Box Inc

NYSE:BOX

Earnings Call Transcript 2019-Q3

[Operator]

Good afternoon. My name is Chantel, and I will be your conference operator today. At this time, I would like to welcome everyone to the Box, Inc. Third Quarter Fiscal 2019 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] Thank you.

Alice Lopatto, Investor Relations, you may begin your conference.

[Alice Lopatto, Head, Investor Relations]

Good afternoon, and welcome to Box’s third quarter fiscal 2019 earnings conference call. On the call today, we have Aaron Levie, our CEO; and Dylan Smith, our CFO. Following our prepared remarks, we will take questions.

Today’s call is being webcast and will also be available for replay on our Investor Relations Web site at www.box.com/investor. Our webcast will be audio-only. However, supplemental slides are now available for download from our Web site. We will also post the highlights of today’s call on Twitter at the handle @boxincir.

On this call, we will be making forward-looking statements, including our Q4 and FY19 financial guidance and our expectations regarding our financial performance, for the remaining quarter at fiscal 2019 and future periods, timing of and market adoption of our products, our market size, our operating leverage, our expectations regarding maintaining positive free cash flow and future profitability, our planned investments and growth strategies, our ability to achieve our long-term revenue and other operating model targets and expected timing and benefits from our new products and partnerships. These statements reflect our best judgments based on factors currently known to us and actual events or results may differ materially. Please refer to the press release and the risk factors and documents we filed with the Securities and Exchange Commission, including our most recent annual report on Form 10-K for information on risks and uncertainties that may cause actual results to differ materially. These forward-looking statements are being made as of today, November 28, 2018 and we disclaim any obligation to update or revise them should they change or cease to be up-to-date.

In addition, during today’s call, we will discuss non-GAAP financial measures. These non-GAAP financial measures should be considered, in addition to, not as a substitute for or in isolation from our GAAP results. You can find additional disclosures regarding these non-GAAP measures, including reconciliations with comparable GAAP results in our earnings press release and in the related PowerPoint presentation, which can be found on the Investor Relations page of our Web site. Unless otherwise indicated, all references to financial measures are on a non-GAAP basis. Also please note, we updated our financial disclosures to reflect our adoption of the new ASC606 revenue recognition standards under the modified retrospective transition method. Having adopted ASC606 for this fiscal year under the modified retrospective transition method, all Q3 year-over-year comparisons are made against Q3 results a year-ago, which are under ASC605, unless otherwise dated. Please refer to our press release and the supplemental financial deck on our Investor Relations Web site for a reconciliation of our financial results under ASC606 compared to ASC605.

With that, let me hand it over to Aaron.

[Aaron Levie, Chief Executive Officer]

Thanks, Alice and thanks everyone for joining the call. We had another solid quarter in Q3, including wins and expansions with leading organizations like the City of Boston, National Bank of Canada, and the National Institute of Health.

We ended Q3 with more than 90,000 total paying customers globally. Revenue was $155.9 million, up 21% and non-GAAP EPS was negative $0.06, both ahead of our guidance. As we previously discussed, this year we dramatically increased our focus on strategic solution sales and building deeper relationships with our customers.

In Q3, this strategy continued to gain phenomenal traction as we saw more than 40% growth in all large deal categories. We closed 57 deals greater than $100,000 versus 40 a year-ago; 11 deals over $500,000 versus five a year-ago; and three deals more than $1 million versus one a year-ago. More than 80% of these deals included at least one add-on product like Box Governance, Zones, KeySafe or Platform compared to roughly two-thirds of deals greater than $100,000 including these products a year-ago.

Our large deal growth and strong add-on products attach rates prove that our solution-selling strategy is working. Enterprises are choosing Box as a strategic technology partner and the Cloud Content Management platform to power their digital transformation. Content is at the heart of how we work, and it is only becoming more critical as powerful new technologies like AI, machine learning, and workflow create opportunities to make the business processes around content more intelligent and automated.

Enterprises need a central hub for their content, connecting best-of-breed applications while meeting security and compliance demands for multiple industries and geographies. With our solution-selling strategy more deeply embedded into our business, we are in a stronger position than ever before to deliver more value to our customers.

As we’ve talked about previously, we're focused on two major objectives. The first is innovating in cloud content management to power how companies work and run in the digital age, and second advancing our global go-to-market efforts so that we can reach more enterprises around the world and make them successful with Box. In Q3, we continue to make solid progress on both of these objectives.

Starting with product innovation, in the third quarter we hosted BoxWorks, our annual customer conference which was attended by thousands of clients and partners and where we announced several updates to our cloud content management platform. First. to give people a more holistic view of how their content is connected across the applications they use every day, such as Office 365, Slack, Salesforce, and DocuSign, we announced an all new activity stream that will be available starting next year. This new content hub built directly in the Box interface, will make it easier than ever to collaborate on Box Content across best-of-breed applications.

Users will be able to quickly see the current activity from their colleagues and all relevant context happening in other apps when viewing a file within Box. Next, we announced the beta of our Box for G Suite integration. With Box for G Suite, users can seamlessly create and manage Google Docs, Sheets and Slides all from within Box. Now customers can give their employees the flexibility to use collaboration tools from Google with the added benefit of maintaining Box's admin controls, security, governance and compliance.

These announcements reinforce our role in powering the digital workplace of the future, which we believe will be built on an ecosystem of best-of-breed applications and platforms. People need more flexibility and choice in how they work and enterprises need a single source of truth for content across their end-user applications and backend systems which can only be delivered by an open platform like Box.

Also at BoxWorks, we showcased new workflow and intelligence capabilities to help our customers reimagine and digitize a wide variety of their critical business processes. From our conversations with our largest customers it's clear that they have a wealth of manual business processes prime for automation, but have struggled to enable this, given the lack of flexibility from legacy ECM systems.

Our new core native [ph] task and workflow automation capabilities will solve a broad set of these use cases focusing on those that are content centric, recurring, and collaborative. Our new Box workflow and automation capabilities will make it easy for departments and teams to quickly create triggers for recurring actions around their collaborative work. For example, sales teams can automate ongoing contract approvals by routing tasks to their sales operations teams and marketing teams can trigger tasks to review and approve digital assets.

We also announced that Box Skills Kit which enables enterprise customers, third-party developers, and system integrators to build custom AI integrations with Box will be generally available on December 18. Box Skills kits will unlock powerful use cases like computer powered audio, video, and image recognition by leveraging advanced AI and machine learning capabilities from a wide range of technology leaders like IBM, Google and Microsoft. We’re excited to see what our customers and developers create with Box Skills kit starting next month.

Finally, security continues to be a critical differentiator for Box and a primary reason why customers chose our cloud content management platform. At BoxWorks, we previewed Box Shield, a set of advanced security capabilities built on our proprietary advanced machine learning technology that will help customers protect their content and users from internal and external threats.

Security teams will be able to apply policies that restrict sharing an external collaboration on sensitive files, for example, and they will also be able to set rules and detect suspicious user behavior and proactively alert customers when behavior deviates from what is normal. While Shield will not be generally available until next year, we are already seeing incredibly strong interest and demand from customers.

All of this innovation announced at BoxWorks and throughout the year led Gartner to name Box as a visionary in their Content Services Platform Magic Quadrant in October. This comes on the heels of being named the leader in the Content Collaboration Platform’s Magic Quadrant earlier this year. Importantly, Box is the only vendor among the 30 that were evaluated including Microsoft that addresses the key requirements and use cases in both of these Gartner Magic Quadrants with a single unified platform.

Enterprises are understanding that a comprehensive cloud content management offering is critical to their business, and in this quarter, customers are increasingly choosing Box over point solutions and fragmented offerings of our competitors. For example, one of the world's largest asset management and financial advisory firm selected Box in Q3 over SharePoint Online to enable secure external collaboration with its partners and third parties to replace legacy network file shares and develop custom client portals to better serve their most important customers. The firm will be leveraging the full suite of the Box offering, including Box Governance, KeySafe, Multi-Zones, and Box Platform across their entire organization with their partners and customers.

Turning to our second major objective, we want to reach and enable every business in the world through our global go-to-market efforts. This initiative focuses on growing average contract value or ACV, driving deeper relationships with our customers, and adding new logos through international growth and our partner ecosystem. To help grow ACV, in FY19, we positioned ourselves to deliver a solution sales strategy and be a trusted advisor to our customers on their path to digital transformation.

We’ve changed how we’re selling this year through improved training and enablement, improved sales processes and operational rigor to drive better deal execution, and implemented sales compensation plan changes to align incentives more closely with our strategy. In Q3, it's clear that this change in selling lead to a greater increase in add-on product sales, big deal growth, and paid user retention.

Additionally, we also executed on our enterprise license agreements or ELA program, and while still early we saw more customers choosing to go wall-to-wall with Box in this quarter. For example, a top 10 U.S Financial Services firm who is already wall-to-wall with the Box Core ELA, expanded their contract to also include a Box Platform ELA as well. This firm will broaden its use of Box Platform as the content layer for its custom application development across the business.

We also closed an ELA with the world's largest medical device company, who is leveraging Box Governance and Zones to bolster content security and protect their most sensitive data. As part of the agreement, the customer also purchased Box's custom consulting offering Box Transform to accelerate its digital transformation initiatives.

Internationally, we saw continued strength in Japan. In Q3, we closed major wins with leading enterprises like Shiseido Company, Mizuho Bank and Rocket 10. We also welcome new leadership in Germany and Canada to help us drive more uniform execution in those regions.

Finally, our ecosystem of partners remains critical to our go-to-market strategy. More than 40% of our six figure and above deals involve the reseller, systems integrator, or technology partner. Looking ahead, as our deployments with enterprises become more integral to their broader digital strategies, our system integrator partners will play a key role in driving increased value from the Box Platform.

Before we conclude, I want to quickly note that last month we were thrilled to welcome Kim Hammonds to our Board of Directors. Kim brings a wealth of experience driving IT strategy at global 100 companies, having held COO and CIO positions at Deutsche Bank, the Boeing Company and Ford Motor Company. As we help large companies modernize their operations, Kim's insights will be extremely valuable.

To wrap up, we're incredibly excited about the future of cloud content management and the progress we’re making on our path to $1 billion in revenue. In Q3, we saw incredible results from our work in FY19 thus far and we will continue to build on this foundation for the future.

With that, I will hand it over to Dylan.

[Dylan Smith, Chief Financial Officer]

Thanks, Aaron. Good afternoon everyone and thank you for joining us today. In Q3, we drove solid top line growth, while also continuing on our progress toward a major company milestone as we expect to achieve our first quarter of non-GAAP profitability in Q4.

We delivered revenue of $155.9 million in Q3, up 21% year-over-year. 25% of Q3's revenue came from regions outside of the United States compared to 21% a year-ago, demonstrating our increasing global penetration and strong execution against our market opportunity.

As Aaron noted we drove strong traction across all large deal categories, including 57 deals over $100,000 versus 40 a year-ago, a 11 deals over $500,000 versus five a year-ago and three deals over $1 million versus one a year-ago. More than 80% of the six-figure deals included at least one add-on product and our partners played a role in more than 40% of our six-figure deals. This quarter, 28% of our six figure deals came from international markets.

Third quarter billings came in at $155.6 million, representing 10% calculated billings growth and 14% adjusted billings growth year-over-year as a result of some customer driven multiyear prepays a year-ago. Total deferred revenue was $301.2 million, up 19% year-over-year. Short-term deferred revenue was up 25% year-over-year and long-term deferred revenue was down 28% year-over-year, primarily due to a higher enhanced developer fee in the year-ago period.

Our deeper focus on solution selling this year has been yielding positive initial results. This year we've been seeing an increase in large deal volumes as well as higher add-on product attach rates associated with increasingly robust Box implementations. As we’ve been mentioning throughout the year, we've been expecting most of these larger deals to close later in the year predominantly in Q4. As such, we continue to expect Q4 calculated billings growth to be in the mid-20% range.

Turning to margins. Non-GAAP gross margin came in at 73.6% versus 75.5% a year-ago and 73.7% last quarter. We were pleased to see an improvement in price per seat sequentially and year-over-year, mainly as a result of higher add-on product attach rates. As we mentioned before, we’re making some upfront investments in our data center footprint this year based on the demand we are seeing and we will be moving into an expanded collocation facility in Q4. As a result, we expect gross margin in Q4 to be roughly 72%.

Q3 was another successful quarter of driving operational efficiency. Sales and marketing expenses in the quarter were $74.8 million, representing 48% of revenue, an improvement from 57% in the prior year. This was primarily driven by improved go-to-market efficiencies and also includes roughly 3% benefit related to the adoption of ASC606.

It's important to note that our sales and marketing expenses excluding BoxWorks would have been 44% of revenue. The ongoing cost to support our free user base, which is a sales and marketing expense came in at under 3% of revenue in Q3. We now have 63.5 million registered users, of which 11.9 million are paid.

Next, research and development expenses were $30.3 million or 19% of revenue in line with the year-ago as we made significant enhancements to our product offerings. This included the continued development of Box Platform as well as the expansion of our advanced security, intelligence and workflow automation capabilities.

Our general and administrative costs were $17.4 million or 11% of revenue compared to 12% in Q3 of last year. We expect to drive continued leverage in G&A as we benefit from greater operational excellence and scale. Our focus on operational efficiency drove our Q3 non-GAAP operating margin to a solid eight percentage point improvement year-over-year coming in at negative 5% versus negative 13% a year-ago. As a result, non-GAAP EPS came in at negative $0.06, an improvement from negative $0.13 a year-ago.

One of the key elements that makes our business model so powerful is our strong customer retention. Our churn rate was stable with last quarter and remains best-in-class at 4.5% on an annualized basis. Our net expansion rate on an annualized basis was 12%, primarily driven by strong seat growth in existing customers and cross sells of our add-on products. As such, we ended the quarter with a net retention rate of 108% flat with the prior quarter.

These metrics had been trending down as a result of larger initial customer deployments and a higher contribution of sales coming from new customers. We are now seeing our net retention rate stabilizing and our in-quarter churn rate has been improving over the past few quarters.

Let me now move on to our balance sheet and cash flow. We ended the quarter with $200.1 million in cash and cash equivalents. We delivered cash flow from operations of $6.8 million compared to $14.1 million a year-ago. This outcome was lower than we expected due to the timing of cash outflows that we originally anticipated for Q4, but paid in Q3. This dynamic now creates a tailwinds for Q4 cash flow.

In Q3, total CapEx was $5.2 million versus roughly $3 million a year-ago. Roughly $4.1 million of this CapEx was related to facilities build out. Capital lease payments which we factor into our free cash flow calculation were $4.3 million versus $4.8 million a year-ago. We expect CapEx and capital lease payments combined to be roughly 6% of revenue in the fourth quarter.

Finally, we had negative $4.1 million of free cash flow in the third quarter compared to positive $6.3 million a year-ago. We expect our year-over-year free cash flow improvements in H2 to be fairly consistent with the dollar improvement that we demonstrated in H1 marked by a particularly strong Q4. We also remain committed to generating positive free cash flow for the full-year of fiscal 2019.

With that, let's now turn to our guidance, which we are providing under ASC606. For the fourth quarter of fiscal 2019, we are setting revenue guidance in the range of $163.5 million to $164.5 million. We expect our non-GAAP EPS to be in the range of positive $0.02 to positive $0.03 on approximately 150 million diluted shares and for our GAAP EPS to be in the range of negative $0.21 to negative $0.20 and approximately $144 million shares.

For the full-year of fiscal 2019, we expect revenue to be in the range of $608.2 million to $609.2 million. We expect our FY19 non-GAAP EPS to be in the range of negative $0.16 to negative $0.15. Our GAAP EPS is expected to be in the range of negative $1.02 to negative $1.01 on approximately 141 million shares. Also, as we look into FY20, we wanted to remind everyone that we expect our FY19 non-GAAP EPS to see up to a $0.10 benefit year-over-year due to the adoption of ASC606.

As we’ve been noting each quarter year-to-date. We will not see that same year-over-year benefit in FY20. We expect the target roughly breakeven, non-GAAP EPS in FY20, as we scale towards the $1 billion model that we laid out at our most recent Analyst Day.

In summary, Q3 was another quarter of solid progress on our strategy, driving further confidence in our ability to execute on our path to deliver more than $1 billion in revenue in FY22. We are thrilled that our solution selling strategy is gaining traction, demonstrated by strong large deal growth and add-on attach rates. We are seeing a growing need for cloud content management and we’re excited that our product innovation and go-to-market strategy are aligned to meet this demand.

With that, I would like to open it up for questions. Operator?

[Operator]

[Operator Instructions] Your first question comes from Philip Winslow with Wells Fargo. Your line is open.

[Philip Winslow, Wells Fargo Securities]

Yes, thanks for taking my question, and again congrats on a great Q3. Question first for Aaron, and then a follow-up for Dylan. Aaron, you mentioned some of the go-to-market changes that you made obviously earlier in the year and you highlighted the 80% attach rate you had to the -- of add-ons, which is obviously the highest that we’ve seen, a 10 point jump quarter-to-quarter. So, maybe walk-through sort of for all of us –sort of what change has been made, how are you sort of seeing them play out? And then, particularly, as you think about Q4, because obviously, Dylan guided to, maybe that mid-20s ramp up in billings. What gives you confidence that sort of those changes sort of have been in place, the disruption is behind us, and that the pipeline starts to convert Q4. And then just one follow-up for you, Dylan.

[Aaron Levie, Chief Executive Officer]

Yes, so as we noted at the beginning of the year, we – in FY19 really wanted to evolve how we were selling to customers. And instead of going in really talking about file-sharing collaboration, starting to change the conversation around content management and powering more and more business processes for our customers and while that took a couple of quarters to roll through our sales motion, we think that you’re now starting to see that show up in a much more significant way. Q3, I think is the first major quarter of evidence of that when you look at our large deal traction of again 40% growth in the 100-K segment, 120% growth in the 500-K segment, 200% growth in the million dollars segment, and it's really just been driven by this changing dynamic of how we are talking to customers, what we’re going in with making sure that we’re bringing in the full power of our advanced products, things like Governance where any customer in a regulated industry likely should be using Box Governance for information and document retention or our Platform Solutions, so any company that wants to be able to use Box as the backend system for their ERP system or custom application development, we’re seeing really great traction with platform as well.

So, I think you’re just seeing how -- the matriculation of that now in the sales motion and us making sure that in every single customer conversation we’re really driving home to power of these add on solutions, and we think that’s going to continue to show up in Q4 and obviously be in a incredibly important fixture of how we sell going forward into the future. And then one other note, I would just say is we have been seeing more and more customer demand -- we’ve been seeing more customer demand from really the bundling of multiple products together. So, we’ve seen some early signs of success and we are going to build on this going into Q4, but really important in FY20 in making sure that we can deliver sort of bundled solutions or suites as it were of our add-on products that come together, so customers don’t have to buy sort of one at a time, bu t you can actually get the full power of Box in one transaction. So that we’ve had a lot of learnings this year that we think we are going to baked into our sales motion going into the future. And the nice benefit of this is not only does it do things like grow our average contract value and deal size, it actually improves our competitiveness from a win rate standpoint because it bolsters Box's core differentiation as really being a cloud content management platform, so we’re getting kind of two nice benefits from that.

[Philip Winslow, Wells Fargo Securities]

Great. Thanks, Aaron. And then just two quick follow-ups for Dylan. First, Dylan, last quarter you mentioned billings ex the enhanced developer fee was up in the 20s. I was wondering if you can give us the metric this quarter, and then also gross margin has consistently been outperforming expectations. Can you maybe give us a little just more color there about what’s been driving that and how you’re just thinking about that line going forward?

[Dylan Smith, Chief Financial Officer]

Sure. So as it relates to the overall billings growth. As mentioned, we’ve been seeing a headwind this year related to the enhanced developer fee. This quarter, a bigger factor in terms of the delta between the reported billings growth and kind of the underlying growth of the business, especially given the strength in the quarter was more due to the impact of -- that fee as it rolls out of the long-term differed revenue, so that as mentioned was down 28% year-on-year, due both to the adoption of 606 heading into the year as well as just how that’s flowed through the financials, so if you look at the short-term deferred revenue growth that was up 25% year-on-year, maybe you run that kind of the calculation around short-term billings, that was up 23%, so roughly in the same range is how I think about the apples-to-apples growth rate that we put up in this most recent quarter. And then as it relates to the overall gross margin, as you mentioned, it did come in a bit higher than we had expected although with the move into an expanded collocation facility, we are going to see a bit of a step up in the overall spend heading into this quarter, which is where we set the expectation of about 72% for the quarter and then over time expect continued delivering efficiencies is there, both to lower the cost to serve as we scale as well as with the sort of pricing and packaging levers that we have particularly as a lot of our add-on products are at a higher gross margin, so those are some of the different factors that are going into the gross margin trends.

[Philip Winslow, Wells Fargo Securities]

Awesome. Thanks, guys. Just keep up the [indiscernible].

[Dylan Smith, Chief Financial Officer]

Thanks, Phil.

[Operator]

Your next question comes from Melissa Franchi with Morgan Stanley. Your line is open.

[Melissa Franchi, Morgan Stanley]

Great. Thanks for taking my question. Dylan, I just wanted to revisit the Q4 outlook in terms of billings, I know that you’ve talked about the pipeline of March deals. But can you maybe just refresh us on what gives you confidence in that level of acceleration and to what extent is it coming from renewals of existing large deals that you’ve had in the past versus your expectation for new customer win?

[Dylan Smith, Chief Financial Officer]

Sure. So it's really a lot of the things that are giving us confidence are the same things we talked about throughout the year. Although just as we get closer now, we’re in the fourth quarter, we’ve stronger visibility and confidence in that Q4 pipeline. But it's really the -- as a reminder, the confluence of a lot of the pipeline that we’ve been generating throughout the year, especially the solution selling motions have sort of rolled through. Many of those deals are showing up in Q4, which is why we said throughout the year we expect this year to be more backend loaded than we’ve seen in past years. So really same drivers just with the passage of time that confidence has increased. And then as it relates to the split between new customers and customers expanding their deployments of Box, we don't expect to see any material differences in terms of the split that we see in either in recent quarters or in the fourth quarter where roughly two-third of our new bookings are coming from existing customers. And about a third are coming from customers buying Box for the first time.

[Melissa Franchi, Morgan Stanley]

Got it. Okay. That’s helpful. And then on the retention rate, it was encouraging to see a stabilization at 108%. But just given the commentary on up sell rate and the benefits you’re seeing from the strategic solution selling, do you feel like we could potential see that metric improve from here or are there other headwinds like the new initial deals coming in larger, is that still going to be surpassing the growth in the retention rate?

[Dylan Smith, Chief Financial Officer]

Yes. So we will say that we’re seeing any new headwinds in that metric. But as you mentioned, some of the same headwind we had been seeing in previous quarters are still showing up in the businesses as we continuing to increasingly see larger deals upfront and a bit of a higher mix shift of the new customers, although that’s been fairly consistent. So I would say to expect the stability as really that’s being offset and showing up in the numbers with the stabilization, because of the improvements we've seen both in terms of the customer retention throughout this year as well as higher add-on attach rates. So, over time I would say that where this metric trends is going to be largely dependent on the traction that we see with add-on products. But I would say to expect this metric to be fairly stable at least over the medium-term.

[Melissa Franchi, Morgan Stanley]

Got it. Thank you very much.

[Operator]

Your next question comes from Rob Owens with KeyBanc Capital Markets. Your line is open.

Hey, guys. This is Mike Casado on for Rob Owens. Thanks for taking my questions. Aaron, I believe that expectation for mid 20s billings growth exiting '19 relied to some extent on the maturation of the reps hired last year. I know you’ve just discussed the drivers remaining the same overall and increase confidence in them. But could you offer a bit of incremental detail on how that rep cohort is ramping?

[Dylan Smith, Chief Financial Officer]

Sure. So this is Dylan. Now we would say that those reps are ramping as expected and we’ve been pretty pleased with the improvements that we’ve seen, especially in ramped rep productivity. So overall productivity as we discussed in the past is going to be more muted this year because we’ve higher percentage of reps throughout the year who are ramping versus ramps, relative to prior year's. But I would say in terms of the productivity of those cohorts both ramping reps and ramp reps. We are pretty pleased, although the mix shift makes it a -- kind of a pretty flat productivity overall as discussed then we would say that some overall is it relates to the business and the growth we’re seeing. Again, the rest of the ramping as expected, and we’ve seem strong rep retention and no real surprises there. What I would say though is that we’ve actually because we look not just at the reps overall, but we’ve looked at this and made these decisions on a per segment, per geography basis. We’ve actually decreased the hiring plans in those markets, especially certain international markets where we hadn't seen the same productivity as we really are focused on driving productivity before ramping, so overall we expect we are on track to kind of grow the overall sales force in the mid to high teens, again, largely due to some of the changes in the -- those international markets where we’ve been putting in new leaders in place to really drive the execution there and the scale of sales force in there.

[Melissa Franchi, Morgan Stanley]

Understood. And then on the new leadership being in place internationally, how is the leadership rebuild in EMEA progressing? I know you’re only a little over one quarter into it, but to what extent are those operational improvements really contributing to performance in the region? Thanks.

[Aaron Levie, Chief Executive Officer]

Yes. So it is, in fact, Aaron, the -- to you point the overall new leadership in Europe started at the beginning of August, so really only one quarter in. And as you know, these types of changes it takes a couple quarters to really get the operational rhythm improved. So we don’t expect to see major performance changes within FY19, but it's certainly something that is core to our plan going into FY20. And so, I think we’re happy about some of the early improvements that we’re seeing. But of course, given seasonality of our business model Q3, and Q4 performance in Europe is heavily influenced by what we were doing in the first half of the year where we didn’t have this leadership in place. So I think you will see that performance start to show up going into next year.

[Melissa Franchi, Morgan Stanley]

That’s very helpful. Thank you, both.

[Operator]

Your next question comes from Mark Murphy with JPMorgan. Your line is open.

[Mark Murphy, JPMorgan]

Yes, thank you and I will add my congrats. Aaron, interested to get your view on any emerging technologies out there such as the single magnetic recording, or SMR technology, so really anything else you’ve seen that could make some of the large-scale data storage a little more cost-efficient, something anything along the lines that would lead to a long-term improvement in the gross margin structure. Is that anything you’re experimenting with or seeing any opportunity there?

[Aaron Levie, Chief Executive Officer]

Yes. So, we are -- so our architecture overall is a bit of a hybrid architecture. We have our own data centers that we operate out of where we’re co-located in, and this is really where we’ve tuned our own infrastructure to be as efficient and effectively dense as possible from a storage standpoint. And every refresh that we do in terms of our -- what we call filers or effectively our file storage infrastructure, generally sees relatively significant performance gains just in terms of the efficiency of and the density of the hard drives that we're implementing. And then secondarily, we’ve public cloud partners that we work with for things like a burst capacity, additional redundant storage, so we can make sure we’ve two copies of every filer across different systems and then international data residency. And so we’re seeing performance gains and improvements on both of those fronts. And even if you look at some of the announcements over the past couple of quarters from some of our public cloud infrastructure partners, we think that will also lead to improvements overall. So as Dylan noted, we have a number of efforts that we're working on to drive more efficiency from our infrastructure. We do expect to see that over the medium and long run. Obviously, every time that we have a step function of new capacity investment and infrastructure investment, you do see that being somewhat dilutive to gross margin. But overall, we are really happy about the long-term trends of our infrastructure strategy and our architecture, including things like storage investments and improvements on the density of our filers.

[Mark Murphy, JPMorgan]

Okay, great. And, Dylan, just as a quick follow-up, I believe you have talked about the potential to accelerate top line growth in fiscal '20. So between, I guess, what you’re relaying today and between the solution selling evolution and some of the new product innovations and some of the better attach rate that you’ve seen there. Do you feel comfortable with getting over that, say it's a 20% or 21% growth bar next year, any preliminary thoughts or framework you can offer there?

[Dylan Smith, Chief Financial Officer]

Sure. So as discussed, we are definitely pleased with the progress that we're seeing in solution selling this year, particularly as it relates to a large deal growth and those add-on attach rates. And again, the year is shaping up more or less as we've been expecting. Definitely some puts and takes though, but pretty pleased overall. We do have strong visibility into Q4 and we are still on track to reaccelerate bookings this year, which will set us up nicely for next year. Of course, Q4 is our biggest quarter of the year, particularly this year as its more backend loaded. And that Q4 outcome is going to have a significant impact on what the FY20 growth rate ultimately is. But let's say that overall the view and kind of growth for the business and ability to reaccelerate that next year, still there and especially kind of coming off the Q4 outcome, we will provide a lot more specifics in detail on our Q4 call.

[Mark Murphy, JPMorgan]

Thank you very much.

[Operator]

Your next question comes from Brian Peterson with Raymond James. Your line is open.

[Brian Peterson, Raymond James]

Hi. Thank for taking the question and sorry about the background noise here. But I just wanted to see on the 4Q pipeline, is there anything that you guys can share in terms of customer level economics or revenue per seat that can give us some confidence that you guys are really seeing that in the pipeline, and some of solution selling that you’re talking about is really setup to close in the fourth quarter.

[Dylan Smith, Chief Financial Officer]

Yes. So, I can obviously share qualitatively, when we look at the trends within our again big deal segments 100-K, 500-K million dollar deal segments we are seeing beyond and by far record pipeline for the quarter. We think that will drive very strong year-over-year metrics in terms of those big deal targets, especially -- we are especially seeing strong traction within some of the most regulated industries and industries that are a classic large vendors on IT, so financial services, Pharma, and Life Sciences, the public sector and government space. So based on the types of industries were we’re seeing strong traction in and the pipeline of large deals that’s what’s giving us confidence and some strong improvement from a growth in those big deals within Q4.

[Brian Peterson, Raymond James]

Okay. Thanks a lot guys. I appreciate it.

[Operator]

Your next question comes from Michael Turrin with Deutsche Bank. Your line is open.

[Michael Turrin, Deutsche Bank.]

Good afternoon. Thanks. Guys you mentioned attach rates for add on products came in at more than 80% for larger deals. I’m just wondering are there any particular product areas to call out there in terms of contribution? Did any one particular product area outperform your own expectations from an add on perspective.

[Aaron Levie, Chief Executive Officer]

Yes. We actually -- we continue to see incredible traction on our Governance add-on. That’s very, very strong year-over-year growth and exceeded our initial expectations in particular, I sort of alluded this, but it will become I think something that we share a little bit more about next year. As customers have either done enterprise license agreements with us or we’ve been able to bundle multiple solutions together, Governance as they come up a core part of that add-on strategy. We are also seeing Platform in some key markets like financial services and will come from Governance in areas like public sector, Life Sciences and financial services, I think we’re seeing a nice mix of as customers really use us as a backend system for content management across their line of business applications across their customer facing applications, across their -- even the kind of core ERP systems, things like information Governance, platform capabilities or APIs and then in the future our automation and workflow functionality that we needed in Box will become very, very core to delivering on that. And so, we’re simultaneously seeing an increase in our add on product sales, while customers are beginning to really use us and see us as much more of a modern enterprise content management platform in the cloud for their business .

[Michael Turrin, Deutsche Bank.]

Thanks. That’s helpful. And then just one more. This is the fourth straight quarter we’ve seen, Fortune 500 penetration level come in at 69%, just the longest stretch we’ve seen that metric extend without moving higher. Is it possible you may be hitting a point at all for that group where the last 30% is more difficult to reach for some structural reason. Rescue for the quarter were, maybe we can expect to see that number continue to advance. Thanks.

[Dylan Smith, Chief Financial Officer]

Yes, great question. I think the -- overall, I would say that because of the land and expand business model that we have, we’ve seen some increased traction within going in the current accounts and driving add-on product sales and driving more deployment of Box. And in some cases taking a customer that was $100,000 customer and turning that into a major up-sell in the high six or seven or low seven figures. And so, so that has probably taken a bit of our attention within the Fortune 500, but nothing structurally I think is preventing us from the next 30%. There's obviously a realistic asymptote where some industries are not driving as much digital transformation spend and so there will be a percent that we probably can't get to, but overall when we look at areas like financial services, life sciences, large industrial global manufacturers, these are our markets where we’re doing incredibly well, and I think you will see continued net new logo growth within the Fortune 500, both in Q4 and beyond.

[Michael Turrin, Deutsche Bank.]

Appreciate the color. Thanks for taking the questions.

[Dylan Smith, Chief Financial Officer]

Yes.

[Operator]

Your next question comes from Rishi Jaluria with DA Davidson. Your line is open.

[Rishi Jaluria, D.A. Davidson]

Hi, guys. Thanks for taking my question. And I just see some good stabilization of the business. Just wanted to maybe potentially for both Aaron and Dylan. As I look at your sales and marketing expenses, even if I control for the benefit you’re getting from ASC606. Can you help me get some level of comfort that you’re maybe not under investing in sales and marketing given that you’re adapting your go-to-market strategy, more focus on solution selling, expanding internationally where there should be a higher level investment required and going after such a massive market opportunity? Can you just maybe help me get some comfort around that. And then I’ve got a follow-up for Dylan.

[Aaron Levie, Chief Executive Officer]

Sure. So I would say that in a lot of cases you’re -- we are actually driving improvements efficiencies not just in the overall kind of rep productivity that we’re seeing, but it also across other area of the business. We didn’t really highlighted on this call, but some of the trends we’ve talked about in the past or is even things like they ROI that we’re seeing on our demand gen programs and the continued leveraging for user marketing and just some of the efficiencies are driving across the board. So as it relates to how we think about those decisions in the right growth rate to grow our sales force, we do look at it definitely on as mentioned kind of cohort by cohort, region-by-region, segment by segment basis. And we are seeing steady improvements or market opportunities. We definitely invest against those opportunities, but again in certain areas, we’ve seen less of that and so sort of pullback on some of the growth there. And so, kind of where it balances out being in that mid to high teens rate and expect kind of something in the same ballpark range for next year. I think that's probably a good balance of driving that growth and profitability. But certainly as some of the underlying metrics and leading indicators of growth in market opportunity of all, we will continue to monitor that and make those decisions accordingly.

[Rishi Jaluria, D.A. Davidson]

Okay. Thanks. That’s helpful. And Dylan actually to go back to your commentary around your expectations for billings in Q4. Just directionally, should we see a similar delta between total calculated billings and short-term calculated billings like we’ve seen in Q3 and then other quarters this year and maybe when does that start to level off?

[Dylan Smith, Chief Financial Officer]

Yes, it should be more normalized in the fourth quarter versus third quarter. And then steady-state would expect it to be very normal, but again there's sort of a couple deltas that we sign in Q3 was where the function of that enhanced developer fee and then we also saw an unusually high level of multiyear prepays in the third quarter a year-ago. So we still see a bit of an impact from that enhanced developer fee in the fourth quarter, but overall would expect to see much more kind of consistent trends between short-term and long-term deferred revenue and billings growth.

[Rishi Jaluria, D.A. Davidson]

Right. Thank you.

[Operator]

There are no further questions at this time. I will now turn the call back over to Alice Lopatto.

[Alice Lopatto, Head, Investor Relations]

Thank you, everyone for joining us on our call today, and we look forward to speaking with you next quarter. This concludes today’s conference call. You may now disconnect.