PTC CEO: 2019 'A Disappointing Year' Due To Subscription Slump

'We feel that this has essentially become a transition year,” PTC CEO Jim Heppelmann says of the company's decision to downgrade its 2019 bookings forecast for the second quarter in a row due to a slump in subscription conversions.

PTC's shares plummeted as much as 19 percent Thursday morning after the industrial software vendor downgraded its 2019 bookings forecast for the second quarter in a row, contributing to what its CEO said has become a "disappointing year."

In its third-quarter earnings Wednesday, the Boston-based company cut guidance for its 2019 fiscal year, which ends in September, by $32 million, putting the company's full-year bookings forecast at $468 million on the high end. The company previously cut its full-year bookings guidance by $15 million in April due to challenges in hiring new sales representatives and a workforce realignment plan enacted earlier this year.

[Related: PTC's John Gray On Partner Growth For IoT, AR: 'The Channel Is On Fire']

The lower bookings forecast also prompted the company to push back its goal of reaching $850 million in free cash flow by one year, from 2023 to 2024.

Jim Heppelmann, PTC's CEO, blamed the downgrade on unexpected fallout from the vendor's transition from perpetual licenses to subscription for its software portfolio, which consists of products for computer-aided design, product life-cycle management, Internet of Things and augmented reality.

"We're talking about a disappointing year," Heppelmann said. Nonetheless, he noted, the company's recurring software revenue is forecast to grow 13 percent for 2019 while projecting operating margin to grow by 400 to 500 basis points and earnings per share by 21 percent.

While a majority of PTC's bookings now come from subscriptions, the company's overall software bookings "declined materially" in China and Russia through channel partners for the third quarter due to a steep decline in revenue from perpetual licenses that didn't convert to subscriptions, Heppelmann said.

Outside those regions, the CEO said, the channel was an adept performer with channel conversions. PTC's share of revenue coming from channel partners was 26 percent in the third quarter, down from 27 percent in the second quarter and from 30 percent in the first quarter.

The other major factor impacting the lower bookings guidance was large customers that decided to not convert to subscriptions and instead accepted costlier support renewal agreements that boosted growth for annual recurring revenue but did not have an impact on incremental bookings. Heppelmann noted that about half of PTC's large customers had already converted to the subscription model.

"A lot of times these big deals might be associated with a conversion [to subscription]," he said on PTC's third-quarter earnings call. But because PTC did not see as many conversions with this second wave of large customers, the company doesn't expect to see any deals larger than $5 million in the fourth quarter, which has historically been its strongest quarter, the CEO added.

Heppelmann said because these large customers that didn't convert to subscription already accepted higher support costs, they are more difficult to convert on the second attempt. As a result, the company is looking into how to create stronger incentives for customers to adopt the subscription model.

"We need to go back to that conversation and think about how to make the carrot sweeter and how to create another stick if need be," he said.

Heppelmann said PTC is no longer impacted by the sales hiring slump that caused sales to slow down earlier in the year. However, he said, the company's 2019 bookings forecast was impacted slightly by its workforce realignment plan that shifted resources to high-growth businesses like IoT from smaller units like application life-cycle management at the beginning of the year.

Despite the company's downgraded forecast, Heppelmann said PTC has a bright future, citing the double-digit growth in the company's annual recurring revenue, which he called "a better indicator of future growth in the subscription business." In the third quarter, annual recurring revenue grew 13 percent to $1.08 billion.

For instance, PTC's IoT business, which has become one of the vendor's main focuses, grew 24 percent to $38 million in revenue for the third quarter, allowing it to surpass CAD and product life-cycle management bookings for a second quarter in a row.

"We feel that this has essentially become a transition year," Heppelmann said. "And the fundamentals of the business are very strong, and we're going to continue to grow the [annual recurring revenue] and cash flow to very attractive levels."

PTC's third-quarter revenue was $322 million, which was a 2.3 percent year-over-year increase and $420,000 below Wall Street's expectations. The company's earnings per share were 36 cents on a non-GAAP basis, beating analyst estimates by 2 cents.