ability to import these tools into existing Pega systems, blending them with their existing rules and processes, has led to excitement. We’re busily enhancing this aspect because we can do this with our SaaS product. We operate on a quick release cycle that is adding continual value. The customer response is very positive, and we’re happy to provide what it is they’re looking for.

Yes, in context to your last question on the cloud migration, I think you should consider how we define the maintenance line going forward. For the maintenance component that is transitioning to Pega Cloud, you should see somewhere between a 25% and a 50% increase from that number, if everything converts. In some cases, that number may be 2-to-1 or more, and in others, it will be more modest. It really depends on the customer's situation. An increase will be expected, and naturally, a markup will apply for all clients due to our managed service and infrastructure. A general rule of thumb would suggest a 25%-50% increase on that front, which translates into several hundred million dollars of incremental opportunity.

Hi Rishi, I think your line is muted.

Yes, sorry, I did not hear my name getting called. Thanks, Alan. Thanks, Ken, for taking my question. Maybe to start with Blueprint—really exciting to see the momentum here. Can you talk a bit about some of the more common applications and workflows you're seeing going into production? Looking long-term, how do you see these use cases evolving over the next 1 to 3 years?

A lot of the uses, as expected, relate to customer service, such as onboarding or processing additional products and how to make those approvals and implementations smoother. We’re also seeing considerable workflow uses in master data management—how to interface with large systems like SAP that maintain business records to correctly define products or parts in business. It’s a broad array of applications, I would say.

In terms of revenue mix, I don’t believe it’s accurate to think about this just as fixed versus variable revenue. I comprehensively understand your question. We will have commitment levels from clients; however, they can flex up their usage commitment which gets them better pricing and better discounts as they scale. This resembles the pricing models of Amazon or Google. We will have commitments, but this allows clients to grow organically without needing a contracting process every time they want a new application or workflow. We view these dynamics as a continuous growth model.

The next question comes from the line of Patrick Walravens with Citizens JMP. Please go ahead.

This is Austin Cole on for Pat Walravens. Ken, during the Investor Day, it was noted that the company was planning to target new logos that have the potential to be $1 billion ACV accounts. What’s the plan for this market approach? Should we expect a dedicated sales team for these new clients?

Sure. To recap, we wanted to transform our go-to-market team. We realized that adding new logos would be disruptive, so we limited net new logos to a very small amount and focused in a targeted way. We will maintain a targeted focus on new logos, but we are aiming to increase that focus over time. Our existing teams are segmented, with some already focused on prospecting new logos. We categorize those new accounts as major accounts and organize our teams where they focus on specific targets. We will strategically prioritize which organizations to approach.

What targeted means is that you don’t assign just any territory and say, 'Go hunt.' You specify certain organizations for individuals to focus on—very targeted strategic goals. This prevents us from investing in general-purpose marketing expenses that, in the past, have not yielded good returns. We’re confident that our approach can yield results.

Additionally, organizations that we target will likely resemble those we already serve and may include former Pega buyers who have moved to those organizations, which helps tremendously.

Your next question comes from the line of Daniel Ives with Wedbush. Please go ahead.

Can you discuss how these AI cycles are changing your overall spending environment? Are you being incorporated into more, what I'll call, AI-driven deals?

Yes, we are being recognized by customers due to what we've accomplished, and there is intrigue around it. We are being perceived as the means through which they should implement AI—making workflows work better, reducing manual steps, or improving decision-making for clients. These are perfect use cases for AI. We offer a way for companies to incorporate AI into their core without needing to craft it from scratch using Azure or AWS. This is the most effective way to integrate AI into core operations.

Of those new engagements, how many tend to be new customers as opposed to existing?

Our strategy is centered on broadening our existing accounts, but I view new customers as also a major area of focus. For example, securing contracts with large government agencies is also entering a new space for us. It's not segmented as simply new versus existing. We’re actively looking for ways to engage both current clients and new customers.

Our partners are instrumental in helping us identify those target organizations since they may be engaging with those precise accounts and recommending them for us to cover, which underscores our connection to AI.

That concludes our Q&A session. I will now turn the conference back over to Alan Trefler, Founder and CEO of Pegasystem, for closing remarks.

Thank you, everyone. We’re working hard and seeing our customers engage with us, which is invigorating. The excitement surrounding GenAI is palpable, and we're committed to continuing this momentum and hopefully demonstrating good results. Thank you very much, everyone.

Ladies and gentlemen, that concludes today's call. Thank you all for joining. You may now disconnect.