Nov 11, 2018
Executives
Staci Mortenson - Investor Relations, ICR David Barter - Chief Financial Officer Jason Blessing - Chief Executive Officer
Analysts
Jackson Ader - JP Morgan Chad Bennett - Craig Hallum Steve Wardell - Chardan Capital Markets Ryan MacDonald - Needham & Company Koji Ikeda - Oppenheimer Funds Brian Peterson - Raymond James Eugene Mannheimer - Dougherty & Company
Operator
Greetings, and welcome to Model N Fourth Quarter 2018 Earnings Call. At this time, all participants are in a listen-only mode.
A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded.
I would now like to turn the call over to your host, David Barter. Please go ahead.
David Barter
Good afternoon. Welcome to the earnings call for Model N's fourth quarter of fiscal year 2018, which ended on September 30, 2018.
This is David Barter. I am Model N's Chief Financial Officer, and with me on the call today is Jason Blessing, Model N's Chief Executive Officer.
Our press release was issued after close of market and is posted on our website where this call is being simultaneously webcast. The primary purpose of today's call is to provide you information regarding our fourth quarter and full fiscal year 2018 performance and our financial outlook for our first quarter and full fiscal year 2019.
Commentary made on this call may include forward-looking statements. These forward-looking statements are based on management's current views and expectations as of today and should not be relied upon as representing our views as of any subsequent date.
We disclaim any obligation to update any forward-looking statements or outlook. Actual results may differ materially.
Please refer to the Risk Factors in our most recent Form 10-K and 10-Qs filed with the SEC. 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 GAAP results. Reconciliations of the non-GAAP metrics to the nearest GAAP metric are included in the earnings release issued today, which is available on our website.
I encourage you to visit our Investor Relations website at investor.modeln.com to access our fourth quarter and full fiscal year 2018 press release, periodic SEC reports and the webcast replay of this call. Finally, unless otherwise stated, all financial comparisons in this call will be to our results for the comparable periods of our fourth quarter and full fiscal year 2017.
With that, let me turn the call over to Jason.
Jason Blessing
Thank you, David, and good afternoon. Thank you for joining us today.
Q4 was a strong quarter for us by all measures, powered by one of our best new sales quarters ever. Total revenue for Q4 was $36.7 million and adjusted EBITDA was $2.5 million.
Both of these metrics were well above the top-end of our guidance range and reflect the strength of our Cloud Subscription business and the continued focus on operational improvements at Model N. The company was also cash flow positive for fiscal year 2018, which is a new important milestone for us and something we expect to continue to improve upon going forward.
I am also pleased with the refined level of focus and execution of the company that will continue to drive enhanced growth and profitability for us in 2019. David and I will talk more about 2019 later on the call, but before doing so, I'd like to talk about the tremendous progress we made in 2018 and share some color commentary on Q4.
Model N is a very different company today than it was twelve months ago. In fact, over the last six months that I've been CEO, it's become clear to me that our entire company has accomplished a tremendous amount of work this year, work that will make us a better partner to our customers and drive shareholder value.
Here are some key highlights. The company entered fiscal year 2018 by putting the finishing touches on a successful Revitas integration.
We launched our SaaS transition program and started implementations with early adopters. The company aggressively pursued a plan to wrap up its license and implementation business and effectively completed this plan nearly a year ahead of schedule, which greatly simplifies our operations.
At Analyst Day in March, we presented a plan to grow like a SaaS company pursuing growth in both our customer base and through new logo acquisition and this has had a positive effect on our metrics this year and sets us up for future growth. And finally, we materially improved our profitability, cash flow and gross margins and set the company up to deliver meaningful expansion of these key metrics in the years to come.
I believe this hard work puts us on the path over the next few years to become a rule of 30 company, where our profitability plus growth will equal 30. This is a dramatic transformation and one that everyone at Model N is incredibly proud of.
Over the last 90 days, I have once again traveled extensively, visiting many of our customers and it remains clear to me that the cloud-based software we provide is absolutely mission-critical. As discussed last quarter, my view is this market is hitting a tipping point, where cloud is not only accepted, it's expected.
I continue to believe that revenue management will become a cloud-only market over the next three years like we've seen with every other enterprise software space. I have confidence in this, because I've heard it directly from our customers who have extensively evaluated our cloud offerings and feel they are ready to handle the demand.
Revenue management started off as a market segment dominated by home-grown custom line of business applications. As customer preferences shift towards SaaS consumption models, Model N is well-positioned to lead this market.
On our Q3 call, I talked about some of the sales tactics we were employing, namely Sandbox Pods and ramping deals to help our customers who are risk-averse and operate in a highly-regulated environment to start their cloud journey. In Q4, we started to see these thoughtful sales tactics pay-off in the form of momentum around our cloud offerings.
I'd like to highlight a few of the new engagements that kicked off in Q4 to help you understand the market trends and the velocity in our business. The first is Biogen, a $12 billion pioneer in the development and delivery of therapies for people living with neurological and neurodegenerative diseases.
Biogen is a long-standing Revitas customer and actually, the very first customer I met as Model N's new CEO. Biogen's IT team is very progressive and all of their IT projects must support a cloud-first approach to consuming technology.
After an extensive review of our technology, the costs and the benefits Biogen opted to move to our cloud platform. Customers want to transition to the cloud to capitalize on the economic benefits, but they also want to drive business value and are able to do that by taking advantage of the new products and features that we are building only on our cloud platform.
This project is also noteworthy and that it will be led by a Model N partner, which is important as we ramp up our ecosystem on our new cloud offerings. Next is Celgene, a $14 billion global biopharmaceutical company focused on the discovery, development and commercialization of products for the treatment of cancer and other severe immune inflammatory conditions.
Celgene actually started their cloud journey with us a few years ago by implementing our Global Price Management application in our cloud. Based on the positive experience they had with this project, they have now decided to go through a full SaaS transition and move all of their Model N applications to our cloud.
And finally, Novo Nordisk is a $17 billion global pharmaceutical company and a great customer that I just visited at the end of Q4. Novo chose to begin their SaaS transition in order to monetize their application infrastructure and take advantage of new product features that we built.
Novo is a noteworthy example as they are using a Sandbox Pod to start a full SaaS transition, and it's a deal where we have employed a revenue ramp to make it easier for the customer to say, yes to our cloud offerings. We expect the Novo implementation will take about 15 months and at go live; we will see the revenue ramp up significantly.
While the Novo ramp is deeper than what we've done with our customers, overall we continue to use ramp deals more than we originally thought when we set guidance at Analyst Day. From my experience, these ramp deal structures are a standard practice for enterprise customers and will help drive cloud adoption as they retire complex, expensive legacy infrastructure.
Ultimately, ramping deals are beneficial to both the customer and to Model N as it makes it easier to say yes to the cloud, which drives recurring revenue growth and strong gross margins over time. At our Analyst Day in addition to SaaS transition, we also talked about expanding customer relationships, as well as new logo acquisition as being important growth vectors for us.
I'd like to share a couple of examples that demonstrate our progress in these areas. After this, I'll conclude with some thoughts on fiscal year 2019.
Integra Life Sciences is a $1.5 billion medical technology company that designs and delivers a portfolio of solutions in orthopedics and for various surgical applications. We are thrilled to have them as a great Model N customer.
Like many companies in Life Sciences, Integra views M&A as a strategic growth lever and their cloud-centric IT approach helps support this business strategy. Integra's use of our Revenue Cloud is a great example of this as we continue to scale with them as their business grows.
Integra's recent acquisition of Codman Neurosurgery is now fully integrated and its North American operations are live on Revenue Cloud. Their final step will be onboarding their International business units over the next couple of months ago.
We are excited that our cloud offerings are helping enable a customer to pursue a business strategy of growth through acquisition, while also supporting Model N's own growth. Finally, Seagate Technology is a well-known $11 billion global company, known for their leading storage solutions that recently expanded their Model N investment to include our Channel Data Management products.
I personally met with Seagate's CIO, and this deal supports his strategy of simplifying his IT portfolio to include a smaller amount of strategic partners, who provide cloud solutions. As we close out 2018, let me say one final time, I am very proud of my team's performance last year.
Also, after spending a significant amount of time in the field, I feel confident about the strategic nature of our solutions and our ability to serve the needs of our current and future customers in this very dynamic market. I have now been at the company for six months, and I have spent a lot of time with customers, analysts, investors and our employees learning about Model N.
I have also conducted an unemotional and analytical review of our internal operations, as well as we did in 2018, I think, we can do even better in 2019 and beyond with improved focus on what products we build and how we pursue our market opportunity. Given this, I'd now like to outline a series of strategic changes we've made at the company as we exited 2018 that I believe will bring more focus to the business and drive profitable growth over time.
First, we strongly believe that Model N is a vertical software company with incredible businesses in Life Sciences and High Tech manufacturing. In 2019, we have made changes to our go-to-market approach to align all sales and marketing investments around these two strategic verticals, which combined represent over 95% of our pipeline.
This also implies that we will not deploy any sales and marketing investments in emerging verticals in general manufacturing in 2019. This realignment is simply about focusing our precious sales and marketing spend on the opportunities that have the highest probability to result in profitable business and happy customers for Model N.
Second, in sales, we are bringing much more focus to how we deploy our resources to better capitalize on our growth levers of expanding existing customer relationships, SaaS transitions and new logo acquisitions. Last year, we asked sales professionals to hunt and farm simultaneously and given the complex nature of what we sell and who we sell it to, I don't believe this is the optimal approach.
In fact, the data suggests that new logo acquisition suffered last year due to this lack of focus. So, in 2019, we will have dedicated teams that will focus on cultivating trust and expanding customer relationships, and we will also have a team that will be focused on hunting new logos.
We have also created a small team of SaaS experts to assist account managers with SaaS transitions at our largest customers. This group is designed to consolidate the best practices we've learned from our early projects and help us more efficiently close more of these large deals in the future.
I also want to emphasize that these changes do not require net new investment. It is simply about more efficiently deploying our existing team and focusing them on the areas they are best suited for success.
The changes that we are making in our go to market approach are also tightly coupled with how we are aligning our resources in our product organization. The product team remains focused on the themes, that Neeraj Gokhale, our Chief Product Officer, presented at Analyst Day, Cloud Optimized Products, The Intelligent Enterprise and Digital Ecosystems.
I believe that work in these areas will not only deepen our competitive mode in our key verticals, but also allow us to continue to add value to our customers with the mission-critical solution we provide. Let me conclude by saying that we entered fiscal year 2019 more focused than we have ever been in the company's history.
We are also in a strong position as we continue to transition Model N to a SaaS company. I am very confident in my team's ability to execute a more focused plan this year and continue to build a company that delivers consistent revenue growth and generates improving levels of profit and cash.
With that, I will turn the call over to David. David?
David Barter
Thank you, Jason. Fiscal year 2018 ended on a strong note.
The company executed well in Q4 and we have a healthy set of financials supporting our strategy and go-to-market plans. During fiscal year 2018, we demonstrated that our business can scale and we are now positioned to expand our margins at a substantial rate over time to deliver meaningful levels of profit and cash flow.
Equally important, the company concluded its on-premise go-to-market activity and as we presented at Analyst Day, we have started growing like a SaaS company, using the land-and-expand playbook. I'd like to share some highlights on our Q4 and full fiscal year 2018 results, then I will discuss our guidance for fiscal year 2019, including the expected impact from the adoption of ASC 606, which we will adopt using the modified retrospective method.
In the fourth quarter, total revenues were $36.7 million, compared to $35.6 million in the year ago period, and it represents a healthy beat above our Q4 guidance range of $35.2 million to $35.7 million. Our SaaS and maintenance revenues, which is the primary way we measure the business, were $35 million.
Included in this is approximately $25.5 million of recurring revenue, which represents approximately 2% sequential growth or 10% on an annualized basis. Cloud Subscription revenues were $13.3 million for the quarter, which represents approximately 3% sequential growth or 13% growth on an annualized basis.
We believe this represents good progress in growing this part of our business. Professional Services revenues related to the implementation of SaaS subscriptions were $9.5 million or 27% of total SaaS and maintenance revenues.
This represents meaningful progress as the company drives down the cost in time of our implementations and further leverages partners. License and implementation revenues were $1.7 million, compared with $6 million in the prior year period.
This was in line with our expectations. The FY 2019 backlog is now down to approximately $1 million.
This will be burned off over the first half of fiscal 2019. Before I move on, I want to remind you that my commentary will be focused on non-GAAP results, which excludes the impact of stock-based compensation and the amortization of intangible assets.
A reconciliation of non-GAAP to GAAP results is provided with our earnings press release issued earlier today. Non-GAAP gross profit for the fourth quarter was $23 million, compared to $22.7 million in the fourth quarter of last year.
Overall, non-GAAP gross margin in the quarter was 63%, compared to 61% in Q4 of last year. We continue to invest this quarter and we made healthy progress in our cloud optimization initiative.
Non-GAAP operating expense was $21 million in Q4, compared to $22.5 million in Q4 of last year and $21.9 million in the prior quarter. Non-GAAP operating profit for the period was $2 million, compared to a profit of $144,000 in Q4 of last year.
This exceeds our non-GAAP operating profit guidance of $0.5 million to $1.0 million and reflects our focus on scaling the business. Non-GAAP net income in the fourth quarter was $1.8 million, compared to a net loss of $1.7 million in the year ago period.
We produced a non-GAAP net income per share of $0.06, based on 31.3 million shares, compared to a net loss per share of $0.06 based on 29.2 million shares in the fourth quarter of last year. This was also ahead of our guidance of a non-GAAP net loss per share of $0.01 to $0.03 per share.
Adjusted EBITDA for the fourth quarter was positive $2.5 million, which is well ahead of our guidance of $1.2 million to $1.7 million and a meaningful improvement, compared to $1 million in the year ago period. At the end of the fourth quarter, total deferred revenue was $52.6 million, which was in line with our expectations and led by healthy SaaS growth.
We ended the year with $56.7 million of cash and cash equivalents, compared with $57.6 million at the end of the third quarter. During the quarter, we reduced our debt by over $5 million.
Free cash flow was $3.1 million in Q4 and $2.3 million for the fiscal year, which is a new milestone for us as a public company. It is also important to note that the last day of our fiscal year was a Sunday, which led to us collecting approximately $4.5 million in the first part of Q1.
Let me briefly touch on the full fiscal year 2018 results. Total GAAP revenues grew to $154.6 million and SaaS and maintenance revenues increased to $135.9 million.
Total recurring revenues for fiscal year 2018 were $98.3 million. Subscription revenues were $51.2 million, which represents 38% of SaaS and maintenance revenues.
The legacy maintenance and managed services revenues were $47.1 million or 35% of SaaS and maintenance revenues. Customer retention remains high and we are pleased with the strength of our relationships within Life Sciences and High Tech manufacturing.
On a full year basis, we also showed meaningful improvement in the key profitability measures. Non-GAAP gross margin for the year was 61%, compared to 58% in the prior year.
Non-GAAP income from operations for fiscal 2018 was $8.7 million, compared to an operating loss of $11.8 million in fiscal 2017. Non-GAAP net income for fiscal year 2018 was $1.3 million, compared to a loss of $16.9 million in fiscal 2017.
Non-GAAP net income per share for fiscal 2018 was $0.04, compared to a net loss per share of $0.59 in the prior year. Adjusted EBITDA for fiscal year 2018 was a profit of $11.5 million, compared to a loss of $8.3 million in fiscal year 2017.
Annual recurring revenue or ARR, at September 30 was $57.5 million. While ramps will delay some of the recognition of the ARR.
This represents healthy sales activity and customer demand and nicely compares to the $48 million at the end of fiscal year 2017. This represents ARR growth of nearly 20%, which is approximately three times the growth of the Life Sciences market.
Before I provide guidance for fiscal year 2019 and Q1, I would like to provide perspective on the impact of ASC 606 and then, how we are thinking about the business as we exclusively focus on SaaS. It is important to note that we will be changing the geography of the P&L for fiscal 2019, as I shared six months ago.
We will now be reporting recurring Subscription revenues and then the Professional Services revenues related to SaaS implementations will be broken out as a separate line item. This new presentation of our financial results will be used in February when we publish our first quarter results.
I have published an Investor Supplemental under the IR section of our website, and I will provide some additional details on our guidance to help you update your models. Our expectation is the adoption of ASC 606 will result in a headwind to total fiscal year 2019 revenues of approximately $7.1 million due to the cumulative effect adjustment.
Of this, the impact to recurring subscription revenues is expected to be approximately $3.2 million, which is in line with the range I shared last March. The impact to Professional Services revenues is expected to be $3.9 million.
Outside of ASC 606, we expect to see two changes in our Professional Services revenues. One, our on-premise services revenues will decline as I have been highlighting for the past several quarters.
This represents a headwind of approximately $18 million. We also anticipate additional improvements in our SaaS implementation, based on the deal activity we saw in the second half of the year.
We expect Professional Services revenues to be in the range of 25% to 28% of total revenues, which is a more favorable mix than our original expectations. Since we are updating the P&L geography, I'd like to share some additional perspective on the business and some extra detail in order to make it easy to update your models.
Excluding the impact of 606, total recurring revenues and the implied growth rate reflect the pace of growth in Q4. I expect Cloud Subscription revenues to continue to grow at a healthy rate, while the legacy maintenance revenues will range from flat to slightly down.
The guidance also reflects the fact that a business model transition is never a straight path and we have taken into consideration some of the deal structures used in fiscal year 2018. Total Professional Services revenues reflect our focus on cost, implementation time and leveraging our partners and therefore we expect revenues to be roughly flat across the year.
Turning to our margins and expenses for fiscal year 2019, we expect the gross margin for recurring subscriptions will be approximately 70% and the gross margin for Professional Services will hover around 25%. Operating expense, as a percentage of revenue for sales and marketing and research and development, will be in line with fiscal year 2018, while G&A as a percentage of revenue will decline several points.
In terms of overall profitability and free cash flow, we believe the business is set up for further expansion. We expect free cash flow to increase over fiscal year 2018, reflecting the leverage we built over the last year.
The adjusted EBITDA will also increase, but the adoption of ASC 606 creates a headwind of approximately $2.2 million for the fiscal year, which is reflective of the net impact of 606 on our recurring subscription revenues and then the benefit we realized from this 606 requirement to capitalize our sales commissions. Moving on, let me outline our guidance for full fiscal year 2019 and the first quarter.
This guidance is based on ASC 606. For full fiscal year 2019, we expect total GAAP revenues to range from $138 million to $142 million.
And within this, we expect total GAAP subscription revenues to range from $100 million to $105 million. As I just mentioned, total GAAP revenues including impact of approximately $7.1 million, of which $3.2 million is related to Subscription revenues from the cumulative effect adjustment.
We expect non-GAAP income from operations in the range of $7 million to $11 million and non-GAAP income per share in the range of $0.05 to $0.17 based on a weighted average share count of 32.8 million shares. Adjusted EBITDA is expected to be in the range of $8.5 million to $12.5 million, which includes the $2.2 million headwind from the adoption of ASC 606.
We expect free cash flow to be in the range of $8 million to $10 million, a meaningful improvement from fiscal year 2018. For the first quarter ending December 31, 2018, we expect total revenues to be in a range of $34 million to $34.4 million and within this, we expect total GAAP subscription revenues to range from $24.2 million to $24.6 million.
Total Subscription revenues include an impact of $1.1 million from the cumulative effect adjustment and then we believe our subscription revenues will resume its natural quarterly growth from there. Non-GAAP income from operations is expected to be in the range of $1.5 million to $1.9 million.
This would lead to a range of a non-GAAP net loss per share of $0.01 to a non-GAAP net income per share of $0.01, based on a weighted average share count of 31.9 million shares. Adjusted EBITDA is expected to be in the range of $2 million to $2.4 million.
We are entering fiscal 2019 from a position of strength. Our cash flow and profitability reflect the benefits of scale and clearly, there is more upside ahead.
We have healthy demand for our products and we've reached a tipping point in Life Sciences and High Tech manufacturing, where cloud has become the preferred way to consume software. All of this, we believe, leads to a very bright future for Model N.
With that, let me turn the call over to the operator for questions.
Operator
[Operator Instructions] Our first question comes from the line of Jackson Ader with JPMorgan. Please proceed with your question.
Jackson Ader
Great. Thanks for taking my question, guys.
First one is around the SaaS ARR metric. It sounds like growth was a little bit below the 25% target that you guys talked about at the beginning of the year.
Can you maybe just talk through some of the reasons why that ended up below the growth targets? And what the sales force alignment changes may have either impacted?
Or what you expect them to impact next year's growth?
David Barter
Certainly. And Jackson, thanks so much for the question.
First off, I think the – as we went back to our call in August, I think it was one where when we looked at the pipeline, and I think we've always been thoughtful around how we prosecute deals. We didn't – we felt like we are already growing at a healthy rate as measured by the 20% that we shared on the call.
But I think it’s one where we want to be very thoughtful around how we prosecute deals. I think it's one where when you prosecute deals, these are deals that ultimately live for a long time.
And so I think we've built up a very healthy pipeline. I think it was, again, going back to August, it was just really a function more of timing and exactly when the deals land as opposed to if they land.
And so, I think it's one where – this is one where, as we watch the business unfold, I think we are very encouraged by what we see in the way of the pipeline and ultimately, how we are engaging and working with customers.
Jason Blessing
Yes. Jackson, this is Jason.
I'll add onto to what David said. I think, kind of amplifying what David said, as the year went on and as I arrived on the scene and learned more about how we were selling, I think, we made aggressive changes in how we were selling in the second half of the year to sell more like a SaaS company.
And a couple of the tactics that we got more comfortable with as a company were land-and-expand deals. So being willing to take a smaller deal off the table, get a customer started and build a road map and a project over time where we expand.
And the other is, again, this concept we talked about on our last couple calls of deal ramping and ramping the cost – a customer’s subscription cost, commensurate with their usage as the product – excuse me, as the project progresses. And, one of the things I've pointed to in just about every time a microphone has been put in front of me is, reminding people that this market that we sell into is very large.
But our buyers also, particularly in Life Sciences, have very onerous regulatory requirements around them and the penalties for non-compliance are pretty large. So, they are very thoughtful about how they meet or change into their environments.
And again, some of these deal tactics or sales tactics that we've been employing do have a short-term effect of muting revenue as the projects kickoff, but ramp over time. And then specifically to your question about changes in the sales force, did that affect anything.
I expect other people have this question, as well. So I'll just – I'll take it of the top.
We've been asked this question a lot. I have communicated to all of our constituents that we would be very thoughtful about any and all changes that we make to the sales team.
And the changes that I outlined in my prepared remarks were really implemented in the second half of September, going into October, as we felt like we had our year sewn up. And in many cases, I would describe these changes as just about further clarifying territories and missions of existing salespeople and aligning them with their strengths.
And I feel very strong about our farming capabilities, particularly in Life Sciences and High Tech, which by the way, we count on significantly for our bookings targets and our growth. I would also say, we have some fairly good hunters on-board, particularly in Life Sciences, or excuse me, in High Tech manufacturing.
And, if there was any area for opportunity, I would say it's improving our hunting skills on the Life Sciences side, but we have factored that into – as again, as I said in my prepared remarks, our expense structure, as well as our plan, as well as the guidance we are issuing today.
Jackson Ader
Okay. And then, if I can just follow-up quickly on that last kind of train of thought, so the verticals, now I am going to focus on those strategic two and less so on manufacturing and just general vertical.
So, in the manufacturing business that you currently have, how you are going to make sure that maybe you don't see some -- I don't know, less than satisfied customers feel like, oh, they are shifting focus away from me and make sure you keep your retention high even in the non-core verticals?
Jason Blessing
Yes. It's a great question, as well, Jackson.
So keep in mind, this is a tiny amount of our overall revenue. We've talked in the past about roughly 75% to 80% of our total revenue comes from Life Sciences and honesty, the balance comes from High Tech manufacturing.
So, the small amount of customers we have outside of these core verticals is in fact very small. We have communicated to those customers that we are committed to continuing to support them in the products that they are on, and have plan for sustaining engineering in those areas going forward.
Jackson Ader
Okay. Thank you.
Jason Blessing
Yes, thanks, Jackson.
Operator
Our next question comes from the line of Chad Bennett with Craig-Hallum. Please proceed with your question.
Chad Bennett
Great. Thanks for taking my question.
I guess, the first question would be, maybe for David. How - considering our expectations previously on the 606 impact this year, that I think was roughly $4 million to $5 million, how did that change?
And what happened?
David Barter
Yes, I think, I mean, the core part of the 606 going back in time that we really focused on was really around the subscription and specifically some of those term licenses and other elements that we have picked up from Revitas. And so, I think we had that really nail down pat.
There was one particular engagement, a very special project that was obviously signed before I joined the – excuse me – joined the company. And that one ultimately did get caught in the cume catch, and it just happens to be with a larger company, they are on-prem, they are in the cloud and there are some unique elements to that arrangement, Chad.
And so, that is ultimately from a professional services' perspective that did get caught up. But I think that it's one as you work with any auditor.
Again, we are very focused on what we think of as the life blood of the company, which is the software. And that's what we really have been telegraphing all along in terms of really our focus around building, again, a great software company, but also keeping you up-to-date in terms of how the accounting would impact the software.
But it was a – the Professional Services was a bit of a special arrangement.
Chad Bennett
Okay. And then, maybe – and I think the prior question might have touched on this, but I want to make sure we kind of nail it down.
Jason, you spoke about the revenue ramp deals and maybe the expectations, at least, on the initial year or maybe even longer than that, maybe being a little bit too high on those deals from an expectation standpoint what you guys thought previously. So, I don't know if you addressed that in the prior question.
And then, I guess, the question from me would be, after that initial period, how meaningful and what are the triggering mechanisms to get that revenue to escalate meaningfully from that first phase?
Jason Blessing
Yes. So good question, Chad.
So, I think probably the most important thing to point out here is that, when we issued guidance at the beginning of last year, when we held our Analyst Day, we really haven't contemplated ramps as a way to get our risk-averse customers over the line and get them involved and engaged with the SaaS transition. So, this is – again, as I have said on past calls and firmly believe this, this tactic of ramping contracts is very common in SaaS.
It's a lever that we have, because we use utility compute from AWS on the back-end of our solutions. And so, again, I think it's something that hadn't been contemplated, hadn't been used.
And I think bringing a fresh set of eyes to the company really kind of brought some of this new thinking. And as I said, we really started to use these in Q3 and then, I gave some very specific examples of how deal ramps, as well as things like Sandbox Pods and so forth really started to materially inflict cloud projects and the activity in this area.
I will say this too, ramps aren't used on every project and ramps really are – when employed are commensurate to the length of the project and the size of the contract and so, our contracts range anywhere from one to three years. And so, we do see this effect in the revenue catching up over that period.
Chad Bennett
So, I guess, what I am trying to get at, has our thinking on $1 of maintenance transitioning to $4 of SaaS revenue over - let's call it, three years of contract. Has that changed?
Jason Blessing
I actually view that as a different question than ramps. But I would – I will answer the direct question you asked.
I think, as we've previously stated, we think that the SaaS transition in our customer base is going to happen over three to five years, as we see our pipeline building, the number of projects building. It very much supports that.
The momentum supports that and I think, we've guided in the past that somewhere in the – it could be as good as in the 4 x range. I think, the reality is, it's probably somewhere in the 2.5 to 3.5 range and our early projects and the pricing that we have had to do, certainly, is well within that range and I think our economics just to get better over time as we get through some of these early adopters.
Chad Bennett
Okay, thanks.
David Barter
And so, Chad, when we say that 2.5 to 3.5, that mirrors what we shared last March in terms of getting the premium of the 3 x and then the maintenance would go on top. And so that, I guess, what we are saying is that that aligns with what we shared six months ago.
Go ahead, thank you very much.
Operator
Our next question comes from the line of Steve Wardell with Chardan Capital Markets. Please proceed with your question.
Steven Wardell
Hey guys. My question is, can you just tell us about what you've been seeing in the buying preferences of your buyers?
So, if you were to divide your markets into a large Life Science and mid-size Life Science and High Tech or however, you are looking at them? What kinds of changing buyer preferences are you seeing and where is demand strongest?
And for what kinds of products?
Jason Blessing
Yes, hi, Steve, this is Jason. So, kind of boiling it down to why do people buy.
I honestly think there is some commonalities between our two markets that we really go after aggressively. And they really fall into two buckets – one of two buckets or potentially both.
The first is, our customers, particularly in Life Sciences, operate in very complex regulatory environments. They have very strict controls and around systems and audit history and the penalties for failure to comply are incredibly stiff, particularly in Life Sciences.
And, I think, the awareness around this is only going to increase with some of the messaging that's coming out of Washington about regulation around pharmaceutical industry. And then the second bucket of buyers are customers that really view digital transformation as an enabler to their business and there is a range of flavors that we see around this one.
It could be everything from getting into new lines of business or geographies. Those are both fairly common things.
This whole notion of more agile IP infrastructure to support businesses that are expanding and contracting through M&A continues to be a very important thing. And then, as we've talked about in the past, this is a fairly new space right for automation and so, we continue to see customers that are simply pursuing efficiency gains in their gross-to-net sales process.
But I think, the important thing to takeaway here is, all of these objectives that customers are trying to achieve when they come into the market, in many cases, both have a very strong compliance spend to them and also have a very hard ROI attached to them, as well.
Steven Wardell
Great, thank you.
Jason Blessing
Thank you, Steve.
David Barter
Thank you, Steve.
Operator
Our next question comes from the line of Ryan MacDonald with Needham & Company. Please proceed with your question.
Ryan MacDonald
Hey, good afternoon, gentlemen. I guess, just a question on – again, on the changes you are strategically going into 2019.
You mentioned, obviously, there is a narrowed focus on Life Sciences and High Tech, and there is some shifts in territories there. Any – are there any shifts that we should expect in terms of, I guess, how sales people are being comped heading into 2019?
Jason Blessing
Nothing material. I would say, we've been working over the last couple of years to modernize our sales plans and make them more contemporary and reflective of a SaaS environment.
And so, if you were to pull a copy of our plan, you would see nice accelerators for getting over 100%. You would see incentives for fast-starts getting to a disproportionate amount of your plan in Q1 and by the middle part of the year.
And really the vast majority of the sales reps variable compensation being tied to ARR generation. We've really minimized or in many cases, completely eliminated paying people on services.
Reps have a small renewal component as well to guard against churn. But, I would say, they are fairly standard, contemporary SaaS compensation plans.
Ryan MacDonald
Got it. And then, I guess, just a quick follow-up.
You talked about, obviously, last quarter a lot of the Sandbox Pods and some initiatives there. I apologize if I missed it on the call.
But, can you give us an update on any progress in terms of additional Sandbox Pod implementations? Or maybe just some color on how those previous implementations are progressing for these Life Sciences customers?
Jason Blessing
Yes. So, I continue to believe that when history is written about Model N's transformation from an on-premise company to a SaaS company and how we did it with our overly conservative customer base, I think history is going to show that Sandbox Pods really helped aid our customers in getting comfortable and ready for their transition to the cloud.
I think the most notable update that I would share on Sandbox Pods is that, Novo Nordisk is a very large project that kicked off in Q4. And that frankly started with a conservative risk-averse customer that wanted to do some prototyping.
And they started out in a Sandbox Pod, and now have switched to a full cloud transition. And I just – I continue to believe that that tactic and the use of Sandbox Pods is going to shake lose more of these large customers.
Operator
Our next question comes from the line of Koji Ikeda with Oppenheimer Funds. Please proceed with your question.
Koji Ikeda
Great. Thanks for taking my question.
I wanted to dig into that SaaS ARR metric a little bit more here. And just knowing that it came in at $57.5 million, 20% growth, and thinking about the ramping and the Sandbox Pods that I believe you began really starting to sell in the third quarter of this year.
Is it safe to assume – and I understand how the ramping in the Sandbox Pods work. But is it safe to assume that if you hadn't started using those ramping contracts and Sandbox Pods, the SaaS ARR would have came in a little bit, even below the $57.5 million?
David Barter
I'd say as you look back in time in terms of deals that get across the line, it's hard to judge. I think, Koji, I think, maybe the most important part that we wanted to land is, when we started really thinking and acting like a SaaS company, I think we started phasing in sandbox pods and I think we started phasing in ramps.
And I think a lot of the change from acting like an on-prem company to acting like a SaaS company really has been phased in over this year. I think the Sandbox Pods, I think and I agree with Jason, the ramping, and doing those things that make it say – easy to say yes, certainly helped us as we progress through the year.
And there are also the things that ultimately, kind of as you wrap your head around the corner of September 30th and take us into next year, we feel like it's putting us in the right spot to prosecute the right deals with our customers. And so, I don't think we try and fixate too much as we said in August on exactly where we are at, at one particular date.
But more as we serve two great vertical markets just making sure that we are ultimately competing in the right way and being very customer-friendly through that journey.
Koji Ikeda
Okay, great. Thank you for that.
And just one question on the Sandbox Pods, and I think just building on Ryan's question – the Ryan's previous question. I think in a previous earnings call, you’ve mentioned about a dozen Sandbox Pods.
I mean, how many do you have now? Is Novo the only one that you added?
So, is 13 the right number to think about Sandbox Pods? And, just digging a little bit further, does each pod represents one customer?
Or can customers have multiple pods? Just trying to really understand what that metric means.
David Barter
Yes. No, it's a great question.
So right now, we are – we finished the year in the neighborhood of about a dozen. A pod is linked to a customer.
I guess, in theory, it's possible, because our customers do maintain a number of non-production environments. So that customer could have multiple pods in the future.
But right now, it's a one-to-one relationship. And so, again, it was something that we've rolled out in the latter part of the year, as we were really – again, making it very easy just like the work with Novo to make it easy to say yes, and to begin their project.
Koji Ikeda
Got it. Thanks, Dave.
And just one last question from me. I am looking at the investor slides that have up on your website and the last slide, Slide number 6, right in the middle, it looks like there is a $4 million impact due to lower mix of a SaaS Professional Service and ramp deal structures.
And I know this is really getting into the weeds here. But I just want to be absolutely sure I understand the mechanics here for guide.
So, for the lower mix of SaaS Professional Services, is that due to some deal push-outs? Or is that a headwind?
Is that the right way to think about that? And then, on the ramp deal structures, is that just the nature of how ramp deals work or is that lower-than expected ramp deals?
Just any sort of color there would be helpful.
David Barter
No, absolutely. I mean, I think we - and I think Jason alluded to this earlier.
When you think about Professional Services and success, I think, when you are on in on-premise company, you tend to have a lot of Professional Services. One of the areas we focused, as I mentioned in my remarks, is really focusing on time, on cost and leveraging partners.
And so, last year, the Professional Services mix of our SaaS business was about 28%. What we are seeing, as we – as Jason mentioned with some of his deal highlights, is that we are actually seeing leverage from partners.
We are seeing smaller implementation footprints. Overall, we are seeing productivity and it’s something that we had shared in March is that, we actually thought Professional Services related to SaaS.
It would be kind of a 70:30 mix between in the professional services and the recurring revenue. And we feel like we are heading in the right direction of actually again, having a narrow implementation footprint, that's lower cost and maybe a little bit faster for our customers.
So that's what that represents. The ramp deal structures really represent the fact that we are not earning as much in year one.
And so, in line with our Novo-style transaction and a couple of others, we will earn a little bit. We'll earn actually a lot less in year one.
And as a customer goes live or they hit another milestone, we will have a ramp up. But there will be very good gross margins with utility computing as mentioned in the guide, we are at 70% recurring revenue margins, which is higher than where we thought we would be in March.
But the revenue will be a little bit lower, Koji. And then, we will, obviously, grow into the deal in year two and year three.
Koji Ikeda
Got it. Super helpful.
Thank you very much.
David Barter
Thanks, Koji.
Jason Blessing
Okay, great.
Operator
[Operator Instructions] Our next question comes from the line of Brian Peterson with Raymond James. Please proceed with your question.
Brian Peterson
Hi, thanks for taking the question. So, maybe this is for David.
I just want to follow-up on that last point. So just understanding how the contracts will look for customers with the new kind of escalators.
Are there actually contractual provisions that say, that over a X amount of a period, there will be ramp? Or is that’s something that's going to be at the customers' discretion or is it just dependent on deals?
I just want to make sure we understand that component.
David Barter
Totally, no. It's very explicitly called out in the contract as to how the ramp works and obviously, we have a couple of different ramps that we work with, because, again, what we do is really, again, make it easy for people to say yes.
And again, we really set up our cost structure in line with the improved recurring revenue gross margins that we feel like we can do this effectively. So, it's very explicit.
That's how it works.
Brian Peterson
Just and I am by no means an ASC 606 expert, but I have thought that if you have kind of ramps provisions that they would sort of average and you would get the average rate over the life of the contract. Is there a different component of that?
If it's sort of usage based? Just – I don't know if that's two in the weeds, but just trying to make sure we just understand that?
David Barter
No, this is my second 606 adoption. So, I am happy to talk about 606.
The short answer is you are right, that's one way to ramp. The other one is to ramp based on what the customer is receiving.
And so, there is a way actually, to scale up the economics, which is exactly how the Novo contract works where we collect one, I'll call it, 606 revenue stream in year one. As they go live, we collect a much more material revenue stream.
And so, the short answer is, yes, under 606, you can still have those escalating amounts from a GAAP basis.
Brian Peterson
Got it. And maybe one follow-up from me, I just remember, kind of at Rainmaker, post Revitas, the ease of messaging was kind of best of both and I think you guys have been pretty clear with customers that you are going to support those products.
And I am just curious, given the significant go-to-market changes that we've seen, has there been any thought to potentially eliminating support for some of the legacy products to kind of migrate to the new portfolio? Any comments on that?
Jason Blessing
Yes, I'll take that. This is Jason.
So, we have committed to continuing to support customers on both products. In parallel, we have a project going on right now that really looks at the best of both product lines from an architecture and a functionality perspective and are really building a roadmap for how the platform and the products evolve, potentially converge, run in parallel over the next couple of years.
But back to the heart of your original question, we've committed to continuing to support customers. We do have end-of-life provisions in our contracts to sunset certain releases and in many cases that, I guess, for lack of a better description, piece that we have in the contract is, one of the things that we are using as a catalyst to have these discussions around starting a SaaS transition.
Brian Peterson
Got it. Thanks, Jason.
Jason Blessing
Yes, thanks.
Operator
Our final question comes from the line of Gene Mannheimer with Dougherty & Company. Please proceed with your question.
Eugene Mannheimer
Hey, thanks for fitting me in here. I am not sure if this was asked, but what percent of the time does the Sandbox implementation evolve into a full SaaS deployment?
And what's the step-up in revenue look like when that triggers? And on that note, do you have a sense?
Or can you share with us how many Sandbox Pods you might be targeting through fiscal 2019? Thanks.
Jason Blessing
Yes. Thanks for the question, Gene.
So we haven't – we've disclosed the number of Sandbox Pods and we will continue to give commentary there. We have not seen a Sandbox Pod get canceled in a project not materialize.
Again, I think the best way to think about the Sandbox Pods is, they are the beginning of a SaaS transition there. They are the seed that's being planted with the customer to move their mission-critical systems from on-premise to the cloud.
And as I said in the previous – the previous – in response to the previous question, this is somewhat of an inevitability. These customers are eventually going to have to move and Sandbox Pods are a very simple and elegant place to start.
Eugene Mannheimer
All right. Thank you.
Jason Blessing
Okay, thanks, Gene.
Operator
Ladies and gentlemen, we have reached the end of our question-and-answer session. And I would like to turn the call back over to David Barter for closing remarks.
David Barter
Thanks all for joining us. We greatly appreciate it.
No further remarks.
Operator
This does concludes today's teleconference. You may now disconnect your lines at this time.
Thank you for your participation.