Earnings Call Transcript
Tenable Holdings, Inc. (TENB)
Earnings Call Transcript - TENB Q4 2022
Operator, Operator
Greetings. Welcome to Tenable’s Q4 2022 Earnings Conference Call. At this time, all participants are in listen-only mode. A question-and-answer session will follow the formal presentation. Please note that this conference is being recorded. I’ll now turn the conference over to your host, Erin Karney, Vice President of Investor Relations. You may now begin.
Erin Karney, Vice President of Investor Relations
Thank you, operator, and thank you all for joining us on today's conference call to discuss Tenable's fourth quarter and full year 2022 financial results. With me on the call today are Amit Yoran, our Chief Executive Officer, and Steve Vintz, our Chief Financial Officer. Prior to this call, we issued a press release announcing our financial results for the quarter and full year. You can find the press release on our IR website at tenable.com. Before we begin, let me remind you that we will make forward-looking statements during the course of this call, including statements relating to our guidance and expectations for the first quarter and full year 2023, growth and drivers in our business, changes in the threat landscape in the security industry and our competitive position in the market, growth in our customer demand for and adoption of our solutions; planned innovation and new products and services; and our expectations regarding long-term profitability and free cash flow. These forward-looking statements involve risks and uncertainties, some of which are beyond our control, which could cause actual results to differ materially from those anticipated by these statements. You should not rely upon forward-looking statements as a prediction of future events. Forward-looking statements represent our management's beliefs and assumptions only as of today and should not be considered representative of our views as of any subsequent date. We disclaim any obligation to update any forward-looking statements or outlook. For a further discussion of the material risks and other important factors that could affect our actual results, please refer to those contained in our most recent annual report on Form 10-K and subsequent reports that we file with the SEC, which are available on the SEC website at sec.gov. In addition, during today's call, we will discuss non-GAAP financial measures. These non-GAAP financial measures are in addition to and not a substitute for or superior to measures of financial performance prepared in accordance with GAAP. There are a number of limitations related to the use of these non-GAAP financial measures versus their closest GAAP equivalent. Our earnings release that we issued today includes GAAP to non-GAAP reconciliations for these measures and is also available on the Investor Relations section of our website. I will now turn the call over to Amit.
Amit Yoran, CEO
Thank you, Erin. Today, I'll discuss our financial performance, the strong traction we're seeing with Tenable One, and our growth beyond vulnerability management and exposure management. With that, let me first touch on our financial performance. In the fourth quarter, we delivered strong revenue growth at 24% year-over-year. In addition, non-GAAP income from operations was $19.9 million and unlevered free cash flow was $32.1 million, both above expectations. For the full year, our results were well above our initial expectations with full year CCB growth of 26% and $67.7 million in income from operations. Additionally, we had another strong quarter with large deals as we added 140 net new six-figure customers, which is a record for us and is up 40% year-over-year. Even more importantly, the number of six-figure deals accelerated throughout the year, further validating our corporate strategy and demonstrating the momentum we are building. As the market leader in vulnerability management, we're seeing great demand in the market, including new customer acquisition, renewals, and expansions. Our years of leadership in VM have put Tenable in a great position to target bigger, more strategic deals as customers continue to move beyond traditional VM to understand and reduce their cyber risk. We believe these are the drivers of the acceleration of six-figure deals. We had strong performance in OT, including a number of six-figure deals. This is an early stage market with tremendous opportunity, where we are now proving our ability to close larger transactions. We also saw particular strength in Tenable One, which I will discuss in more detail shortly. At Tenable, we continue to differentiate ourselves as a technology leader by continuing to prioritize investments in product innovation and go-to-market, including our partner ecosystem. Over the last several quarters, we have moved quickly to align our efforts where we see the greatest opportunities in the market. And as our Q4 results indicate, we are clearly seeing success. Our decision to focus our product and go-to-market efforts around a unified platform is resonating in the market. We are incredibly excited by the traction we're seeing since launching Tenable One. Tenable One continues to see rapid adoption and represented mid-teens percentage of total new business in the quarter. Demand was broad-based as we saw healthy numbers of lands from new customers as well as upsell from existing customers across SC, IO, and NEXUS. And despite a tougher macro environment, we continue to see a material uplift with Tenable One relative to standalone VM. We're also excited to note that customers are allocating Tenable One licenses across more of their attack surface, including their cloud infrastructure, truly leveraging the power of the platform. Selectively including Tenable One, our exposure solutions now represent approximately 50% of our renewals and new business, up from 40% a year ago. We're able to leverage our leadership in VM for a natural upsell to Tenable One, making us more strategic in driving larger transactions. Tenable One brings a single unified view across VM, cloud security, active directory, and identity and external attack surface management to deliver telling analytics. Threat actors don't limit their attacks to one silo of technology. They're looking for the right combination of vulnerabilities, misconfigurations, and excessive permissions that will meet their objectives. Security teams have been operating on point products and specialized solutions, which have created isolation within their operations. Tenable One enables collaboration across the entire security stack. It achieves enhanced analytics, asset inventory, and building Attack Path Analysis to determine which combinations of vulnerabilities, access permissions, and misconfigurations could result in paths from external points to sensitive internal targets. Leveraging these capabilities, we believe we offer the first platform to truly operationalize preventative security. Operationalizing preventative security has been an objective in the market for a long time. It's really hard to do and requires a deep understanding of vulnerabilities, context, and prioritization. It's our long history of understanding exposures at a very deep level that uniquely positions us to deliver on this objective. We believe this gives us an edge with our technology and also in helping our customers’ security teams operate more efficiently. Connecting related points across security issues enables our customers to have broader visibility into risk across siloed security functions. Additionally, in these market conditions, security teams need to do more with less. As Tenable One enables vendor consolidation, we are consistently attracting more senior economic buyers, which is crucial as investments require more scrutiny. A great example of this is a win with a very large global technology and media company. They were going through a large digital transformation and they were looking at different vendors to secure their cloud, their external attack surface, and their VM assets. Tenable One enabled them not only to consolidate vendors but in doing so, also unified visibility across asset types. Years ago, we pioneered the concept of exposure management and set out a roadmap aligned with that vision. Tenable One leverages our leadership in VM and realizes the next great step in that vision for managing cyber exposure. Customers and industry analysts alike validate our VM leadership and the importance of cyber exposure. Gartner continues to talk about exposure management as a discipline, particularly the importance of advancing a cyber exposure management program as critical to developing actionable security posture improvement plans. We believe their commentary aligns very well with the attributes of Tenable One. Additionally, IDC recently published their 2021 VM market share report, highlighting Tenable as the 2021 market share leader for the fourth year in a row. IDC added commentary around the importance of a holistic view and risk prioritization as the number of vulnerabilities is accelerating every year. As the leader in VM and now a platform-first company, we believe we've earned the trust of our customers to be the vendor of choice as they look to cover more of their attack surface. Since the release of Tenable One, we're seeing immediate interest and adoption of Tenable One for cloud-native use cases. Customers are looking to improve visibility into cloud assets, understand exposures, and manage risks around this portion of their attack surfaces. This provides a means to consistently enforce cloud security posture and compliance across multi-cloud and hybrid environments that is delivered on a single unified platform and is more cost-effective and scalable than continued use of point provider tools. In fact, a great example of this was a Q4 upsell for Tenable One within a large aviation company. They saved budget by converting from another cloud security product and instead expanded from Tenable.io to Tenable One. As we look to 2023, we will continue to focus on innovation, and we will continue to increase our investment in quota capacity, enterprise customer support, customer experience, and our partner ecosystem. While making these investments, we're also delivering a strong annual cash flow guide for this year and reiterating our $240 million to $250 million in unlevered free cash flow target for 2024. Our ability to deliver profitable growth with investments in innovation and distribution leaves me with great confidence that we will be able to execute on the opportunity in front of us. In short, we're incredibly proud of our ability to execute in this market and look forward to yet another successful year. I'll now turn the call over to Steve for further commentary on our financial results.
Steve Vintz, CFO
Thank you, Amit. We are pleased with our results for the fourth quarter, which showed better than expected growth and profitability driven by strong customer demand. I will share more details shortly, but first, please note that all financial results discussed today are non-GAAP measures, except for revenue. As Erin mentioned at the beginning of this call, you can find the GAAP to non-GAAP reconciliations in our earnings release issued earlier today on our website. Now, let’s review the quarter’s results. Current billings, defined as the change in current deferred revenue plus the revenue recognized in the quarter, grew 23% year-over-year to $238.9 million, supported by strong performance in vulnerability management and the ongoing success of Tenable One, our exposure management platform. The strong customer demand underpins our better-than-expected top-line results. Specifically, we added 571 new enterprise platform customers and 140 net new six-figure customers in Q4. While both metrics are impressive, large deals grew 40% year-over-year. This highlights the investments we've made over the years to build a vast partner ecosystem and extend our global reach, enabling us to serve customers of all sizes across major markets for traditional VM and increasingly for unified risk and exposure management. Our Tenable One platform also offers a compelling upsell opportunity for customers and positively impacts our dollar-based net expansion rate, which remained strong at 117% for the quarter. While we expect the expansion rate to fluctuate quarterly, we generally anticipate it to stay within a range of 110% to 120%. Revenue for the quarter was $184.6 million, reflecting 24% year-over-year growth and exceeding the midpoint of our guidance range by $3.6 million. Visibility remains strong as our percentage of recurring revenue was 95%, consistent with previous periods. Now, turning to expenses, we are demonstrating notable operating leverage while continuing to prioritize investments in growth and innovation. Starting with gross margin, it was 78.5%, down from 81% last quarter, with a full-year gross margin of 80%. As expected, the cost of revenue increased sequentially due to higher demand for our cloud-based products, including Tenable One, which was launched in the fourth quarter and includes features such as Attack Path Analysis and external attack surface management. Looking forward, we expect gross margins for the full year 2023 to be in the high 70% range, with modest improvements throughout the year as Tenable One adoption increases and we absorb initial costs related to our newer exposure management offerings. Sales and marketing expense was $78.3 million, up from $74.5 million last quarter, representing 42% of revenue compared to 43% last quarter, reflecting improved efficiency in our go-to-market efforts. This expense includes higher personnel costs, such as payroll taxes, along with increased sales commissions and variable compensation linked to our strong sales performance and higher renewal base this quarter. For the full year, sales and marketing expense was 44% of revenue. R&D expense increased to $28.7 million from $27.4 million last quarter, maintaining 16% of revenue for this quarter and last. The increase was mainly due to lower capitalized software development costs in Q4 after launching Tenable One. G&A expense rose to $17.9 million from $16.7 million last quarter and was 10% of revenue for this quarter, last quarter, and the full year. We will continue to invest in G&A to support our growth and scale. Income from operations was $19.9 million, exceeding the midpoint of our guidance range by $4.4 million thanks to better-than-expected top-line results and improved operational efficiency. The operating margin for the quarter was 11%, up 220 basis points from the midpoint of our guidance, while the annual operating margin was 10%. This reflects our ability to efficiently invest in growth and expand operating margins by leveraging our VM market leadership, extensive customer base, and broad exposure management platform. At year-end, we had 1,900 employees, reflecting a 2% reduction in force in Q4, leading to $1.8 million in severance costs. By aligning our cost structure with our investment priorities, we are well-positioned entering 2023 to capitalize on upcoming opportunities. This resulted in fourth-quarter EPS of $0.12, which was about $0.05 better than the midpoint of our guidance range. Now, moving to the balance sheet, we concluded the quarter with $567.4 million in cash and short-term investments. Accounts receivable stood at $187.3 million, while total deferred revenue was $664.6 million, including $502.1 million in current deferred revenue, providing us significant visibility into the next 12 months’ revenue. We generated $32.1 million in unlevered free cash flow for the quarter and $128.1 million for the full year, an increase from $95.2 million last year. With a 95% recurring revenue rate, high gross margins, and renewal rates, we are confident in our ability to maintain healthy cash flow levels while continuing to invest in the business. I will discuss cash flow in more detail shortly. With the quarter's results behind us, I want to provide our outlook for the first quarter and full year 2023. For Q1, we expect revenue to be between $186 million and $188 million; non-GAAP income from operations between $9 million and $10 million; non-GAAP net income between $3 million and $4 million, assuming interest expenses of $7.5 million and a provision for income taxes of $2.1 million; and non-GAAP diluted earnings per share between $0.02 and $0.03, assuming 120 million fully diluted weighted average shares outstanding. For the full year, we expect calculated current billings to be between $915 million and $925 million, with revenue ranging from $800 million to $810 million; non-GAAP income from operations between $86 million and $91 million; non-GAAP net income between $63 million and $68 million, assuming interest expenses of $31.3 million and a provision for income taxes of $9.3 million; non-GAAP diluted earnings per share between $0.52 and $0.56, assuming 122 million fully diluted weighted average shares outstanding; and unlevered free cash flow between $175 million and $180 million. I want to provide some important context to our guidance. We are delighted with our quarterly results, which boost our confidence for 2023. We have exceeded both top and bottom-line expectations, added hundreds of new customers, and achieved a record number of large deals in a highly dynamic market. Our unified exposure platform, Tenable One, offers the security analytics to help customers assess risks across the enterprise at a time when security teams are challenged to do more with fewer resources. While our pipeline continues to grow, we are aware of the current spending environment. Thus, our initial CCB guidance for the year indicates 18% to 19% growth, which we consider cautiously optimistic given the macro uncertainty. In the first half of the year, we expect moderate year-over-year growth, with slightly improved growth in the second half. For profitability, we anticipate a 30% increase in income from operations for the full year, reflecting an 11% margin, and similar seasonal spending patterns to previous years, with increased investment and higher operating margins in the second half. We are excited to host a live sales kickoff in Q1 for the first time since the pandemic, which will result in a discrete expense reflected in our Q1 guidance. Our full-year unlevered free cash flow guidance represents a 40% increase, leading to a 22% margin, up from 19% last year. We anticipate the unlevered free cash flow margin to ramp throughout the year, with Q3 as our typical seasonal high. While we are pleased to provide this annual guide, we do not plan to update it quarterly due to the variability of collection and payment timing. Our next update will be in midyear during our Q2 call. Lastly, the strength of our business model allows us to make strategic investments while improving cash flow. We delivered better-than-expected unlevered free cash flow in Q4 and have strong initial guidance for the year. We are on track to achieve our $240 million to $250 million target for 2024. In summary, we are confident in our ability to grow, scale our business, and drive higher cash flow. I will now turn the call back over to Amit for closing comments.
Amit Yoran, CEO
Thanks, Steve. We're very confident in our differentiated technology, our future, and our ability to deliver exceptional results even in a tough market. We hope to see many of you at the Morgan Stanley Conference in the upcoming weeks. We'd now like to open the call up for questions.
Operator, Operator
Thank you, and at this time, we will be conducting a question-and-answer session. Our first question comes from the line of Hamza Fodderwala with Morgan Stanley. Please proceed with your question.
Unidentified Analyst, Analyst
Hey guys. It's Justin on for Hamza. Thanks for taking the question. Just wanted to hit on pipeline for the year ahead. Obviously, you've had a difficult macro situation. There's been some unevenness over the last year in terms of deals closing on time, deals getting pushed. I'm just curious what you guys are seeing for the year ahead? And then also just any incremental commentary you guys can provide around the federal opportunity? Thanks.
Amit Yoran, CEO
Thanks. We're generally pleased with pipeline. I feel like we've gotten a pretty good rhythm and understanding of customer buying behaviors over the last several quarters and are able to invest where we see continued opportunities. So, prioritization of VM, especially in the enterprise market, and candidly, our ability to move enterprise customers through the Tenable One machines as well. So, feel good about pipe. In terms of the federal space, I'd say it's very consistent with previous years in terms of seasonality. So, weighted in what's typically the third quarter, but we feel good about the momentum that we're building and the pipeline that we're building throughout the year, especially in the state and local markets as well.
Operator, Operator
Is that all Hamza?
Unidentified Analyst, Analyst
Yes, thank you.
Joel Fishbein, Analyst
Thanks for taking my question and great quarter. Amit, I just want to drill down a little bit on Tenable One, massive new product cycle. I would love to understand how customers are thinking about the attack surface management? And also talk about the price uplift. You've mentioned previously, 30% plus. I would love to just understand a little bit more detail about how that's the go-to-market structure. I know you're doing that sales kickoff this year. So, 2023 could be a really good year for that? But any color you can provide would be really helpful. Thanks.
Amit Yoran, CEO
Yes, I think directionally still looking at that 70%. So, we haven't updated that figure, but directionally consistent with what we've seen previously with Tenable One. And I'd say both the sales team and the customer base seem to be gravitating to it. It's a double-digit percentage of new sales and an increasing high single-digit percentage of existing customers now on Tenable One. I think the message resonates. It makes sense. They can look at a more complete understanding of cyber exposure, a more complete perspective of risk, a much more compelling set of analytics, including attack path analytics and asset inventory types of things, which they haven't historically gotten with the vulnerability management program. The other piece is it allows us to do spend and vendor consolidation. So, by increasing their Tenable One spend to cover not only traditional VM but also look at cloud-based assets or identity, we can offer them some volume-based pricing, which ends up being much more attractive than going to one vendor for VM, going to another vendor for external attack surface management, going to another vendor for cloud security. So, we're seeing great leverage in the go-to-market function, and it really has been resonating with customers. We expect that trend to continue, if not accelerate.
Steve Vintz, CFO
And Joel, this is Steve. As a matter of clarity, the uplift we're getting on Tenable One, we said in the past is 70%, this quarter was no different. So, we're getting a substantial uplift. We're transacting larger deals. It's one of the reasons why we're having great success adding lots of large customers.
Joel Fishbein, Analyst
Great. I have one quick follow-up for either Steve or Amit. OT is clearly a significant opportunity. While I know we are in the early stages, it feels like a greenfield opportunity. Could you discuss the competitive landscape in some of these OT deals? Also, what stage are we currently at regarding this OT opportunity?
Amit Yoran, CEO
Yes, I'd say we're probably still in the second inning at this point. If you rewind the clock a couple of years when questions would come up about OT, what we'd say is we've entered some small procurements. We've entered pilot or Phase I deployments where they're looking at a couple of factories, a couple of facilities, trying to operationalize the data and the workflows that come along with the OT product. Over the last couple of quarters, what we've said is we're seeing some follow-on deals, global types of deployments, six and seven-figure types of transactions. So, we're seeing that momentum build. I think we're still early in the market, and it's a market that doesn't move as fast as the IT market, but it's very deliberate, and I think the spending is very real. In terms of competitive dynamics and competitive landscape, I'd say we're predominantly competing against just a small number, two or three private pure-play-focused vendors in the OT space. We feel like our technology is compelling and really leads the market when it comes to looking at the converged IT/OT environment. So, if you look at a factory floor today or if you look at pipeline operations or other OT environments, they are exclusively OT. They have a bunch of IT systems and IT control systems in those factory floors as well. And so we're, I think, unique in our ability to deliver incredible insight for overall risk of a facility, which would include both OT and IT, and we think it's a significant competitive advantage for us.
Joel Fishbein, Analyst
Thank you so much.
Brian Essex, Analyst
Hi, good afternoon and thank you for the question. Amit, could you provide more insight into the spending environment? How have customers reacted to macroeconomic challenges in the past, and what is different now? Do they approach asset coverage differently now, and does that affect your ability to expand in that area? Additionally, how is the adoption of Tenable One and EP going? Does that help protect you from this kind of environment? If you could elaborate on that, I would appreciate it.
Amit Yoran, CEO
Yes, Brian, great question. We had a very successful quarter from an expansion business perspective from a net dollar expansion business perspective. So, we are seeing customers expand both the number of assets we're covering for them as well as through Tenable One, in particular, seeing the different types of assets where they're allocating licenses to more cloud security, identities, or other areas where we get a smaller presence in previous periods. I think the sales team has gotten into a pretty good rhythm in terms of identifying how to find opportunities, how to hunt through the budget and identify the new workflows in customer environments that are required in order to transact business. If you rewind the clock three quarters or so, we said, hey, we're seeing elongation of sales cycles. We're implementing more rigorous inspection, and nitpick processes across our sales forecasting. I think those are paying off. I think the sales team feels more confident in transacting business in this environment, tougher macro, and it's just the reality we're operating in. But I think we feel pretty good about both the pipeline and our ability to close transactions.
Brian Essex, Analyst
Got it. That’s real helpful. Keep it to that one. Thank you.
Rob Owens, Analyst
Great. Thanks for taking my question. Could you speak to just how the quarter progressed, I guess, from a linearity standpoint? And to that end, Steve, maybe anecdotes around the different puts and takes regarding conservatism on the 2023 numbers, just what you discounted, what you took into effect there?
Steve Vintz, CFO
Hi Rob, good questions there. First, I would say we had a strong finish to the quarter. We closed a lot of deals in December, especially the last couple of weeks. As our quarters continue to be very back-end loaded more so than what we typically see. I believe this is a consequence of the macro as customers continue to scrutinize budgets and evaluate spending priorities. We think cyber exposure fares pretty well in this market, but increasingly, customers are waiting to see how their quarters play out before committing to a purchase. So, I think the takeaway here is that linearity is certainly a little more back-end loaded now than what we've seen in prior quarters. And in terms of our guidance, our CCB guide as we head into 2023, first, we have a much tougher compare, particularly in Q1 where we grew CCB 31% last year. We're assuming the macro will continue to be challenging and potentially even deteriorate further, and that's reflected in our guide. But overall, I think we're pleased with the progress in the quarter, adding lots of new customers, adding lots of large customers, pipeline levels are healthy. But I think we're trying to take a cautious approach here. As we said, guidance is initially out of the gate. Obviously, there's a lot of selling up in the year, and we're encouraged by our progress to date, and we'll have to see how the rest of the year plays out, but we feel good about our business and have a lot of confidence in our ability to be successful in this dynamic environment.
Rob Owens, Analyst
Great. Just the one for me. Thanks.
Justin Donati, Analyst
Hi, this is Justin Donati on for Andrew. Thank you for taking our questions. So, congrats on a good quarter. When you were talking about the pipeline, you specifically spoke about strength with your enterprise customers. Just wondering if you're seeing any difference in terms of buying behavior between your mid-market customers versus your enterprise customers? Thank you.
Amit Yoran, CEO
No, I think we saw strength pretty much across the board, including in the mid-market customers as well. If anything, on the enterprise side, maybe just slightly smaller in the net new lands but continued health in the number of new lands and expands, and certainly strength in the mid-market as well.
Justin Donati, Analyst
Great. And then just as a quick follow-up. You talked about your continued investments in your go-to-market. Just wondering what your plans are for sales hires in the coming year, and if you're expecting that to be more front-end loaded or if you are taking a slightly more conservative approach this year?
Steve Vintz, CFO
Well, first and foremost, we are planning to hire in 2023. And I think it's fair to say we're adding more quota capacity. Our expectation is that we're going to add more quota capacity in 2023 than we did in 2022. We have a lot of confidence in our business. And investments are certainly a big part of that and obviously continue to double down on innovation and invest in product as well. We've been very active from a product perspective in bringing new products to market. We did talk a little bit about on the call the factors that kind of influenced the timing of those investments. First is hiring. We tend to front-load our hiring early in the year. So, more of the hires will come online in the first half of the year and specifically with Q1. We also have a number of industry and other events in the first half of the year, such as our annual sales kickoff, which will be a live in-person event this year, RSA and many others. So, clearly making a lot of investments. We're very pleased to be offering the guidance in terms of operating margin and cash flow that we're providing today, and we have a lot of confidence in our ability to continue to drive further margin leverage.
Justin Donati, Analyst
I appreciate the color.
Mike Cikos, Analyst
Hi guys. Thanks for taking the questions here. I did want to touch on the customer behavior. I know you answered some earlier questions with respect to enterprise versus mid-market and obviously, the strong expansion we've spoken to. But for sales cycles, and that's really what I'm driving out here with the customer behavior. Have they been relatively stable versus what we spoke about in Q3? Or have we seen any elongation in any way on that front? And maybe it would be helpful, too, if you could kind of pepper in any color when thinking about geographic theater.
Amit Yoran, CEO
Mike, great to hear from you. We have not seen any elongation or any significant change in the sales cycle since what we spoke about in Q3 of last year. I think that allows our sales team to just have continued confidence in their adjusted sales processes and forecasting methodology. In terms of geographies, I think last year, we called out some peculiar behaviors in geographies. At this point, I think we're seeing fairly consistent performance across all major theaters and geographies.
Mike Cikos, Analyst
That's great. And one more, if I could. But I did just want to ask about Q1, just given the fact that we're almost halfway through it already. Can you provide any additional color for how customers have put together their cybersecurity budgets as we think about calendar 2023? Obviously, we're all talking about the increased scrutiny here. But curious since cyber is perceived as being this more insulated sector, what are those customer conversations been like? And just a real quick housekeeping to tap on to the end of that. But Steve, I know you spoke about the annual sales kickoff in Q1 as being in person. Is there any way to quantify how much of an expense that item is? Are we talking about an incremental $2 million to $3 million? Or any color on both those fronts would be beneficial. Thank you.
Steve Vintz, CFO
Sure, I'll provide some insights on your questions, and Amit will also add some comments on customer spending and budgets for 2023. Regarding your question about how things are looking at the start, we were encouraged by our January results, and our outlook reflects this positivity. March will be crucial for us, given our typical monthly performance. On the sales kickoff, we expect our investment to exceed $5 million, significantly more than the $2 million mentioned. We're excited to hold a live in-person sales kickoff for the first time since the pandemic, and our sales team, along with the rest of the company, is really looking forward to it. This event is included in our guidance, which we believe is robust concerning margins and cash flow. We anticipate that operating margins will improve throughout the year, similar to trends we've observed in previous years.
Amit Yoran, CEO
Yes, I think the only thing I would add to it is that the VM market remains very healthy. We see customers continuing to expand their VM coverage. And we're also seeing great traction, especially with Tenable One around cloud security. We called out strength in our OT sales during the course of the quarter. So, customer budgets are there. I think to the extent that we can become a cost-effective vendor consolidation platform play for them. There's a lot of interest, a lot of strategic dialogue around that. I think customers are very excited about some of the newer analytics that we've introduced with Tenable One. So, we look forward to updating you during the course of the year, but I feel like Tenable One looks like it will continue to play a larger and larger factor throughout the year and going into next year.
Mike Cikos, Analyst
That's great to hear. Good to see the profitability guide and the reiterated unlevered free cash flow guide when we think about calendar 2024 as well. I'll turn it over to my colleagues. Thank you.
Saket Kalia, Analyst
Okay. Great. Hey guys, thanks for taking my questions here. Amit, maybe just to start with you, and apologies if this has already been addressed. But I was wondering if you could just talk about how customers look at the ROI from a platform like Tenable One? It includes so much more kind of additional valuable product that lowers the risk profile, but I'm curious, when you talk to customers about Tenable One, how are they sort of thinking about ROI?
Amit Yoran, CEO
Great question, Saket. There are some clear and less obvious reasons for this. The most apparent advantage is the cost reduction through vendor consolidation. For example, if you're using Tenable for vulnerability management with 30,000 assets and need additional solutions for cloud security and Active Directory from separate vendors, your expenses can add up significantly. By consolidating your purchases with Tenable and Tenable One, you can benefit from volume discounts, increasing your budget's efficiency. Given the current economic climate and heightened scrutiny on budgets, we believe this is a strong differentiator for us. Another key aspect is in analytics. We can provide more comprehensive and unified analytics than those from multiple vendors. For instance, creating an asset inventory across your environment—where vulnerabilities exist, whether on-premises or in the cloud—can be a major advantage. Prioritizing issues is also crucial, and our top-down analytics help identify the various systems, vulnerabilities, and user permissions that could lead to sensitive assets from an external attack surface. This integrated approach stands out compared to individual solutions. We believe that our platform, which enhances understanding of exposure and risk, offers significant value, driving both customer interest and sales momentum.
Saket Kalia, Analyst
Got it. Got it. That makes a lot of sense. Steve, maybe for my follow-up for you. Again, apologies if this was talked about, but can we just talk about gross margins for 2023? That was down sequentially in Q4. I'm guessing that's from hosting costs, but curious how you think about that here in 2023 as Tenable One presumably becomes a bigger part of the business?
Steve Vintz, CFO
Sure. Great question, Saket. The gross margin in the fourth quarter came in as expected and is impacted by the recent launch of some new products for us. One is ASM, which is a new use case. The cost of domain attribution is something we can leverage over time as we see higher penetration rates. Also with Tenable One, we have a more robust cyber asset inventory, which is critical to supporting functionalities such as Attack Path Analysis and Lumin Exposure View. So, these are new areas of innovation that come with some initial semi-fixed costs that we expect to fully absorb over time. Overall, very pleased with gross margins, and we've said on the call that we expect gross margins to kind of stay in the high 70% range for 2023, and we expect gross margins to improve during the course of the year.
Saket Kalia, Analyst
Very helpful. Thanks, guys.
Mike Walkley, Analyst
Great. Thanks. My congratulations also on the strong close to the year. Amit, when you study your customer base, what percent do you believe will ultimately upgrade to Tenable One? While it's high single-digits of the base currently, where could that penetration go over the next couple of years? That should be a strong source of sustained growth.
Amit Yoran, CEO
Yes, it's a great question. And I think, obviously, there's tremendous potential. We're putting a lot of focus on it as a company. The leading indicator for that would be our new sales. And what we're seeing is high teens percentage of new sales coming in on Tenable One. So, over time, as long as that continues to remain healthy, we would see a larger and larger percentage of customers moving to Tenable One, where it could go long-term remains to be seen, but we're pretty excited about the potential.
Mike Walkley, Analyst
Okay, great. And just a quick follow-up question. Any changes in the competitive environment entering 2023, whether your competitors are potentially putting themselves up for sale? And you guys certainly have a lot of momentum with Tenable One. Just any change in the competitive environment that seems more favorable as you enter 2023?
Amit Yoran, CEO
Yes, we wouldn't speculate about that, but I feel really good about the competitive environment. We have exceptionally strong win rates, particularly in this market against our primary competitors. Those win rates remain exceptionally strong. While we don't have a specific update, anecdotally, it continues to climb, and the sales team feels very confident going into any VM opportunity. Those opportunities are really ours to lose. They believe that Tenable One provides them with a significant value-differentiated capability to discuss as well.
Mike Walkley, Analyst
Great. I hope your in-person event goes well and thanks for taking my questions.
Jonathan Ho, Analyst
Hi, good afternoon and let me echo my congratulations as well. I wanted to maybe dig in a little bit into the Active Directory and identity products. Can you talk a little bit about what you're seeing in terms of demand there and maybe the potential for that to be a larger product set over time as well?
Amit Yoran, CEO
We believe there is significant market potential in this area. As you may know, Active Directory is the primary target for hackers, whether from nation-state adversaries, as seen in the Mandiant breach, or through ransomware attacks, where over 90% of such attacks focus on domain controllers and Active Directory. Deploying Active Directory in large environments can be complicated and maintaining its integrity is almost impossible due to the complexity and the numerous software components involved. Many organizations lack a proper solution to address these issues. Security teams recognize it as a major problem and might conduct an annual audit or assessment of their Active Directory environments, but that is clearly insufficient. Thus, we see a significant market opportunity. Our sales team is very confident in the Active Directory product and its integration into customer systems. We had a strong performance with Active Directory in Q4, and we are excited about its potential in 2023, particularly as it increasingly contributes to Tenable One and enhances the analytics we can achieve with Active Directory and identities.
Jonathan Ho, Analyst
Great. And just as a follow-up for Steve. I think there was a small reduction in force. Can you maybe give us a little bit more detail on the risk and maybe what that means in terms of your margins, maybe where some of the cuts came from? Thank you.
Steve Vintz, CFO
Yes, it was fairly broad across many functional departments, really with an eye on improving operational efficiency and better aligning our cost base with the market opportunity that's in front of us. We feel like we're in a great position this year to make investments, as Amit talked about earlier. Making investments in product and adding lots of quota capacity. One of the comments I made earlier was our expectation is that we're going to have more quota capacity in 2023 than we did in 2022. Obviously, the demand environment remains highly dynamic, but we've done a good job over the years balancing growth with profitability, driving margin leverage and achieving sustainable levels of growth.
Jonathan Ho, Analyst
Thank you.
Joshua Tilton, Analyst
Hey guys. Thanks for taking my question. My first one is kind of high-level. The feedback from the channel, I guess, throughout last year on VM, I would say, has gotten incrementally worse each quarter. But if we look at your results, it sounds like you guys have almost gotten incrementally better, especially in regards to your six-figure adds. Could you maybe kind of just help us reconcile those data points?
Amit Yoran, CEO
In terms of channel checks, we don't see negative trends. Our channel partners remain very optimistic about vulnerability management and their ability to position Tenable as the leading vendor. They believe their customers are eager to enhance their vulnerability management capabilities as executive scrutiny on security programs increases. Questions surrounding our vulnerabilities, our standards of care, the speed of our system patching, and potential negligence are driving this interest. Addressing these executive inquiries flows from vulnerability management, rather than from firewalls, endpoints, or logging solutions. As more executives seek to understand cybersecurity, we believe this is beneficial for vulnerability management. Our results and customer conversations reflect this. Additionally, Tenable One enables us to have more strategic discussions across a wider range of asset types. We remain dedicated to the vulnerability management and Cyber Exposure market, and based on our performance and insights from our conversations with customers and channel partners, we will continue to commit to and invest in this strategy.
Steve Vintz, CFO
Yes. And the one thing that I'll add is, keep in mind that we transact sales in 160 countries. We have hundreds of channel partners, and so I can't speak to the channel checks but sometimes if you're talking to a partner or a contact that may only have a very specific view into our business or maybe even to the VM market. And also, our exposure solutions collectively represent about 50% of our total sales. So, over the years, we've done a really good job becoming more strategically relevant to our customers, broadening the focus, and we're having success selling a platform and playing in larger market opportunities such as cloud security and even identity and security analytics, which are top spending priorities and pain points for our customers this year.
Joshua Tilton, Analyst
Makes sense. And then just a quick follow-up. It sounds like you guys are definitely communicating that the initial CCB guidance for 2023 is, in your opinion, de-risked. I think you talked about that it assumes the macro actually gets worse. Is there anything else outside of that that you can just quantify or take one level deeper in terms of what exactly inside the guide is more de-risked? Maybe expansion versus new business, where you expect NRR to kind of shake out? Anything else you can kind of talk to in the 2023 guide that should help us feel like those numbers are de-risked?
Steve Vintz, CFO
Yes, we think our CCB guide for the year is good, but we described it as cautious. We think that's the right approach to have in a market like this, that’s highly dynamic, right? Each quarter is different in its own right. Our expectation going into 2023 is that the macro will remain challenging and perhaps even worsen in the first half of the year. So, we want to be prepared for whatever comes our way. We've done a good job over the past several quarters really identifying opportunities where we have success, larger closing larger deals, and some verticals are stronger than others, as we've talked about earlier, and tech was particularly strong for us, financial services, all of those. We have a good sense of what's working really well for us. I think with regard to the guide, I think we're just taking a more cautious approach, and we're assuming that the macro could potentially impact close rates and maybe even renewal rates. But what I will say is that our renewal rates continue to remain strong. Upsell was very strong in the quarter. We did add lots of large deals. But our expectation is that new lands for new logos could be tougher to transact in 2023.
Joshua Tilton, Analyst
Thanks guys. Appreciate the update.
Rudy Kessinger, Analyst
Hey, thanks for taking my questions, guys. Certainly, a lot of talk about Tenable One and good traction there. I think it was last quarter, maybe the quarter before; you guys started talking about the sales force, really leading with that product as opposed to leading with VM. Just where are we in that evolution? I don't know if you can speak to maybe the percent of deals or cycles where your reps are leading with Tenable One as opposed to VM. But just how has that changed over the last six months?
Amit Yoran, CEO
Yes, I think the sales team has a lot of confidence in the product, seeing the customer traction and the results that customers are experiencing with Tenable One gives them an increasing level of confidence. Today, it remains a teens percentage of new sales. But obviously, in the pipeline, pipeline is more heavily weighted towards Tenable One, and we expect that to continue to accelerate with sales kickoff and more training and more time and more differentiation.
Rudy Kessinger, Analyst
Got it. And then secondly, you talked about vendor consolidation playing out as a positive for you guys. I guess I'm also curious; there are some other kind of larger, broader cyber platforms out there that have grown in a VM product in the mix over the last couple of years. I'm curious if you're seeing vendor consolidation maybe hurt you in some cycles with some of those larger platforms out there throwing in the VM product.
Amit Yoran, CEO
Yes, there have been a lot of vendors over the course of the years making a lot of noise about VM going back four, five-plus years, Tanium, CrowdStrike, Microsoft, and others. And what I would tell you is they make noise. We see them for a quarter or two, and then very quickly their sales teams understand that their products are inferior, and they start gravitating to their core markets and candidly, where their companies are investing much more aggressively in logging, SIM, and elsewhere. Especially in a product like VMware independent audit is an important function, and where we feel like we've got a quantitatively and qualitatively differentiated product and experience and understanding in the enterprise. We almost never see those larger IT vendors participating and certainly never see them beyond a first phase of competition. I guess the only other thing I would add to that is obviously our footprint is broader than VM. So, if customers are really looking to understand cybersecurity more broadly than even other solutions that offer VM capability are not really competitive. Our Cyber Exposure solutions now represent, as Steve said, 50% of our sales.
Rudy Kessinger, Analyst
Got it. Thanks for squeezing me in.
Shebly Seyrafi, Analyst
Yes. Thank you very much. So, were there any call-outs on the geo side, EMEA, for example, growth here was decelerating in the last two quarters. You have a tough comp in Q1 in EMEA as well. Just any callouts on the geo side.
Amit Yoran, CEO
No, I think on the geo side, what we just said earlier is that all theaters performed pretty much to expectations in both enterprise and commercial segments. So, felt good about the international markets and the balance of our international performance.
Shebly Seyrafi, Analyst
Okay. You had a 2% reduction in headcount in Q4, and you mentioned having 1,900 employees by the end of the year, which is an increase of about 10% year-over-year. What are your expectations for headcount growth and the growth of quota-carrying salespeople in 2023?
Steve Vintz, CFO
We provide headcount at year-end following our Q4 results. This is not a number we provide for the upcoming year as part of our annual guidance. However, we are hiring and planning to make investments, particularly in product and go-to-market strategies. We expect to add more quota capacity in 2023 than we did in 2022. We have a lot of confidence based on this quarter's results as well as those from the past few quarters. We are acquiring many customers and closing significant deals. The business climate looks promising, so we are continually reassessing our investment priorities. As we mentioned earlier, we will be adding headcount. We are fortunate to make these investments in 2023 because we have expanded our workforce thoughtfully since the pandemic, with an overall growth of 28% over the last three years. This positions us well to invest this year while still improving our margins. We believe we are effectively aligning our cost structure with the investment opportunities ahead of us.
Shebly Seyrafi, Analyst
Thank you.
Operator, Operator
And ladies and gentlemen, we have reached the end of the question-and-answer session. This also concludes today's conference, and you may disconnect your lines at this time. Thank you. Have a good day.