ANSYS Inc

NASDAQ:ANSS

Earnings Call Transcript 2020-Q1

[Operator]

Ladies and gentlemen, thank you for standing by, and welcome to the ANSYS First Quarter 2020 Earnings Conference Call. Today with us, we have Ajei Gopal, Chief Executive Officer; Maria Shields, SVP and Chief Financial Officer; and Lee Detwiler, VP of Finance.

At this time, I would like to turn the call over to Mr. Detwiler for some opening remarks. Please go ahead.

[Lee Detwiler, VP Finance]

Good morning, everyone. Our earnings release, the related prepared remarks document and the link to our first quarter Form 10-Q have all been posted on the homepage of our Investor Relations website. They contain the key financial information and supporting data relative to our first quarter financial results and business update as well as our Q2 and updated fiscal year 2020 outlook and the key underlying quantitative and qualitative assumptions.

I would like to remind everyone that in addition to any risks and uncertainties that we highlight during the course of this call, important factors that may affect our future results are discussed at length in our public filings with the SEC, all of which are also available via our website. We note in particular that uncertainty regarding the impact of the COVID-19 pandemic on our performance could cause actual results to differ materially from our projections. Additionally, the company's reported results should not be considered an indication of future performance as there are risks and uncertainties that could impact our business in the future. These statements are based upon our view of the business as of today, and ANSYS undertakes no obligation to update any such information unless we do so in a public forum.

During this call and in the prepared remarks, we will be referring to non-GAAP financial measures unless otherwise stated. A discussion of the various items that are excluded and a full reconciliation of GAAP to the comparable non-GAAP financial measures is included in this morning's earnings release materials and related Form 8-K.

I would now like to turn the call over to our CEO, Ajei Gopal, for his opening remarks. Ajei?

[Ajei Gopal, CEO]

Thank you, Lee. Good morning, everyone, and thank you for joining us. I hope that you are healthy and safe during these uncertain times. I would like to start by thanking the entire ANSYS team. Their professionalism, commitment during this crisis has been exemplary and it made a tremendous difference for our customers.

Let me first talk about how ANSYS responded to COVID-19 and describe our Q1 performance and how we are operating our business in these unusual times. Then I will take a step back and discuss the ANSYS business as a whole, specifically why ANSYS is important to customers and why the business is resilient. Finally, I will provide some color on key elements of the business going forward, including a description of some of the headwinds that we are seeing before I turn the call over to Maria.

Of course, ANSYS' first responsibility is to the health and safety of our employees and their families and to the ANSYS community around the world. In mid-February, we closed our offices in China and enabled our employees to work from home. As the crisis spread, we closed other locations around the world. Today, with the improving situation in China and Korea, our offices in those countries are open with our employees maintaining appropriate social distances and health and safety protocols. Our offices elsewhere remain closed or open only to essential staff with the vast majority of employees worldwide continuing to work from home. Our employees have quickly adapted to the challenge, and we are fully engaged in driving our business forward in the work-from-home model.

In the last several years, we have invested in our infrastructure and business applications, including our networking and remote access capabilities as well as collaboration technology. These investments have turned out to be invaluable and are helping us run our business today. We are continuing to pay all our salaried and hourly workers, and we are not planning any job action. In fact, we are onboarding new employees remotely and provisioning them to work from home. We have a number of open job requisitions and are seeing a strong flow of candidates who are looking for the stability that a company like ANSYS can provide. We believe that our ongoing investments in our growing team put ANSYS in a strong position to capture additional opportunity once this crisis is abated.

As you may recall from when we guided in February, we were expecting the first quarter and the first half of the year to be challenging because of tough year-over-year compare, the effect of China sanctions and a back-end loaded full year. Of course, worldwide economic conditions worsened through March. Nonetheless, I am very proud that the solid execution by the ANSYS team, our revenue, earnings and operating margin for Q1 came in just about at the midpoint of our guidance.

In Q1, we saw strength in a number of industries, including automotive, high-tech and energy. In these verticals, our solutions that support the key initiatives of autonomy, electrification and 5G continue to resonate with our customers. For example, in Asia, we inked a new 3-year contract with an existing consumer electronics customer to expand its usage of our flagship multi-physics solutions as well as to expand into digital twins. In North America, we closed several large deals in the high-tech and semiconductor sectors, including at a global hardware provider that agreed to standardize on ANSYS, displacing several competitors.

We also closed a 7-figure deal with NuScale Power to bring its small modular nuclear reactor designs to reality through the power of simulation. We were also able to forge new relationships with organizations that have not previously used ANSYS. For example, we signed a 7-figure contract with a new customer, Software Motor Company or SMC. By using ANSYS multiphysics solutions supported by ANSYS Cloud, SMC is developing an automated workflow to rapidly design and analyze motors to be used across industries. The enhanced workflow can compress the weeks of simulation and months of protype testing typically required for these virtually silent motors.

In Q1, we delivered Ansys 2020 Release 1 and despite working from home, we will deliver our release to the customers in the summer as originally scheduled. These are major releases and include new capabilities across our multiphysics product portfolio. All products continue to receive recognition and accolades from our customers and partners. For example, industry leader, TSMC recently certified ANSYS RedHawk-SC next-generation system-on-chip power noise sign off-platform for TSMC's FinFET process nodes. This helps customers verify the power requirements and the reliability of chips we use in artificial intelligence, machine learning, 5G and high-performance computing applications.

Similarly, Samsung Foundry has certified the ANSYS RaptorH electromagnetic simulation solution for design using its new 3-dimensional integrated circuit packaging technology. RaptorH marries the best-in-class engines from ANSYS RaptorX, which we gained in last year's Helic acquisition and ANSYS flagship HFSS into a single chip packet system design environment. By validating electromagnetic effects in Samsung's 3D assembly, RaptorH empowers designers to eliminate critical points of failure and accelerate the rate of new technology adoption.

We are continuing to look at opportunities to expand our portfolio through M&A. We recently closed our acquisition of Lumerical, which will enable ANSYS customers to predict the behavior of light within complex photonic devices, structures and systems. This is critical as 5G applications and autonomous vehicles are producing massive amounts of data, forcing organizations to handle even more information faster than ever. Lumerical's products enable designers to develop new, high-throughput optical networks by modeling the most challenging problems in photonics, including interacting optical, electrical and thermal effects. We were able to virtually onboard the Lumerical team, and I'm excited to welcome them into our ONE Ansys family.

I'd now like to discuss the ANSYS business and explain it to the zodiacs. The ANSYS value proposition is compelling; both in good times and in tough economic times because simulation helps our customers drive both top line revenue growth and achieve significant cost savings. Using ANSYS simulation, customers can rapidly innovate, easily validate design ideas and improve cycle time. This means that they can launch more of the right products, and do so at a faster pace, which translates to top line growth. In addition, simulation can help customers get more impact from tight R&D budgets by giving engineers the tools to evaluate multiple design options cost effectively and in parallel and by reducing or even eliminating the need for costly physical testing. That is particularly relevant during this global crisis when some customers cannot get access to their labs physically test products.

The compelling value and the mission-critical nature of simulation is why customers continue to rely on ANSYS even during periods of uncertainty. It is important to note that the bulk of customers' investments in simulation comes from their research and development or R&D budgets. R&D is the lifeblood of our customers. It's the key differentiator. Our experience is that in tough economic times, R&D is typically the least impacted by budget cuts and the first restored, primarily because it drives future growth and market success. We believe that this is a commonly accepted perspective, and it is corroborated by studies in the Harvard Business Review and by the consulting firm, MacKenzie.

This ongoing investment in R&D and in simulation in tough economic times is best illustrated in the automotive industry, where softening demand and worker safety concerns caused by the COVID-19 crisis have forced manufacturers to shut down factories and cut budgets. However, Volkswagen, General Motors, Honda and other automakers have publicly reported continued investments in R&D, especially in next-generation technologies, such as autonomy and electrification. If you recall from earlier discussions, these next-generation technologies are exactly where ANSYS has been making strategic investments through both organic development and acquisitions.

At ANSYS, we continue to see investments in simulation by automotive OEMs and their suppliers across geographies. Let me give you two examples from Q2. In Asia, DENSO, the Tier 1 automotive supplier, recently signed a 3-year multimillion-dollar deal to adopt ANSYS solutions for automotive parts development for electrification and autonomy as well as for our platform technologies. In Europe, our channel partner, DYNAmore, recently inked an important deal with a major automotive OEM for the adoption of LS-DYNA for virtual crash testing, replacing a competitive product. This is exciting news, indeed, coming just a few months after we closed the acquisition of LSTC.

As I also discussed at last year's Investor Day, ANSYS is a resilient model due in part to the number and diversity of customers we serve. We have thousands of customers across multiple industries, including high-tech, semiconductor, aerospace, defense, automotive, industrial and energy. And we are well balanced across the geographies with about 40% of our business coming from the Americas and the rest split roughly evenly between Europe and Asia. That diversity means that we can harness growth from a wide variety of sources. And it also means that we are resilient to the business or economic dynamics of any individual customer, industry or country. Furthermore, our sales channels are diversified with about 75% coming from our direct force, with the remainder coming from channel partners.

We are very flexible in our licensing and consumption models, and customers can purchase a perpetual license, a lease license, or a pay-as-you-go elastic license and can consume our technology on-premises or in the cloud. We believe this diversity and flexibility allows us to reach and support a broad range of customers around the world.

I'd now like to give some color on the challenges our users are facing and how we're accommodating them and provide additional comments on the demand environment, including a perspective by industry and by geography. It is important to note that our analysis of demand has already been factored into our Q2 and full year guidance. Let me also caution that with the unprecedented market volatility we are all experiencing, demand could change in either direction as the global situation continues to evolve. We expect the most significant business disruption to occur in the second quarter when our teams and those of our customers work remotely.

We are currently assuming a modest recovery in the business environment during the third quarter as states and countries slowly reopen, and business and consumer sentiment begins to improve. We also assume business activity and customer sentiments will continue to improve through the fourth quarter. Comparing this period of disruption with the pre-COVID environment, we expect different kinds of customers will be impacted in different ways.

First, it is likely to be more challenging to close deals with brand new customers, primarily because of the difficulty in building new relationships and driving demand with new prospects remotely. Fortunately, for ANSYS, over the course of our 50-year history, we have built a large and loyal customer base. And so while new customers are important, the majority of our business comes from existing customers. Second, we expect larger accounts to perform more strongly than small- and medium-sized businesses. This is to our advantage as the majority of our business comes from these larger accounts.

Larger customers have stronger liquidity and capital position, and we believe that a majority of them will be able to maintain their R&D cycles. In contrast, smaller customers tend to be more sensitive to liquidity constraints and are more likely to delay purchases. So, however, that we believe government programs, especially in Europe, will mitigate some of this risk. Furthermore, during this period of disruption, we expect renewal rates to remain strong, although new business will come under incremental pressure. We also expect customers to prefer leases over perpetual because of the smaller initial financial commitment of the lease. And we will see additional scrutiny given to large multiyear contracts, which could result in delays in signing or perhaps smaller commitments than we had previously expected. This could introduce incremental timing uncertainty into our top line.

Our prepared remarks contain a more comprehensive discussion of the attributes affecting our pipeline conversion and their related impact. With that backdrop, I'll shift to an industry view. We are seeing little to no reduction in demand in the high-tech and semiconductor vertical, which accounted for about 1/3 of our business in 2019. Many of these customers have deep pockets and are developing products against a multiyear road map, and they are not willing to let a few quarters of uncertainties slowing down. Other companies in large markets such as 5G are in a global race for leadership positions within their industry and are unwilling to delay their R&D efforts and thus see their future to a competitor.

Let me now move to aerospace and defense. We anticipate investments will continue for defense and military aerospace, driven by long-term government programs, and we expect to see little to no reduction in demand for ANSYS technology in this vertical. Commercial aerospace and contracts will be impacted in the short term, driven by both pre-COVID challenges faced by some companies and by the dramatic reduction in passenger air travel as a result of this pandemic. However, in the medium to long term, I believe this will be somewhat mitigated by the continued need of long-term R&D initiatives that address environmental issues and government regulations.

In the automotive industry, although there has been widespread idling of manufacturing plans, R&D are still receiving funding. And that is particularly true for emerging solutions like autonomy and electrification where ANSYS plays a key role. However, we are expecting to see headwinds on more traditional R&D activities in the sector. Given the need for competitive differentiation, we expect to see ongoing investments in new product introductions for industrial equipment. Although we anticipate a reduction in R&D spending on existing products in this vertical, the low price of oil is causing headwinds in the energy sector. Fortunately, this vertical accounts for a relatively small portion of our business.

Let me turn now to a geographical view. Relative to our expected performance of the geographies at the time of our last earnings call, we believe North America will fare the best. North America has a largest installed base of big enterprise customers, and a number of these customers are due to renew their leases of ANSYS products in 2020. We expect a high renewal rate for those leases, and we also expect to attach new product sales to the renewals. Our North America customer base includes a good percentage of high-tech and semiconductor companies, and we expect their R&D and simulation initiatives to continue to receive funding.

Asia Pacific entered the COVID-19 crisis a few weeks before the rest of the world. We did see an initial reduction in demand activity there, but we're now seeing a return of demand. For example, we saw China end Q1 stronger than we had expected, and it continues to have momentum in Q2. The high-tech and semiconductor industry remains strong throughout the region. However, we do see some headwinds in the more traditional automotive investments and the heavy industrials.

We're expecting some disruptions in business in EMEA, in part because of headwinds related to industrial and traditional automotive activities and in part because we saw some customers struggle with the transition to a work-from-home model. Still, we see relief coming in the form of government programs designed to help companies; especially smaller ones deal with the near-term financial stress. With all these uncertainties, we are reducing our full year revenue and ACV guidance by mid-single digits, with the greatest impact coming in Q2. Maria will go through guidance in more detail.

Before I finish, I would like to mention that we are preparing a simulation world, our exciting new online conference that brings together simulation thought leaders and users from around the world. Simulation World will feature a who's who event as customers, including Volkswagen Motorsport, Baker Hughes, Ericsson and Porsche Motorsport. Simulation World already has more than 10,000 registrants, demonstrating the value of simulation in the marketplace. I'm very excited that this forum gives us a new and unique opportunity to generate demand for our multiphysics portfolio.

Despite the uncertainties in the market, we believe that our strategy of pervasive simulation and the value that we deliver to our customers is more important than ever. Our strategy accelerates customers' key research and development initiatives, which are not typically impacted by economic slowdowns, and we support critical emerging areas like electrification, autonomy, 5G and the industrial Internet of Things. And our value proposition is compelling to customers; both in good times and in tough economic times because we can help our customers drive both top line revenue growth and achieve significant cost savings. I am confident in our ability to continue to drive long-term growth. And with our continued investment in the business, I believe we are well positioned to emerge from this crisis stronger than ever.

And with that, I'd like to turn the call over to Maria to discuss our financials for Q1 and provide more detail around our outlook and assumptions for the remainder of 2020. Maria?

[Maria Shields, CFO]

Thank you, Ajei. Good morning, everyone. I'll begin with a perspective on our first quarter financial performance. Then I'll also provide qualitative and quantitative color and context around our outlook assumptions for Q2 and the remainder of 2020. In connection with our updated outlook, I will encourage you to please review all of the earnings documents that we have posted to our Investor Relations website.

Before I get started, I wanted to take a moment to say thank you to my ANSYS colleagues, who have all successfully navigated the work-from-home transition to enable us to continue to operate our business, support our customers and to be able to meet all of our financial reporting deadlines, including all of the efforts that have gone into supporting today's earnings call. Your teamwork, flexibility, dedication and innovation have been personally inspiring. And for that, I just want to say thank you. Although we faced a more challenging customer demand environment in the latter part of March as compared to our expectations at the time that we provided our February guidance, our financial results reflect solid execution, which yielded revenue, operating margin and EPS, all towards the midpoint of the guidance ranges that we previously provided for the quarter.

Our start to the year is very encouraging when considering the tough Q1 2019 comparable, in which we reported double-digit revenue growth and the negative impact that COVID-19 inflicted on global economies in the first quarter. Our key financial metrics begin with Q1 ACV of $301 million, with 82% coming from recurring sources and total revenue of $309 million. I will add that the key currency exchange rates were within the ranges that we provided with our first quarter guidance. We closed the quarter with a total balance of deferred revenue and backlog of $835 million, representing a 24% increase over last year's first quarter balance.

During the quarter, we continued to manage our business with fiscal discipline, which yielded a solid first quarter gross margin of 88% and an operating margin of 29%, in line with our Q1 guidance. Margins were positively impacted by a slower pace of hiring than we had planned as well as reduced travel and corporate event spending. These positive variances were partially offset by higher bad debt expense. The net result was first quarter EPS of $0.83, which was slightly above the midpoint of our guidance range.

With respect to taxes, our effective tax rate in Q1 was 19.5%. And going forward, we have adopted a normalized effective tax rate approach for non-GAAP reporting and expect our effective tax rate to remain at 19.5% for the full year. Our cash flow from operations totaled $147 million, and we ended the quarter with a total of $718 million in cash and short-term investments. In line with our capital allocation priorities, we repurchased 690,000 shares during the quarter at an average price of $233.48. We have 2.8 million shares available for repurchase under the current authorized program.

Against the backdrop of ongoing volatility and uncertainty in the global markets, we will continue to assess both our own financial performance as well as market conditions as they continue to evolve in determining when might be the most opportune time to reinstate any future share repurchases. Through the combination of our current cash position, the additional $500 million that we have available under our undrawn revolver and our projections for 2020 operating cash flow, we believe that we have ample liquidity to continue to progress against our long-term strategy, while at the same time, remaining cognizant of the current environment.

Now, let me turn to the topic of guidance. As this crisis has evolved, our team has created multiple scenarios to build out what we believe is the most appropriate framework for giving investors a forward-looking view of the business based upon everything that we currently know. That being said, because of the very significant market and economic uncertainty associated with the COVID-19 outbreak, our ranges for outlook are wider than those that we have historically provided.

Let me also add that the entirety of our guidance reduction relates to the expected effects of the global pandemic. Factoring in our Q1 results, we are initiating guidance for Q2 and updating our revenue, EPS, ACV and operating cash flow outlook for the full year. This update reflects our current views for the remainder of the year as well as the minor contribution from the Lumerical acquisition that we closed on April 1.

For the second quarter, we expect non-GAAP revenue in the range of $335 million to $375 million and non-GAAP EPS in the range of $1.01 to $1.33. This outlook assumes that we will experience the most significant business disruption in the second quarter. Based upon discussions with our customers and channel partners, we anticipate delays in the timing of closing certain transactions and, in particular, larger enterprise deals may be especially challenging. We have also assumed that some customers will delay certain purchases until later in the year.

For the full year, we are updating both the revenue and EPS outlook to non-GAAP revenue in the range of $1.555 billion to $1.630 billion or constant currency growth of 2% to 7%, and EPS in the range of $5.61 to $6.23. We are also updating our full year ACV outlook to a range of $1.5 billion to $1.575 billion. This represents constant currency ACV growth in the range of 3% to 9%.

With respect to the remainder of the year, we expect a modest recovery in the business environment in Q3 as employees return to work and businesses begin to resume operations. Our current assumptions anticipate a stronger recovery in the fourth quarter, buoyed by a combination of sales transactions that may have been deferred from earlier quarters, and the sales outlook for multiyear leases that are currently forecasted to close in Q4.

With respect to annual operating cash flows, we are updating our outlook for 2020 to a range of $425 million to $470 million. This is reflective of our updated full year ACV, revenue and profitability estimates. We have also factored into our outlook an incremental $10 million to $20 million of customer payments that would have otherwise been made in 2020 that may be delayed into 2021 as a result of extended payment term requests on new contracts and delayed payments on existing contracts.

For modeling purposes, we're expecting second quarter operating margins of 33.5% to 39%. And for the full year, we expect operating margins in the range of 40% to 42%. These charges are reflective of our adjusted spending plans for Q2 and the remainder of the year. They include a slower pace of hiring and reduced discretionary spending, as well as decreased spending on certain noncritical facilities and infrastructure projects.

On the other hand, we will continue to invest in certain digital transformation projects such as our global CRM and HRIS initiatives, as these projects are critical elements in building the foundation to efficiently operate and scale our business over the long term. Further details around specific currency rates and other quantitative and qualitative assumptions that have been factored into our outlook for Q2 and 2020 are contained in the prepared remarks document.

In our effort to provide greater insight and transparency to investors, we have added additional commentary to our prepared remarks and Form 10-Q, specifically related to the impacts of COVID-19. As a caveat, I will remind everyone that this information is based upon everything that we know as of today. And given the uncertain and unprecedented environment that we are operating under, our assumptions are subject to change. Our current expectations, as reflected in our updated financial outlook, is that there will be a delay in business with an adverse impact on our Q2 and full year results.

Beyond the points that Ajei mentioned earlier, regarding the various elements that have contributed to the resiliency of our business model over the long term, from a financial perspective, I'd also like to highlight our high level of recurring ACV, historically stable renewal rates for both leases and maintenance and the strength of our balance sheet and operating cash flow. We are trying to be as transparent as we can and appreciate that you are all seeking information, details and perspectives on our future outlook. We have tried to take into account the uncertainty, particularly around the timing of larger enterprise deals.

We also trust that you will appreciate that there is no certainty in our assumptions and that things will continue to evolve and change in either direction depending on how will this situation continues to negatively impact global economies, customer sentiment and purchasing decisions as it has since this global pandemic first began in Q1. We will continue to remain focused on the things that we can control, trying to strike a balance between short and long-term strategic initiatives that we believe are critical to our long-term success.

In closing, we are very fortunate to start the year with solid first quarter financial and operational results. Being able to deliver on our Q1 financial commitments, despite the extreme volatility is a testament to both the resiliency of the ANSYS business model and to the collective efforts and dedication of the broader ANSYS ecosystem that includes our employees, customers and partners.

As we look ahead, we remain committed to invest in our business and to continue to execute against our long-term strategic priorities. Our focus and commitment to the long term, combined with our best-in-class product portfolio, long-standing customer relationships and resilient business model give us confidence that we will emerge from this crisis better positioned to capitalize on our long-term growth aspirations.

Operator, we will now open the phone lines to take questions.

[Operator]

[Operator Instructions] And our first question today comes from Jay Vleeschhouwer with Griffin Securities.

[Jay Vleeschhouwer, Griffin Securities]

Ajei, for you, let me ask a longer term question about where you and the engineering software industry are going as though COVID did not exist? Meaning where you and your peers seem to be going or ought to go over the next half decade or more. So the question is, there seems to be an incipient arms race going on among engineering software companies in terms of their underlying architectures and data platforms as their future architectures. You have Minerva, PTC recently alluded to Atlas, AUTOBEST Forge. And so, of course, is 3Dx. So the question is, how are you thinking about the long-term impact or importance to you in terms of maintaining or gaining share from this new architecture that you have? And are there any implications in terms of your moving from a highly discrete deliverable schedule, as you just alluded to in your remarks, to more of a continuous flow of deliverables over time?

And then secondly, the question has to do with COVID. And at the risk of extrapolation, are there any attributes of the business that you think might go on indefinitely or that you would have to think about doing more on an ongoing basis? For example, investing more in inside sales, potentially even an e-store or some kind or in some way, all three or doing things differently with your many partners like Microsoft, Rockwell, et cetera?

[Ajei Gopal, CEO]

So Jay, that's a long question. Let me try to address that -- address the second part first, and then I'll get to the first part. With respect to what you do in a COVID world, as you may have -- as I mentioned in my comments, we have a very large event Simulation World that we're running online. And that is, I think, one of the largest, if not the largest simulation event online. And we have a number of speakers signed up for that. We have, I think, over 10,000 people who have registered and the month is about -- and the event is about a month away. So there's a lot of interest in the technology and the capabilities. And obviously, we're driving demand from online events to -- excuse me, from in-person events to online events.

With respect to our partnership relationships, we continue to drive our relationships with our partners and with our customers and the importance of what we do together remains unchanged. With respect to the first part of your question, the long-term view of our industry, I think it's important to note that the part of the industry where ANSYS lives which is simulation, we believe, is the most important aspect that customers are dealing with. They need simulation in order to be able to validate the design of the products to be able to design the products. Some of the other companies that you mentioned are in other parts of the end-to-end ecosystem. We're in the simulation space. And we believe that this is an extremely valuable part of the end-to-end ecosystem is something that customers do need.

Now to your point about platforms, look, I think that there is some in the industry who believe that you need to have a single monolithic platform, which is a single source of truth and ideal single vendor monolithic environment. We don't believe that's the case. Our strategy is completely open. We believe instead in an authoritative source of truth, which is an ecosystem of open, federated and purpose-built domain-specific solutions, and we participate in that. And I think that's a much more realistic way of addressing the digital transformation needs of scale. It's not about picking one platform and locking a vendor or locking a customer into a particular platform, it's vendors like ourselves playing in an open environment, recognizing that we need to be in a position to support our customers as they understand how to create these complex products of the future.

[Maria Shields, CFO]

And Jay, just one thing that I'll add to that is, as you spoke about, as we think about our own business and how our models will transition or our ways of interacting with customers, that is the primary reason that for the past several years, we have been aggressively investing in our own digital transformation so that we can enable automation and build a platform that will allow us to efficiently scale our business from $2 billion to $5 billion and beyond. So that is the primary driver of why we've been pushing so much of our own digital transformation.

[Operator]

And our next question comes from Ken Wong with Guggenheim.

[Ken Wong, Guggenheim]

Great. So I just wanted to, I guess, touch on a couple of comments you guys made. So in the prepared remarks, you guys highlighted not seeing any material impact on your business from COVID-19. And then also, Maria, when you talked about guidance that it was based entirely on just how it relates to expected effects of the pandemic. So it seems to suggest that you guys currently aren't exactly seeing any erosion to your business. I guess I want to maybe dig into that a little bit, make sure I'm understanding that correctly in terms of how you're forecasting. And then to the extent that there is any concern -- well, in terms of the lower guidance, I just wanted to understand kind of what's coming from maybe just push out those deals and maybe what is coming from contraction of potential contracts that you guys are looking to renew or sign?

[Maria Shields, CFO]

So Ken, just to clarify, I think you needed to take a look at prepared remarks again. What we said is we didn't see a material impact only in Q1. So if you look at our Q1 results, they came -- all of the key metrics came in at basically the midpoint or a little bit better than what we had forecasted when we gave guidance at the end of February. Now that being said, when we gave that guidance, we were basically assuming that COVID-19 was somewhat limited to China and perhaps South Korea. But just like everyone in the world, as March progressed, things got progressively worse as this really became a global pandemic.

So as a result of that, a lot of stuff has changed in the past 6 weeks. And so that is why we've modified our full year outlook, which now does factor in what we believe is an elongated impact from COVID-19, the most dramatic being Q2.

[Ken Wong, Guggenheim]

Okay, got it. And then, in terms of kind of where that impact is coming from, any sense of if that -- again, is this more of a customer pushing out stuff? Or is the reduction in ACV more due to customers, I guess, kind of bringing in deal sizes, not attaching as many new products? Just trying to understand kind of where the softness is coming from in terms of the outlook.

[Maria Shields, CFO]

So I'd say it's a combination of -- yes, deals being pushed out as our customers are dealing with their own responses, but I'd say probably the majority of where we're seeing it, particularly in Q2 is at the SMB level; and so in two aspects.

[Ajei Gopal, CEO]

Small and medium business.

[Maria Shields, CFO]

Small and medium business. Two aspects. One, some of those customers that traditionally were paid up customers are shifting towards taking a look at annual leases just because their access to capital is a little bit more constrained in this environment. And then just in certain cases, they're just delaying. So as we've modeled, as we've worked with our field teams, we believe the largest impact we're going to feel across the business is Q2. And if you recall, when we built our outlook for 2020, even before COVID, we were assuming a very back-end loaded year just because the timing of when those multiyear leases were scheduled to renew, largely in Q4 around customers' year-end purchasing cycles.

[Operator]

And our next question comes from Jason Celino with KeyBanc Capital Markets.

[Jason Celino, KeyBanc Capital Markets]

Good to hear from everyone. Maria, can you maybe go into more details about this because you mentioned multiple scenarios in your guidance. Can you just frame the low end and the high-end?

[Maria Shields, CFO]

So yes, if you look at for the full year, basically, we've reduced to revenue. Now we're at the low end 2% and at the high end 7% in constant currency, we ran a variety of scenarios. And if we also used what happened to our business in 2009 as another illustration of a global economic shock. And based on everything, all the scenarios that we came to, we believe that the current guidance that we provided is a good proxy for where we will end the year. And I will caveat that by saying that's based on everything that we know today. Should things transition either way, improve quicker than we've estimated or unfortunately detract, we will continue to -- as the rest of our software peers assess our business every single day and every single week, work our way through it. And then as we exit Q2, we will give you a fresh update on all of the data that we've collected during the second quarter.

[Jason Celino, KeyBanc Capital Markets]

Okay. And if I could ask one quick follow-up; the perpetual license decline of 20% in the quarter. Maybe can you talk about linearity of that, maybe how January and February were compared to the latter end of the quarter?

[Maria Shields, CFO]

So -- yes. So what I'd say is the -- if you look at the linearity of any quarter, the third month is always the largest volume for leases and paid up. So relative to the decline is paid up, it shouldn't come as any surprise because if you think about a large impact on the business in Q1 was the COVID situation in China, and China today still is largely a paid up market. So when we see pressure on the business in China, you'll also see it reflected in the results in the paid up line.

[Operator]

And our next question comes from Saket Kalia with Barclays.

[Saket Kalia, Barclays]

Okay, great. And also thanks by the way for the detailed guidance during this uncertain time, certainly not everybody is doing that, so I wanted to acknowledge. Maybe first for you, Maria. And I think you touched on this in a prior question, but just to ask it expressly. Clearly, we've seen more of a shift to lease contracts in this environment versus perpetual for a range of reasons. But I'm wondering what you've seen on contract terms and how are you thinking about that in the guide this year?

So specifically, are your lease customers still largely opting for multiyear contracts? Or have some maybe opted to shorten that given the current environment?

[Maria Shields, CFO]

So Saket, what I'd say is, if you think about our customer base, you should really kind of bifurcate it. At the enterprise level, we are still seeing our large customers thinking long-term because R&D is really a long-term investment. And so an example that Ajei spoke to in his remarks is DENSO, a very long-standing customer that just entered into a 3-year multiyear lease. Where we're really seeing the biggest dynamic right now and what we built into our outlook for 2020 is that at the small-medium business level, that those customers are probably -- and we're seeing some of this going to choose an annual lease versus a paid up just given the current economic environment and their access to capital.

But I will also just comment that today, the majority of our leases are still annual leases. That transition to multiyear leases has really been the journey at the enterprise and strategic level because that customer tends to think longer term than perhaps smaller businesses do.

[Saket Kalia, Barclays]

Got it. That's very helpful. Ajei, maybe a quick follow-up for you. Understand that you've already given the guide for Q2 and the full year. But a question that's being asked of a lot of companies here is just obviously, the end of March was a very dramatic time, let's say. Some companies have seen a little bit of a bounce back in the month of April. Can you talk qualitatively, of course, to sort of how activity levels have been here in the month of April at all?

[Ajei Gopal, CEO]

I think it's important to recognize that when you think about the actual linearity within the quarter of our business, most of it is back-end loaded. So the earlier part of the quarter, there's a lot of customer activity in terms of meetings and things of that nature. But in terms of actual closed contracts, that starts to come in towards the third month of the quarter. And what we're seeing in April, of course, is as customers were transitioning to a work-from-home model, there was obviously some disruption, I would say, March, as people were thinking through the transition process and trying to make sure that they could get there. But today, we are seeing a number of our customers working from home. Our teams are effectively working from home, we can engage.

A lot of the challenges are around being able to do things like demos and so on in our ACE organization, which is our technical customer-facing organization is able to deliver those demos and those capabilities. So we feel very confident in our ability to continue to support our customers as they work from home and the activity levels that we're seeing are consistent with that.

[Operator]

And our next question comes from Andrew DeGasperi from Berenberg.

[Andrew DeGasperi, Berenberg]

I guess on the first, I wanted to look at a long-term picture. When it comes to the physical prototyping and how that's potentially transitioning under the current conditions, have you already seen engagement from some of these customers or any type of discussions with them that might indicate to you that this sort of transition might accelerate?

[Ajei Gopal, CEO]

So, I think there are two -- there are a couple of things that I think are worth sharing. Number one is that some customers are not able to access physical labs or were not able to access physical labs. And as a result of that, physical experimentation is suffering. And obviously, simulation does not require you to access a physical lab. You can do all your work on the computer and in a work-from-home scenario. So that has clearly swings away from physical testing towards more simulation activity, and that's obviously a tailwind for us, and that's helpful.

The other thing is -- and I think this has been very well established, part of the value proposition, what part of the value proposition of simulation is really being able to address cost, and in particular, you can reduce the number of physical prototypes, and you can test in parallel instead of serializing a sequence of events, you can test a number of things in parallel on the computer. And the fact that you can reduce cost is an important driver. And again, in these tough economic times, people are looking to reduce costs. And that, again, is a good guide to tailwind for simulation. So I'm pretty excited about those dynamics.

Another point I'd actually like to make, which is kind of interesting is we've been able to deliver that unique pass situation as the pandemic as we've been able to deliver a number of simulation-based insights to out there. People have been using our technology to come up with ideas or assessments of things like social distancing, the creation of PPE, the creation of medical -- rapid creation of medical devices and a lot of that is being done because of the speed and the rating case at which of this work is being done, it was unexpected. A lot of that work is being done through simulation as well. And that also demonstrates the effectiveness of simulation if you start to think about the agility that we can bring to bear.

[Andrew DeGasperi, Berenberg]

And if I may, on a follow-up. I mean, can you maybe help us think through your M&A strategy at this stage? I mean, I know you're not changing your long-term plan at all, but has the current crisis sort of changed your thinking around that in terms of deal making?

[Ajei Gopal, CEO]

Well, I think it's really very premature to talk about M&A, exactly what the long-term implication on M&A is going to be. Obviously, we continue to have a pipeline of customers of potential companies that we're continuing to evaluate. And we -- and b, we're evaluating those customers, I mean, if those companies, if you look at what we did with the acquisition of Lumerical, we just closed Lumerical a couple of -- a few weeks ago. During the lockdown period, we were able to onboard all their employees remotely. But we continue to engage with potential acquisition targets. We'll see what happens as the situation plays out.

[Operator]

And this will conclude our question-and-answer session. I'd like to turn the conference back over to Ajei Gopal for any closing remarks.

[Ajei Gopal, CEO]

Thank you very much. So I'd like to close by saying that while there is uncertainty in the market, I know that ANSYS has the right team, the best products in the market and strong customer commitments. With our investments in infrastructure and collaboration technologies, the special accommodations for our customers and with our continued fiscal discipline, I believe that ANSYS is well positioned to help our customers during this critical time and well into the future. When this crisis is abated, I believe that we will emerge in an even better leadership position to make simulation pervasive across the product life cycle. I'd like to again acknowledge our more than 4,000 employees around the world who have managed to grow our customer base and support our existing customers during these challenging times. Thank you all so very much. We are ONE Ansys.

And finally, I'd like to encourage all of you to join us online at Simulation World, June 10th and 11th. You can find more information and register on the ANSYS website or by going to simulationworld.com. And thank you for joining the call. Be safe and enjoy the rest of your day.

[Operator]

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect your lines at this time, and have a great day.