Unpacking Software Softness

On Macro, Buying Behavior, AI confusion and lowering guidance

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Hi friends,

This week I’ll be discussing some of the rationale underlying sharp declines around earnings season in a number of software companies such as Salesforce, UiPath and MongoDB. Now, while stock prices YTD are still positive, large declines in share price around earnings is definitely a signal that something didn’t line up with analyst consensus. So let’s discuss some of the key themes underlying this.

1/ The Macro-environment remains challenging

Companies continued to see headwinds from the macro, which doesn’t seem to be improving much and in fact may be even slightly getting worse based on the tail end of the quarter.

Okta noted the environment was “stable but challenging”.

The macro environment during Q1 was relatively consistent with what we experienced over the past few quarters. In short, it's stable but still challenging and most notably having an impact on our mix of new business versus upsells with existing customers.

Salesforce noted that it has not picked up as they had hoped, and was a bit worse in Q1 than what they saw in Q4.

We continue to see the measured buying behavior similar to what we experienced over the past 2 years and with the exception of Q4 where we saw stronger bookings. The momentum we saw in Q4 moderated in Q1

UiPath noted it’s a particularly tough environment on the mid-market side, and that it seemed to be slightly worse in the tail end of the quarter.

First, while we had a healthy start to the quarter, we saw the pace slow as we progressed through the second half of March and into April. This was primarily due to the impact of a challenging macroeconomic environment that we see persisting with mid-market customers

MongoDB saw less consumption usage across the board, indicative of the macro.

First, Atlas consumption growth was below our expectations in the first quarter. We saw less seasonal improvement than expected, and this dynamic was true with customers across tenure, industry, size and geography. We believe this indicates a more challenging macro environment than expected at the beginning of the year.

2/ Customer Caution and Reduced Software Spending

The fallout from the pandemic of companies digitizing perhaps faster than they were ready for, and indeed buying more software than the likely needed or were ready to absorb is still playing out. Coupled with the macro noted above, this has resulted in:

• software consolidation

• longer deal cycles

• deal volume and size compression

• high levels of budget scrutiny

• preference for shorter-term deals

Salesforce called out the rationalization underway among buyers:

[During the pandemic] we saw an incredible surge in the demand and buying environment and in the sales environment, especially during the pandemic. As we entered the post-pandemic reality, we saw companies who had acquired so much software in that time, look to actually rationalize it, ingest it, integrate it, install it, update it. I mean, it's just a massive amount of software that was put in.

And so for every enterprise software company kind of has adjusted during end of this post-pandemic environment. So when you look at all of these companies, especially as you saw the report in the last 30 days, they're all basically saying that same thing in different ways.

UiPath saw deals shrinking:

I think that around 6, 7 weeks ago, we were starting to see some pressure, especially on the large multiyear deals. Some of them got shrank. Some of them got postponed. We are not seeing the cause as being from a competitive standpoint. But it's -- I think it's a combination of factors. Macroeconomical environment is variable and customers have a bit more cautious, and they do more scrutiny into the deals.

MongoDB saw consumption slow down, and multiyear deals decline

We saw a lower-than-expected contribution from multiyear deals, and our a pipeline of multiyear deals for the rest of the year is currently lower given the macro environment. Consequently, we now expect non-Atlas revenue to be down mid-single digits for the year.

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3/ AI experimentation and confusion

While companies like the NVIDIA, the hyperscalers and others like ServiceNow are already seeing the tangible benefits of AI as it relates to driving revenue, many other SaaS players have yet to see it.

There definitely is buyer interest in experimenting with and using AI, but that may hurt some of these vendors in two ways:

• Reducing interest in new deals/expansion in software that is not directly AI related, leading to the above described buyer behavior

• Creating confusion among customers about whether the existing SaaS players have the AI or they need to seek out new vendors.

MongoDB noted they’re mostly seeing experimentation so far, and it may be hurting new business that isn’t AI related:

With regards to the second part of your question, is AI essentially crowding out new business, we definitely think that that's plausible. We definitely see development teams experimenting on AI projects. The technology is changing very, very quickly. But that being said, we don't see that as a reason for us to not hit our new business targets.

UiPath noted that while AI is a tailwind, it’s creating some confusion among customers since they’re worried UiPath is old tech

I want to start by saying that the AI and Gen AI is a tailwind for us. And we have invested significantly over the years and in particular, over last year in Gen AI…This being said, I think that AI is creating a little bit of confusion with our customers. And they are evaluating what kind of tasks are better suitable to automate the AI, whichs task are better with using our platform. But what I hear from many of our customers.

4/ Operational Challenges

I’ve written about 2023 as being the year of efficiency of big tech in the past. Most companies have acknowledged performance had slipped in the excesses of the COVID environment, and while a lot of changes have been made, there’s still some more improvements operationally to happen. Some of these may be leadership turnover and personnel changes, and some of it may be with operational execution and structure.

Some of the examples of these include the change of leadership at UiPath with founder Daniel Dimes stepping back in, and companies acknlowedging their sales execution wasn’t up to par due to a mix of issues with incentives, structure, etc

Salesforce noted the ongoing transformation in their GTM org:

As part of our ongoing transformation, we made some intentional changes in our go-to- market organization to drive long-term productivity and create better customer experiences, which also played a role in the softer bookings performance.

MongoDB noted a similar fine-tuning needed in the GTM org.

A new dynamic we saw in Q1 was the growth rate of more recently acquired workloads started to slow down earlier than expected. While the macro environment had an impact, we also believe this is partly due to the go-to-market changes we instituted last year. We have fine-tuned our process and incentive structures to make sure the field is focused on winning workloads with higher growth potential.

Second, our new business performance in Q1 wasn't up to our standards. Operationally, we got off to a slow start in the quarter.

5/ Weak Guidance Going Forward

All of the above factors are leading to weaker guidance across the board on revenue and earnings, which is obviously playing a major role in stock declines.

This is best visualized by a chart from

Jamin Ball

’s

Clouded Judgement

below, which shows that many SaaS names forward guidance came in lower than analyst consensus estimates as indicated by the red numbers in the Next Quarter Revenue.

Salesforce for example has dropped to below single digit growth, and based on its 2024 guidance, will have it’s first year with single digit growth in the company history.

Other’s like UiPath and MongoDB lowered it’s guidance driven by the buying behavior and macro environment they are seeing, and execution challenges they acknowledged

Our revised second quarter and fiscal 2025 guidance are not where we expect them to be. That being said, we don't expect the macro environment to improve materially in the near term. And we believe it is prudent to guide assuming variability we saw at the end of the first quarter will continue. It also takes into account the leadership transition, which can create some short-term disruption. As we look to the future, we are laser focused on enhancing our execution including improved sales linearity and deal scrutiny, driving higher efficiency across sales and the broader organization and driving a deeper and more execution orienting strategy for our growth products. -- UiPath

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