Couchbase, Inc. (NASDAQ:BASE) Q3 2023 Earnings Conference Call December 6, 2022 8:30 AM ET
Company Participants
Edward Parker – Head of Investor Relations
Matt Cain – President and CEO
Greg Henry – CFO
Conference Call Participants
Jason Ader – William Blair
Raimo Lenschow – Barclays
Rob Oliver – Baird
Brad Reback – Stifel
Kash Rangan – Goldman Sachs
Ittai Kidron – Oppenheimer
Matt Hedberg – RBC Capital Markets
Sanjit Singh – Morgan Stanley
Rudy Kessinger – D.A. Davidson
Operator
Hello and welcome to the Couchbase Third Quarter Fiscal Year 2023 Earnings Call. At this time, all participants are in a listen-only mode. [Operator Instructions] As a reminder, this conference is being recorded.
It’s now my pleasure to turn the call over to your host, Edward Parker, Head of Investor Relations. Please go ahead.
Edward Parker
Good morning and welcome to Couchbase’s third quarter 2023 earnings call. We will be discussing the results announced in our press release issued before the market open today. With me are Couchbase’s Chairman and CEO, Matt Cain; and CFO, Greg Henry.
Today’s call will contain forward-looking statements, which include statements concerning financial and business trends and strategies, market size, our expected future business and financial performance and financial condition, and our guidance for future periods. These statements reflect our views as of today only and should not be relied upon as representing our views at any subsequent date and we do not undertake any duty to update these statements. Forward-looking statements, by their nature, address matters that are subject to risks and uncertainties that could cause actual results to differ materially from expectations. For a discussion of the material risks and other important factors that could affect our actual results, please refer to the risks discussed in today’s press release and our most recent annual report on Form 10-K or quarterly report on Form 10-Q filed with the SEC.
During the call, we will also discuss certain non-GAAP financial measures which are not prepared in accordance with Generally Accepted Accounting Principles. A reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measures, as well as how we define these metrics and other metrics, is included in our earnings press release, which is available on our Investor Relations Web site.
With that, let me turn the call over to Matt.
Matt Cain
Thank you, Edward, good morning, everyone. On today’s call, Greg and I will provide details on our third quarter results, as well as our fourth quarter and full year fiscal 2023 guidance. I will start off with a few highlights of our Q3 financial results.
Couchbase delivered another strong quarter. In addition to beating our guidance across all metrics, our results were highlighted by growing momentum with Capella, healthy new customer logos, including our largest new logo deal in company history, strong retention metrics and ongoing large deal activity.
I’m also pleased with the progress we made operationally across the company headlined by our product and go-to-market teams driving continuous improvements that will serve us well into the future. Revenue in Q3 was $38.6 million, up 25% year-over-year. Total annual recurring revenue or ARR was $151.7 million, up 24% year-over-year and up 28% in constant currency.
Our non-GAAP gross margin remains best-in-class at 88%. Non-GAAP operating loss was $9.6 million, 15 percentage points above the midpoint of our guidance range, driving a 14 point improvement in operating margin from Q3 of last year. As we scale, we will continue to complement our strong top line momentum with a focus on driving more efficient growth and operating leverage in our model.
We exited the quarter with 658 customers, an increase of 26 from Q2 and saw meaningful new logo contribution from Capella. Despite a more challenging macroeconomic environment, we are well on our way to achieving what we laid out to do this year, accelerate growth, grow our cloud mix, improve our go-to-market efficiency, and drive operational leverage. It’s gratifying to see the investments we’ve made in our cloud database platform starting to bear fruit. And I want to thank all our dedicated team for their tireless efforts.
Greg will provide more detail on our results in a moment. But first, let’s discuss some highlights in the quarter. To begin, we continue to make rapid progress with Capella. We have reimagined the database experience with a fast, flexible and affordable cloud database platform for modern applications, allowing organizations of any size to quickly build applications that deliver premium experiences to their customers, all with industry leading performance.
In today’s more constrained budgetary environment, our best-in-class total cost of ownership is especially compelling for companies that are unwilling to trade off performance and price. While it’s still early, I’m thrilled that Capella is becoming an increasingly important contributor to our business.
In Q3, we saw robust bookings growth, meaningful new Capella logo additions as well as migrations and a rapidly growing pipeline of exciting Capella opportunities across both new and existing customers. You will hear examples of our progress in some of the Capella customer wins and expansions I will discuss in a moment.
On the product front, we remain focused on enhancing the developer experience, and we again made exciting progress during the quarter. We recently commissioned a global survey of 650 Senior IT decision makers, which revealed that 88% of developers are under pressure in their digital transformation initiatives, and in the race to the cloud. They also face an endless array of highly complex, multi factor developer tool chains.
To address this challenge in October, we announced a newly designed Capella user interface that increases developer productivity and agility. The updated user interface is inspired by popular technologies that millions of developers already use to build applications, giving them a familiar design and navigation experience. A sense of familiarity makes it easier for developers who are new to Capella to build next generation applications on our platform.
Another innovation during the quarter is a high data density storage engine with compute and storage advantages that increases performance processing speed by up to 4x, while utilizing 10x less memory. This enhancement reduces the total cost of ownership of our cloud database platform and further widens the TCO gap compared to other databases of service offerings.
Additionally, Capella now offers enhanced security and single sign on capabilities, including successfully completing a SOC 2, Type II audit and delivering support for HIPAA-compliant applications, which means broad enterprise requirements for cloud applications. We’re also pressing our gains with our cloud provider partners. We launched our managed service offering on AWS just over a year ago.
We then added support for Google Cloud over the summer. And in the short time since then, we have seen meaningful adoption from customers who prefer to leverage Google’s infrastructure. This is core to the Capella value proposition, start with leading performance at scale, then offload the resource consuming database administration experience, and let customers tell us which cloud service provider they prefer to deploy with, resulting in a unified deployment and usage model from cloud to on-premise, from the data center to the edge and everything in between. We remain on track to round out our hyperscalar availability with the addition of Azure by the end of our fiscal year.
I am also proud that industry leading analyst firms have recognized our innovation and execution on our vision. In its Q4 2022 Translytical Data Platforms report, Forrester rated Couchbase as a strong performer and gave us a perfect 5 out of 5 score on our execution roadmap. On the go-to-market front, we’re continuing to enhance all aspects of our sales motion.
We are executing well on our high touch enterprise sales motion and as the world returns to in-person meetings, we’re back to doing what we do best, being in front of customers and helping them drive their most strategic digital transformation initiatives. Importantly, as you’ll recall, we’ve been building increased operational rigor across our sales teams with a laser focus on increasing sales efficiency. There’s much more to do on this front, but I’m proud of the progress we’re making.
And I’ll note that the investments we have made have been especially impactful with Capella where we are engaging in new audience of developers who prefer to buy from rather than be sold to. We recently announced the new Couchbase ambassador program, which allows developers to share their knowledge and expertise with broader developer audiences. And our recently launched Couchbase Community Hub brings together users and contributors to foster increased sharing, learning and discovery.
We continue to see robust interest in our free trial model, strong engagement from existing customers, and great responses to our developer and community workshops. This will only further add to the growing efficiency of our go-to-market strategy. Our partner and alliance ecosystem remain strong and continues to contribute to our go-to-market acceleration.
In Q3, we saw strong bookings growth sourced by partners. In fact, we had our largest quarter of new customer logos sourced by partners with ISVs, CSPs and Sis all contributing. In particular, I am excited that our cloud partnerships are driving bigger wins for us. In fact, we had sizable transactions with all three cloud providers during the quarter with AWS, our co-sell engagement continues to deepen. We’ve been working with AWS to target ISV software companies that are building applications powered by Capella on AWS.
And recently at AWS re:Invent, where we were a gold sponsor, we announced that Arthrex, a global leader in minimally invasive surgical technology is partnering with Couchbase and AWS to improve patient outcomes. This close alignment with AWS has culminated in a broadened collaboration, which we also announced at re:Invent. Under this multiyear strategic collaboration agreement, Couchbase and AWS have committed to offering customers integrated go-to-market activities, commercial incentives and technology integrations. I am excited for this broadened collaboration to accelerate and streamline customer migrations to Capella on AWS.
Next, I’d like to highlight some key customer wins from the quarter. Overall, I am pleased with the breadth of our customer activity across all parts of our portfolio, including mobile, server, and especially Capella. I’ll start with Capella. A new Capella customer and logo in the quarter is a market leader in secure API connectivity for financial institutions. This customer was interested in migrating its on-premises applications to the cloud. They needed a high performance database as a service and after experiencing operational and financial value of Capella, this customer will be consolidating three other NoSQL cloud databases to Capella. This database consolidation trend speaks to both the breadth of Capella’s multimodal capabilities and the best-in-class price performance that we offer our customers.
In addition to new logos, we’re seeing an acceleration of existing customers migrating to Capella. YapStone, a global provider of digital payment solutions and processing migrated from our enterprise edition to Capella. YapStone initially began with our core platform, because it needed a fast and flexible database to power its profile management applications and deliver a premium experience to its customers. For this customer, the big driver to embrace and double down on Capella was the lower total cost of ownership and overall efficiency. Of note, this win was driven through their executive management team, signifying that the value and cost efficiency of Capella are resonating at the executive level.
We had a significant new customer win with one of India’s most trusted and reputed business conglomerates in the quarter. This new customer creates consumer focused high engagement digital products that address the needs of Indian consumers and businesses, including an app that offers an integrated rewards experience across various consumer categories. They needed a database platform that could not only deliver the highest performance and scale for its millions of customers. But that could also offer the critical mobile device sync capability, so it could serve as customers anywhere, regardless of their smartphones, internet speed or connectivity. They chose Couchbase for our premium capabilities, and compelling value.
In Q3, we also saw many great expansions from existing customers, including one of the largest airlines in the world. This customer relies on Couchbase mobile to ensure its tablet base preflight check in process works reliably regardless of internet connectivity to streamline operations, and minimize flight delays. Over the last year, as demand for travel has increased, this customer has grown its use of Couchbase to further enhance one of the airline industry’s best on time and safety records, all with the top tier customer experience.
As we look towards the balance of the year and into next year, I remain confident in both the near-term drivers and the long-term trends powering our growth. In the year and a half since becoming a public company, we put an enormous amount of work into all aspects of our business. And as a result, we’re benefiting from strategic initiatives and operational improvements that we were not enjoying a year ago, which sets us up for more effective and efficient growth in the quarters and years to come. These include a greatly expanded product portfolio with Capella just starting to hit its stride. This is opening up a large portion of the database market that until recently was unavailable to us.
We’ve meaningfully expanded our partner ecosystem, giving us crucial channels for reaching new customers, while bolstering our relevance as a strategic partner of choice for digital transformation initiatives. We’ve enhanced our sales leadership and transformed how we go to market across buy from and sell to motions, both in terms of efficacy and efficiency. And these initiatives are just starting to bear fruit.
As our results demonstrate, we haven’t seen a material impact to our business as a result of the increasing macroeconomic headwinds being felt across the technology space. However, like many of our software peers, we are seeing signs of some customers taking longer to make their buying decisions or requiring extra layers of approval as well as a bigger focus on the economic value of our platform.
We come to work every day with a degree of healthy paranoia, and we remain focused on the demand environment and the uncertainty being felt across the economy. This focus continues to inform how we are looking at the near-term outlook, and we’ve added more operational rigor to enable us to be in a position to adapt to the changing environment. Naturally, this increased rigor is squarely focused on what we can control while remaining committed to growth and improving profitability.
Before handing the call over to Greg, I want to reiterate that it’s my privilege as CEO of Couchbase to have the honor of leading a great team of people. One of our core values is to attack hard problems driven by customer outcomes, and I am proud of our focus on delivering for customers no matter what. Nothing prepares us for the future more than being battle-tested and my confidence in our ability to adapt and innovate in the face of macro headwinds remain strong.
With that, I’ll hand the call over to Greg to walk you through our results in more detail. Greg?
Greg Henry
Thanks, Matt, and thanks, everyone, for joining us. We had another strong quarter as we beat guidance across all key metrics against a more challenging macro environment and despite increased FX headwinds and we saw overall healthy demand for our solutions throughout the quarter and are pleased with our execution.
I’ll now walk you through our third quarter financial results in more detail before providing our guidance for the fourth quarter and full year. Total ARR at the end of the third quarter was $151.7 million, representing 24% growth year-over-year or 28% growth year-over-year on a constant currency basis. Like many of our peers, we saw a meaningful incremental currency headwind in Q3. Without the additional in-quarter negative FX impact, ARR would have been approximately $1 million higher or $2.4 million above the midpoint of our guidance range.
Revenue for the third quarter was $38.6 million, an increase of 25% year-over-year and well above the high-end of our guidance range. We estimate foreign currency had an immaterial impact on year-over-year revenue growth. In addition to strong subscription revenue growth this quarter, revenue benefited from continued strength in professional services which we remind you is nonrecurring and does not appear in our ARR number nor customer counts.
Subscription revenue for the third quarter was $35.7 million, an increase of 23% year-over-year. Subscription revenue was down 4% sequentially. The sequential decline was anticipated following a strong outperformance in our on-demand business last quarter. Professional services revenue for the third quarter was $2.8 million, an increase of 56% year-over-year. We exited the quarter with 658 customers, an increase of 26 net new customers from the second quarter and the highest in over 3 years.
In addition to strong Capella traction, the number of non-Capella additions was one of the highest we’ve had since Q4 of fiscal year 2020 and the number of customers spending more than $1 million in ARR with us increased to 32% from 28% last quarter demonstrating the continued success of our land and expand strategy. Our ARR per customer performance in the third quarter was $231,000, up from $203,000 in the second quarter as Capella continues to grow in revenue contribution, we expect ARR per customer growth could continue to moderate or decline in the future quarters.
Our dollar-based net retention rate continues to exceed 115%. In discussing the remainder of the income statement, please note that unless otherwise stated, all references to our expenses, results of operations and share count are on a non-GAAP basis. In Q3, our gross margin remained best-in-class at 88%. This compares to a gross margin of 88.3% a year ago and 88.7% [ph] last quarter. As a reminder, as Capella mix increases, we expect gross margin could moderate over time.
Turning to expenses. We continue to invest to capture the generational opportunity we see in front of us, but are focused on improving the efficiency of our growth. Our sales and marketing expenses for Q3 were $24.9 million or 65% of revenue compared to $21.5 million or 70% of revenue a year ago.
Research and development expenses for Q3 were $12 million or 31% of revenue compared to $12 million or 39% of revenue a year ago. General and administrative expenses for Q3 were $6.6 million or 17% of total revenue compared to $5.8 million or 19% of revenue a year ago.
Non-GAAP operating loss for Q3 was $9.6 million or negative 25% operating margin compared to an operating loss of $12.1 million or a negative 39% operating margin a year ago. The operating loss was well above the high-end of our guidance, resulting from our strong revenue results and incremental focus on both expense discipline and increasing efficiencies. Non-GAAP net loss attributable to common stockholders for Q3 was $9.7 million or negative $0.22 per share.
Turning to the balance sheet and cash flow statement. We ended Q3 with $177 million in cash, cash equivalents and short-term investments. We remain well capitalized to execute against our long-term growth strategy. Our remaining performance obligations or RPO totaled $159.6 million at the end of Q3, an increase of 28% year-over-year. We expect to recognize approximately 65% or $104.5 million of total RPO as revenue over the next 12 months, which represents 36% year-over-year growth.
We are pleased with our RPO performance despite the fact that we’ve seen some customers elect shorter-term contracts due to macro uncertainty and because our sales plans no longer incentivize multiyear contracts as aggressively. As such, we saw a slight contraction in billing terms.
Operating cash flow for Q3 was negative $14.7 million, while free cash flow was negative $16.3 million. Q3 is seasonally a low free cash flow quarter due to a combination of timing of collections and expenses.
Now to conclude the call, I will provide guidance for Q4 and the full year of fiscal 2023. As Matt discussed, despite the ongoing macroeconomic volatility, our pipeline remains strong. We continue to see solid momentum across our industry in support of broad based digital transformation initiatives. That said, we are mindful of the macro headwinds impacting IT spending and are monitoring the environment closely.
We also continue to see headwinds from foreign exchange exposure. Lastly, I’d like to remind everyone that as opposed to the annual credit portion of our Capella business, the on-demand portion is not currently cutted in ARR. And as such, we are factoring this emerging dynamic in our outlook. Accordingly, we are prudently considering these factors into our guidance.
For the fourth quarter of fiscal 2023, we expect total revenue in the range of $38.2 million to $38.4 million for a year-over-year growth of 9% at the midpoint. We anticipate fourth quarter and full year ARR in the range of $160.5 million to $162.5 million, which represents 22% growth year-over-year at the midpoint, and it’s unchanged from the midpoint of our previous full year guidance. We note that we anticipate approximately a 2% negative impact to our ARR growth rate due to foreign currency fluctuations. We expect a non-GAAP operating loss in the range of negative $15 million to negative $14.8 million.
Now turning to our revised full year guidance. We are raising our full year revenue guidance provided on our Q2 call and now expect revenue to be in the range of $151.4 million to $151.6 million or a year-over-year growth of 23% at the midpoint. As a reminder, we’ve historically seen variability with respect to the implementation timing of certain enterprise deals, which impacts our revenue visibility.
We, therefore, believe that ARR is a better indicator than revenue of the strength of our business. As noted above, we continue to expect ARR growth to be 22% at the midpoint. Due to our revenue outperformance and continued expense discipline, we are raising our non-GAAP operating loss guidance and now expect a range of negative $46.4 million to negative $46.2 million.
Finally, while we are not yet providing guidance on fiscal 2024, I want to share a few initial thoughts on how we’re viewing our business heading into next year. Our priorities will be focused on four key elements: first, delivering top line growth; second, increasing the mix of Capella across all metrics. Third, driving further sales and marketing efficiency; and fourth, continue to improve the overall leverage in our model. We look forward to providing further details on our fiscal 2024 outlook during our fiscal Q4 2023 earnings call.
With that, Matt and I are happy to take your questions. Operator?
Question-and-Answer Session
Operator
[Operator Instructions] Our first question today is coming from Jason Ader from William Blair. Your line is now live.
Jason Ader
Yes. Thank you. Hey, guys. On the fourth quarter on the ARR, did you — have you actually baked in some macro softness in that number and kind of relative to historical periods?
Greg Henry
Yes, hey, Jason. It’s Greg. Good morning. Yes, we are obviously factoring in what we’re seeing currently from a macroeconomic perspective into the guidance across all of our metrics. So we are absolutely trying to take into consideration everything we’re seeing out there today.
Jason Ader
Okay. And then, Matt, can you just maybe summarize, I know you guys — you talked a lot about it on the script, but maybe just summarize for everyone the go-to-market changes that you guys have executed over the last year or so that have contributed to the performance here.
Matt Cain
Sure, Jason. First, I would remind you that we take a balanced approach to go-to-market and we’ve had a very highly sophisticated enterprise go-to-market motion with a big opportunity to complement that with what we call our buy from activity. If I start on the enterprise sell-to side we have new sales leadership that’s driving an amount of operational rigor that we haven’t had in the business historically, and that’s every aspect of how we manage things. Build pipeline, inspect deals, drive sales methodology, rhythm and rigor throughout the entirety of the global sales organization.
I would also point out that we are driving incremental leverage with our partnerships in that area. And we are very excited with the activity that we’re seeing across the partner types in particular with the big cloud providers as evidenced by the increased relationship with AWS at a very strategic level and that allows us to drive additional coverage and reach into existing accounts, but most importantly, as we attack new logos across all geographies and segments of our business.
With Capella, we are then able to open up or buy from motion in a much more material way. So how do we engage developers as they’re in the initial phases of evaluating databases, help them learn about what Couchbase and Capella can do for them, get them into trials and really start to facilitate a relationship well before they move into production.
One of the additional things that we are seeing, Jason, as you put those two things together is leveraging our community addition installed base as we migrate those customers to Capella. So a lot of factors that we bring together with an overall focus on execution. And while we are very mindful of macroeconomic conditions, we do believe that these things will help us mitigate any pressure that we would feel.
Jason Ader
Great. And then one quick follow-up on the partnerships with cloud. Are you guys transacting through the cloud marketplaces. It just seems like a phenomenon we are seeing across a lot of independent software companies right now, third-party software going through those cloud marketplaces. And what’s the opportunity to drive greater leverage in the model over time through that channel?
Matt Cain
Yes. Jason, we are, and we believe that that’s going to be a significant area of improvement for us. I think the more strategic we become with our offerings, we have a much bigger ability to collaborate with those cloud providers and do joint go-to-market execution across our account teams and up throughout the leadership teams. I will tell you the largest new logo in company history that we reviewed in the script actually came through the marketplace and we were able to use our internal analytics to then engage our sales teams at the right time and work with the customer at a significant level to move them into a different consumption model because of how quickly that’s grown. So we believe that the clouds are not only going to help us as we move down in the “pyramid” and drive new logos and increased sales cycles, but the fact that we are doing it all the way up to one of the largest companies in India and leveraging that buy from — to sell-to motion I think, is an indicator of how powerful this can be for us.
Jason Ader
Thanks, guys. Good luck.
Matt Cain
Thank you.
Greg Henry
Thanks.
Operator
Your next question today is coming from Raimo Lenschow from Barclays. Your line is now live.
Raimo Lenschow
Team, thanks for taking my question and congrats from me as well to — for the execution in this market. The main question I had for you, Matt, was like now that Capella and see what’s happening there, what do you see in terms of the customer size and that is coming there and the customer type of project. And here you would think that the cloud is easier to adapt the partners are bringing you more of a business. So does that mean that you should see kind of a top of the funnel to get broader, you should kind of see different customers than what you’ve seen before. Is there any kind of experience that you can share already? Thank you.
Matt Cain
Hey, Raimo. So, look, the first thing I would say is Capella is dominating customer conversations across our business. That’s our largest enterprise customers today down through more commercial mid-market companies that we’re hoping to land as new logos. I think the value proposition of our enterprise database in a consumption model that allows customers to more easily consolidate database, offload database management, have a better TCO, but enable developer productivity and efficiency that value proposition lands with customers throughout the spectrum.
I would tell you, no doubt, we are able to attract a set of customers that we otherwise wouldn’t who are looking exclusively for a database as a service offering, but at the same time, with our existing customers, we’re seeing migrations and we’re seeing customers lean into new applications. I mean, we talked about a few new logos on the call. But if I look at customers that are taking advantage of the value proposition, we have a leading luxury home furnishing company who’s running mission-critical applications on order management and fulfillment. They saw a massive TCO and productivity advantage they move in.
That’s very different from a major global energy and services company that shows us for 360 data management, again, because they get the features of our modern database but in a consumption model. But then we have small startups like a data privacy company that’s leaning on us for data catalog and user profiles that was historically a CE customer that moved into Capella because they just benefit so much more from the value proposition. So we are seeing the demand across our funnel. Undoubtedly, we think it’s going to open the aperture and allow us to engage with more companies. We’ve been talking a lot about wanting more [indiscernible] and we are starting to see that, and it’s becoming a meaningful part of our business.
Raimo Lenschow
Perfect. Thank you.
Operator
Thank you. Next question today is coming from Rob Oliver from Baird. Your line is now live.
Rob Oliver
Great. Thanks, guys. Appreciate it. Matt, I will start with one for you. Just on the new logos, obviously, nice sequential improvement for you guys. It sounds like Capella is a driver there. As you think about the land and expand motion and kind of the free trial model there, what do you expect in terms of your expectations we could see in terms of new logo acceleration, not asking you to guide, but how should we think about a steady state? It’s obviously a lot improving nicely, but still off of a pretty low base.
And then I wanted to ask about the database consolidation example, which you gave us the API connectivity company really struck me because that was — it seems also a new land, and it would strike me that you guys would have a really nice opportunity potentially for DB consolidation with existing customers. It sounds like that’s a thematic that played with new customers — so maybe you can talk to that as well. Thanks.
Matt Cain
Yes. So Bob, let me start with the second piece first. Look, I think a big part of our value proposition is database consolidation. If you go back to the core architecture that we have, we’re a multimodal database that runs from cloud to edge and everything in between. It allows us to manage not just run time, real-time applications at the highest performance and scale, but allows us to do things like transactions and operational analytics and true applications at the edge.
If you think about the capabilities that applications require from a database perspective, those could all be different vendors where, in fact, we’ve been able to put that into our very broad platform. And with Capella, we just make it that much easier to consume and allow the developers to focus on application development and flexibility while giving them the full power of the couch based platform.
So we believe that consolidation is really important, but then customers are always thinking through what’s my sort of payback and TCO of rewriting an application or building a new one. And the fact that we’ve lowered the barrier to entry with Capella and allow customers to get a feel of the solution with trials, we can make that go that much faster. I will tell you in these economic times, a value proposition of consolidation resonates extremely well. And we believe that we are set up with scale and performance and the things that we’re doing on the UI and driving better TCO to further enable that as we go forward.
Look, as it pertains to new logos, quite frankly, that scenario that we know we can do better. We’re pleased that we are seeing improvement, which is a function of a lot of hard work across go-to-market and product. But quite frankly, we think there’s a lot of room for improvement there, and we certainly expect more. We think Capella is the thing that’s going to be the game changer for us.
And what I’d tell you, Rob, is in addition to being proud of results that we delivered, as I study the leading indicators across Capella in particular, we are seeing what we would expect, which is headed in the direction of new logo improvement. So we think that’s a big lever for us, but we also believe that we have the investments in place to execute on that as we go forward.
Rob Oliver
Great. Thanks, Matt. Appreciate all the detail. And Greg, just one for you. Just on the Q4 guidance, it does imply an operating loss margin a bit bigger. I was just wondering if you could walk through [indiscernible] are there seasonal elements to the expenses in Q4 or anything else in that line that you’d like to call out? Thank you.
Greg Henry
Yes. Sure, Rob. Yes, there is some seasonality in the sense that Q4 in particular, we do start looking at what we are going to need for fiscal ’24 in terms of ramping up sales capacity to meet we are going to deliver there yet still being very disciplined and how we are hiring. We’ve never gotten over our skis in terms of hiring, and so we feel comfortable there. But there is some timing. And again, we are working here as we always have to provide guidance that we can at a minimum need and certainly try to beat over time.
Rob Oliver
Great. Thanks again, guys.
Operator
Thank you. Next question today is coming from Brad Reback from Stifel. Your line is now live.
Brad Reback
Great. Thanks very much. Greg, I think it was you who mentioned the sequential decline in subscription and some of that had to do with some on-demand revenue you picked up in 2Q. Can you maybe dig a little bit deeper into that? Thanks.
Greg Henry
Yes. Look, Brad, good question. Look, we’re pleased with the overall revenue momentum, the large deal activity. We had good balance across regions. Matt talked about the logo and the expansion. That said, we did — we do have — the sequential decline is on-demand, a little less in the marketplace. We had a lower renewal base in Q3 than Q2 and which drives some of that because we tend to upsell at the renewal point. And then the other thing is, as Capella becomes more meaningful, which we’re beginning to see the nature of the accounting is such that we don’t get the upfront license from ASC 606, so we would get on a subscription business as we would get on Capella. So those are some of the drivers you’re going to see on that sequential change.
Brad Reback
Great. And then, Matt, I know you guys have talked about and demonstrated operational efficiency here over the last several quarters regardless of the 4Q guide. As you think about next year, what are the puts and takes around the magnitude of the operational efficiency that you’ll deliver?
Matt Cain
Hey, Brad, look, it’s a dynamic that we spent a tremendous amount of time on. As we think about our objectives, which we’ve talked about for a couple of quarters now, we’re very focused on increasing growth, increasing our Capella mix, which we believe is a significant driver for the company while at the same time, improving go-to-market efficiency and providing long-term leverage in our model. And so as I think as evidenced by our execution up to this point, we are delivering on those things, and we believe we will continue to do so.
What we are constantly balancing is how do we take advantage of the generational opportunity in front of us and at the same time, as Greg said, not get beyond ourselves with the investments that we’re making. We believe we have a good balance truck right now, particularly with understanding the macroeconomic environment and being prudent about our investments in both product and go-to-market.
With the team we have in place, the amount of innovation that we’re driving on the product side is better and more efficient than it’s ever been, and we believe there are more efficiencies to find. As we drive our increased operational efficiency on all things go-to-market and get more benefit from partners, we believe that we’re going to see higher returns from that as well.
A big driver of this efficiency, Brad is going to be the payoff of Capella which we’ve been investing in for some time, and we are starting to see that return. So I think we’re set up to strike that balance as we go forward. But equally excited about our ability to take advantage of the massive opportunity over the mid and long-term.
Greg Henry
Yes, Brad, if I could just jump in here. As we stated, we’re not doing fiscal ’24 guidance yet, but just as you all start thinking about next year, there were a couple of things that we saw besides the true operating efficiency that we drove here. We had the benefit of foreign exchanges here, and we started doing some software capitalization this year that, obviously, we haven’t — as you start thinking about next year, the software cap should be kind of flattish and not seeing a change there in FX as well — what FX is. But just as people are thinking about the operating margins for next year that some of those benefits we saw this year aren’t going to repeat.
Brad Reback
Great. Thanks very much.
Operator
Thank you. Next question today is coming from Kash Rangan from Goldman Sachs. Your line is now live.
Kash Rangan
Thank you very much, Matt and Greg. Congratulations on the quarter. Matt, I’m curious to get your perspective on Capella, how do you see the go-to-market strategy of the company, pivoting more towards Capella, are you going to have a dedicated sales that will sell only Capella. We really have a continued mixed mode with the delivery and also from a product development perspective, research development perspective. At what point are we going to be dedicating most of the research development, I would assume, at some point, the company becomes 100% Capella and recent development goes into Capella because as you have been very consistently pointing out, we’ve reached and crossed maybe the tipping point of the functionality of the database product. So curious to get your thoughts on that. Thank you so much once again.
Matt Cain
Hey, Kash, I’d say on both questions, we are beyond the inflection point. And in my opening comments, I talked about being excited about the results, but even more excited about the operational improvements. And underneath that is directly aligned to both of your questions. We have pivoted on a Capella first mindset at the company. I’d like to say if you woke up any one of our employees have asked them what the most important thing is, they wouldn’t hesitate to tell you that it’s Capella and that’s on both the go-to-market side and the product side. We have every single one of our go-to-market resources focused on Capella.
We’re, of course, offsetting that with specialists who can come in and help with nuances and details that may go beyond what we would expect everyone to be able to cover. But everything from enablement to compensation plans to how we measure the business to forecast calls, there was a maniacal focus on all things, Capella across both our existing accounts and in driving improvement on new logos. As a reminder, we brought in [indiscernible] several quarters ago to drive the cloud transformation on [indiscernible] products. And we are — that is the #1 priority.
So if you think about our product teams, everything is focused on Capella. And what I tell the teams is Capella first, if we have something that can serve both businesses, meaning Capella and our existing installed base will allow those customers more time before they eventually migrate to Capella those are valid investments, and we will not invest in anything beyond that. And so I think we’ve made the switch.
But the great thing is we have an underlying architecture with our core platform that serves it very well to how we want to run Capella and some of the architectural decisions that we made very early on, like how we manage underlying resources, how we can balance between memory and storage optimization. The fact that we can running clouds with some of the best data movement technology in the industry, the fact that we go from cloud to edge. I mean it’s a platform that is now being run as a service and the transition from product to service company is one that we’ve made. So I’d say we’re beyond it, and we are starting to see the benefits of investments on both sides of the house.
Kash Rangan
Great. And one for you, Greg, if I could. How does Capella change the longer term operating model for the company, with respect to operating expenses and the kind of leverage that they can get in a 100% Capella world versus 100% on-premises world. Thank you so much.
Greg Henry
Yes. As Matt kind of alluded to, look, it’s going to — we believe it’s going to drive the growth of the company for the future of top line growth, and we are excited about that, and we are starting to see the beginning of that. At the same time, it will become margin dilutive. Now we are obviously starting from a position of strength with an 88% gross margin, but it will be dilutive over the time by the nature of the offering, including pass-through of infrastructure and service. So we think it’s going to bring more dollars, but at a moderated margin rate. That said, as we talked about earlier in terms of getting efficiency, we still plan to drive bottom line efficiency despite having some rate dilution that comes through the model.
Operator
Thank you. Our next question is coming from Ittai Kidron from Oppenheimer. Your line is now live.
Ittai Kidron
Hey, guys. Nice quarter. I guess, Greg, I wanted to dig into your fiscal ’24 priorities, the [indiscernible] that you mentioned. Should we also take them in order of importance. And what I’m trying to get into is the balance between margin improvement and top line, you put top line as your first priority. Does that mean we should look for a moderated improvement on margin and not necessarily a significant one?
Greg Henry
Yes, Ittai, good question. Look, look, we’re going to have a balance across all of them. And just to reiterate again, top line growth, Capella mix, sales and marketing efficiency and driving leverage. And the thing that we talk about is quite honestly, if we get #2, right, which is Capella, which is what we’re driving towards and Matt just cover that in detail, that will help the growth. It will help sales and marketing efficiency and ultimately leveraging the model. So that’s where the focus is, but it’s really across all three — are all four. We are not focused on any one more than the other per se other than we believe Capella will be the driver of all of them in the future.
Ittai Kidron
Okay. And in this effort to drive Capella forward, what kind of changes do you anticipate that you’ll have to make to your comp plan at year-end in order to drive that type of behavior?
Greg Henry
Yes. I mean we will have to further evolve our comp plan around the consumption model, moving away from a subscription comp plan, which is a change, and we’re still going through that and discussing it. But obviously, we’re going to be focused on Capella first. And so we want the field team to be focused in making money driving Capella. And so we will incentivize them through the comp plan to drive Capella and not only landing Capella logos, converting the existing installed base, but obviously, working with our customers to get the consumption going as fast as possible.
Ittai Kidron
Got it. And then last …
Matt Cain
Yes, I would just add, we made pretty significant progress this year with the Capella focused compensation plan. So I think it’s incremental changes as we take that to next level based on the learnings that we have this year. But rest assured, our field teams and the company, for that matter, are properly incented to sell and drive Capella.
Ittai Kidron
Got it. Maybe just last one on Capella itself. Greg, you mentioned that part of the business is on the main tell us roughly and I know you don’t have too much experience here, but roughly what percent of the capital activity is done on demand?
Greg Henry
Yes. Again, Ittai, this is one thing where we’re not disclosing the Capella specifics today. It’s not material to the business today. But when we get to the point where we’re ready to disclose the metrics, we certainly do that. Again, if anything, what we like about the on-demand model and the buy from is exactly what Matt said about the customer we land a large customer. Now that wasn’t a Capella customer per se. But the fact that we can have trials and activity that gives us insight into how customers are even thinking about using Capella and we can go and sell into them. We see customers that are not customers of ours today that are using Capella on an on-demand basis that we would have never seen before, so it is giving us the ability to access and get insights from potential customers that we have had before.
Operator
Thank you. Next question is coming from Matt Hedberg from RBC Capital Markets. Your line is now live.
Matt Hedberg
Great, guys. Thanks for the question. Matt, obviously, a lot of talk about Capella here, and it’s great to hear the momentum there. Could you talk a little bit more about win rates there. I have a sense that they probably improved, but can you talk about the magnitude of your win rates there versus maybe some historical averages?
Matt Cain
Yes, Matt. So I think we are still early. So we hesitate to draw absolute distinctions. But I would tell you it’s aligned to our hypothesis that opening the top of funnel, more opportunities, having a consumption model that quite frankly, the market has wanted that we are — we’ve been relatively behind on to be candid. I think is giving us what we wanted to, and we’re seeing faster deal cycles, and we really like our competitive chances when we get into bake offs.
Capella is a solution that value proposition is resonating, and we can beat other solutions with scale and performance and agility and developer productivity. So I think the metrics are proceeding as we would expected, but keep in mind, we had pretty high expectations for them. I think the big thing is, again, the customers that we are able to get after that we otherwise wouldn’t have been able to — and we think that’s really meaningful for us as we go forward. As is the ability to get after new use cases in existing large enterprise customers. So a big opportunity for us to go after new opportunities. And with the industry-leading scale and performance and total cost of ownership we have a lot to be excited about when we engage in an active opportunity.
Matt Hedberg
Got it. Makes sense. And then, Greg, you noted you’re starting to see some signs of delayed decisions or extra approval. I believe you said I’m curious, did that actually have an impact on the quarter? And I guess, do you assume in your fourth quarter guide that macros get worse before things kind of start to get better, get better, just kind of your philosophy there?
Greg Henry
Yes. It didn’t have a material impact in the quarter, Matt, but we did want to call it out because we are starting to see where there’s layers of approval, elongated sales cycles and what we even called out last time was customers opting for shorter term deals rather than the long multiyears. And we continue to see that. And so we just want to call that out because we are seeing that. And we absolutely have considered that and factor that into our guidance for fourth quarter and for full year based on what we’re seeing today. Obviously, I’m not going to try to predict the future per se, but we factored in everything that we are aware of heading into this earnings period and the guide we’ve given you today. So again, we set out the guidance with the ability based on what we know to at a minimum meet, and we’re certainly going to try to exceed it.
Matt Cain
Matt, what I would pile on is we have a pretty diversified business. If you think about the verticals we serve and our geographic coverage and now our ability to move from enterprise down market, and so as Greg said, we’re calling this out, but we are being specific that it’s some customers, not every customer. In some cases, with the addition of Capella, we’re seeing faster deal process and easier sign off because we have a form factor that people want.
So I think it’s a balance. And where we are seeing customers that have that focus, it’s our job to ensure that we’re articulating the economic value of the solution. We are helping them with sizing the deployment appropriately for the application they have and with better go-to-market effectiveness and rigor, we can manage those sales cycles accordingly. So I think it’s a portfolio dynamic. We are very mindful of what’s going on. And quite frankly, we’re obsessing over it on a daily basis across every aspect of our business to make sure that we have the best read on the demand environment that we possibly can.
Matt Hedberg
Makes a ton of sense. Thanks, guys.
Operator
Thank you. Next question is coming from Sanjit Singh from Morgan Stanley. Your line is now live.
Unidentified Analyst
Excellent. Thank you. This is [indiscernible] for Sanjit. So first, I mean, very encouraging to see the strong customer adds in the quarter. So I just want to dig a little bit into your free-to-paid conversion and particularly with on what you’re seeing in this environment? And then two, what are you contemplating in your outlook from here? And then separately, maybe because we haven’t touched on it yet, sort of on the expansion side. I mean you mentioned a strong airlines expansion deal, so anything you can share sort of how those expansions are shaping up with your expectations? That would be super helpful. Thank you.
Matt Cain
Great. So let me take that in two parts. We’re an open source company, and we’ve had a community addition product that software developers and enterprises could download for free and for all intents and purposes. That was our free offering before we had a trial set up on with our on-demand portfolio. As you can imagine, having had that in our arsenal for some time, we have a very rich set of deployments of CE on a global basis.
And what we found is that’s often been a feeder where companies can come to understand the power of the platform and then they decide to move into enterprise edition for better support or compliance reasons. But we’re seeing an acceleration of that dynamic with the Capella service because as companies are making the evaluation of going into an enterprise version, the Capella form factor has even better TCO dynamics where they can have better operational spend, better optimize the underlying infrastructure for the database and free up people that would need to manage the database so they can focus on application development. And so we think that transition where we’ve seen success will continue as we go forward.
Look, as we think about the overall expansion of our business I think historically, we’ve had a very healthy land and expand business model. And we’re seeing that dynamic continue to play out and even accelerate it because of the applications we’re able to get after with Capella. So we talked about one of the world’s largest airlines. That was a significant expansion and totally aligned to their digital transformation.
When you think about transforming how to get planes off the ground and digitizing the passenger experience, they’re leaning into Couchbase because we have capabilities that other companies just don’t. We had another logistics tech provider that does mobile application for package delivery and returns for retailers, et cetera, they continue to expand their deployment of Couchbase because we have the best performance that they can find. And now they’re starting to think about international expansion on the Couchbase platform because it can seamlessly port what they’re doing with applications in one country into another. So we have a lot of examples of customers seeing the — what they can do in support of their application development and a big part of how we go-to-market and what we think will be our growth leverage as we go forward.
Sanjit Singh
Excellent. Thank you.
Operator
Thank you. Next question today is coming from Rudy Kessinger from D.A. Davidson. Your line is now live.
Rudy Kessinger
Great. Thank you for taking my questions. I’m curious on the largest deal, largest new logo deal in company history, anything you can share there just in terms of ACV or TCV or how much larger it was in the prior record. Any color there would be great? And then secondly, completely understand you’re still not disclosing much in metrics is it’s not a material part of the business yet. But last quarter, you said it was the majority of new customer wins. So that the case again this quarter? Or could you share what percentage of new bookings or net new ARR is accounted for?
Greg Henry
Yes. Hey, Rudy, it’s Greg. Yes, on the large new logo we did, it was over $1 million deal on an ACV basis, and it was probably about 2x the size of our previous largest new logo. So very pleased with that. And Matt gave some color about how we went about acquiring them through the marketplace. So great win for the company and opportunity to continue to grow. On Capella, look, we had a very good quarter with Capella logos. We’re not breaking that out yet, but we’re, again, very happy with the new logo activity that Capella drove we’re also very happy. I don’t think we talked about this, but we’re also obviously migrating a number of our installed base customers over at the same time. So I think it’s both of those things are what’s driving the improvement. But Capella will certainly be a driver to the new logos in the future as well as it was this quarter.
Rudy Kessinger
Got it. And then on the macro, certainly you did not material impact yet, some long-dated sales cycles. I guess I’m curious if you go back to COVID, certainly, retail hospitality and travel, those verticals are impacted, I think revenge travel is still kind of alive and well, although some consumer spending has come down in other areas. But have you seen your usage growth start to come down or moderate at all in some of those verticals that are more tied to the macro environment?
Greg Henry
Again, we mentioned about what we are seeing from a macro perspective. We are moving away from this COVID impact. But again, we still look at it the travel and entertainment is strong. And while we’re seeing sort of pockets of some of the macro impacts, it hasn’t become a broad based impact on our financials to this date, but we continue to watch it closely. And again, we are starting to see some of those things that our peers are calling out with elongated sales cycles, more levels of approval and we’re just working through those dynamics. Again, we think, as Matt said, we have a diverse business that has the opportunity to see some pockets of growth within there, but there could be some pockets of macro impact.
Matt Cain
And Rudy, what I would add is the applications are mission critical. So the stuff that we do that we do really, really matters. And if you think about whether it’s a booking engine or a Customer 360 application or a product catalog these typically are the applications that people would back off of even if they’re feeling some economic pressure. I think they are focused on the economic value, so ensuring that the application overall is providing the business return that they would expect.
I think if anything, we’ve seen customers knowing how important these applications are committing to growth and in some cases, substantial growth over the next, call it, 12 to 18 months, but maybe instead of going with a 3-year deal, they’re opting for one a little bit shorter, just in light of what’s going on. So I think that’s a more specific intangible example that’s specifically hitting us. But as far as moderating spend on these applications, I think it’s one of the benefits of where we sit and the fact that we are mission critical, and I think we can be smart about how we navigate that as we go forward.
Operator
Thank you. We’ve reached end of our question-and-answer session. I’d like to turn the floor back over to President and CEO, Matt Cain. Please go ahead.
Matt Cain
Thanks, operator. To recap, we had a strong quarter, and I remain excited about our opportunity with Capella due to some very big trends in favor like digital transformation, acceleration of cloud and innovation at the edge. We are cognizant of the macro environment and are sharply focused on execution during these times. Thank you for joining us.
Operator
Thank you. That does conclude today’s teleconference and webcast. You may disconnect your line at this time, and have a wonderful day. We thank you for your participation today.
Be the first to comment