Rob Painter: Sure. Good morning and thanks for the question. Well, we certainly are following what the OEMs are reporting on their unit sales, both at a retail side and a wholesale demand level. And there’s for sure a correlation within field systems, field systems business we have and the OEM. So we have OEM exposure, let’s say, in field systems that we really don’t have nearly as much of in the other two segments of the business. What we would see through our own numbers is that the European economy is more challenged and we’ve seen some of the prints out there on units in, let’s say, Europe and construction. Interestingly enough, our Europe business and field systems performed quite well, relatively well in the first quarter.
So it’s not a perfect, let’s say, R-squared on that correlation. We’re also fundamentally architected to serve the aftermarket and to serve the mixed fleet within that. So there’s also another, I’d say, call it the mindset that we have is not to be driven by what are new unit sales. Although we do obviously sell onto new units as we see many, many hundreds of thousands of millions of machines that would benefit from having Trimble technology on it, machine types like excavators remain low single digit penetrated with technology. And so we think there is enormous opportunities to drive technology adoption into the base of machines that are out there. That’s just the civil construction side of the business. So in field systems, survey mapping is an important business.
For us, and I would say, we disconnect that from the unit sales coming out of the machinery manufacturers. And there, a surveyor fundamentally creates a digital model of the physical world that work could be an oil and gas workflow. It could be a cadastral survey. It could be in residential application. It could be in our national parks. There’s a wide variety of applications in that market, which would be independent of machine units. Hope that helps provide some color.
Justin Pellegrino: Thank you.
Operator: Your next question comes from the line of Rob Mason from Baird. Please go ahead.
Rob Mason: Yes, good morning. Rob, you noted the Transporeon business had a win in North America. And I’m just curious, if I think about when you bought the business, I’m not sure that was — the thesis there was heavily predicated on North America penetration. But now that you’ve owned it for about a year, I’m just curious how you’re sizing up the opportunity to bring Transporeon or at least parts of Transporeon to North America. And perhaps any comment on any commercial efforts you have around that as well?
Rob Painter: Good morning, Rob, and thanks for the question. You’re right about the original thesis of it is we didn’t, let’s say, create our model fundamentally around bringing the European applications into North America. We saw that as additive opportunities and we for sure saw that we could do it. We just didn’t predicate the deal on that being the fundamental thesis. So yes, hey, good news or that the example, the customer talked about in the prepared remarks. It’s a multi hundred thousand dollar ARR when that we have and it actually is of using the autonomous quotation product that we talked about earlier as well. So not even I’d say the — it’s called the older existing application capabilities we had in the business is actually a new one.
And so we find that very interesting to think about what’s most unique about what we have in special about the North America install base. It’s carrier centric. Its the nature of our customers. So when we look at capabilities to bring into North America on the carrier side that would look like autonomous quotation and it’s really creating automation around spot transactions. So that’s something that makes sense for our sellers to be able to introduce to the existing customer base. In addition, we’ve talked before about engage Lane in North America and the marketplace in Europe. We brought those organizations or those teams together into one team to create a global, what’s called global scale and global opportunity around that. So that’s another example.
And then the third example is real time visibility. We’re doing that as one business now, not separately in Europe and North America. And so those would be additional capabilities then we want to penetrate here into the North American.
Rob Mason: Yes. Okay. Just as a follow up, again, as we get through this year, I guess, we’ll get recalibrated to the new of these go forward segments and the business without ag. But I was just curious in particular on the hardware and perpetual software, gross margin trend. Its trended lower over the last 12 months, but my suspicion ag had something to do with that. At 44% in the first quarter, how does that look on a go forward basis without ag as we go through this year?
Rob Painter: Yes, it’s a good question. Rob and Phil can chime in after I set this up. And you’re right, the resident ag there in the numbers that you see. But in addition to that, we think about transitioning more of those hardware models into an element of recurring revenue. And that will naturally have a gross margin impact. So think about a system that might have sold for let’s call it $40,000 system. And that for us, from a call it accounting perspective as an element of hardware and software that’s in that. And let’s say that that traditionally was splitting, let’s call it $25,000 of hardware and $15,000 of software, so $40,000 sale. That might now convert to $25,000 and for the hardware upfront and a subscription of $5,000 a year.
And in that case, that will have near term headwinds to the gross margins. Now we’re not flipping a switch and going 100% that direction. Rob, but you can see from the ARR growth that was 13% ARR growth in the first quarter that it is a model that we are moving towards. So on a longer term basis that could be 200 to 300 basis points of a headwind. Phil, do you want to add anything to that?
Phil Sawarynski: No, I think that’s right, Rob.
Rob Mason: Okay. That’s very helpful. Thank you.
Operator: Your next question comes from the line of Joshua Tilton with Wolfe Research. Please go ahead.
Joshua Tilton: Hey, guys. Happy Friday. Can you hear me?
Rob Mason: Yes. Hi. Good morning.
Joshua Tilton: Good morning, guys. So just my first one kind of a clarification, I appreciate all the color around the term impact to AECO. I guess what I’m trying to understand is because of six to six accounting, will there always be a term components in the AECO revenue line item each quarter? Basically, every time you renew something or even sign a new deal. And then my follow-up, just for the clarification, is the reason why we have so much extra rev in the AECO segment because of the extra week, because there’s just a bunch of renewals that will have term licenses tied to those renewals that will land in the extra week of the year. Am I thinking about this correctly?
Rob Painter: Yes. Hey, Joshua. So your second question is an easy one. Yes, you are thinking about it correctly. Our 53rd week encompasses January 1 of 2025, and a large portion of our term licenses were new around that date. And so you are correct in thinking that the 53rd week, roughly $70 million of the $85 million there are the term licenses that were new. And your first question, yes, there is an element of term licenses within AECO that we’ve had and we continue, will continue to have. That’s largely in our structures business. And some of it has to do with the complexity and the horsepower around the offering itself where it’s challenging to move that more into the cloud. So you will see that dynamic going forward at least for the foreseeable future.
Joshua Tilton: So just to be clear, term is not tied to all contracts in AECO, just some of them?
Rob Painter: Correct. So it’s a limited subset of the total AECO offerings.
Joshua Tilton: Okay. Super helpful. And then I guess my follow up on is just very high level. We’ve definitely had a lot of positive inbound since you guys have given this new segmentation. But I guess when you guys are sitting around the table right there, did anything change in terms of how you guys think about the business and plan about thinking about the business going forward that like aligns with this segmentation? Or is it kind of just business as usual for you guys there? And this segmentation is more for us investors better understand what’s already been going on behind the scenes?
Rob Painter: Hey, Josh, it’s Rob. I’ll take this one. I think it’s a really good question. It’s not just business as usual. It really does change how we were thinking about the business, how we’re running it and some of value creation opportunities that this unlocks. This does simplify and focus the company and I think provides a great new baseline for us as we move forward and executing the strategy. If we look at the AECO assets in that segment as an example, this is a business that is now operating an over a billion dollars in ARR. It’s a scaled ARR software business. This mandate and the business enables the team to take, I’d say, the processes and the systems capabilities across a broader swath of the business than what we were doing previously.
If I look within field systems as an example there, this is the first time in decades that we’ve had our survey business and our civil construction business under one leadership. That is providing a sharper focus and frankly level of accountability to sharing R&D capabilities, being more thoughtful about our positioning technologies and how we’re using them across the business. It’s driving better outcomes in terms of attaching things like our positioning services business to the hardware that we sell and survey and civil construction. And then super importantly to go-to-market level, the similar competency within this is selling — simply put selling hardware through a global dealer channel. So we’re bringing more efficiency and how we go to market.
That is to say, we have one leader in Asia Pacific, one in the European region and one in the America, so three leaders from these regions overseeing the scope of what we do and survey and civil. Previously that would have been six people instead of three. So that for us providing better and more consistent management at the dealers and then it enables a different way to think about capital allocation where we can put some of those resources and to helping dealers plan their long term business health and their strategies to complement the work you’re doing in the short term, and to help them identify the market opportunities and make the number. Transportation arguably had the least amount of change and there would feel probably a bit more like businesses as usual.
Joshua Tilton: Super helpful. I guess just last one to kind of tie that all together. As investors, we see this change, we see the change in the segmentation. You told us, it’s definitely not business as usual. There are new and exciting things going on. Like what are we going to see in 12 months? Maybe 12 months or too soon. Over the three year timeframe, like what should investors be judging you on looking at you at to say, this metric was this much better because of all the changes we made? Like where are we going to see all the positivity that you talked to come through in the numbers?
Rob Painter: Yes. No, I like the question. And I use the words in the prepared marks about a multi-year overnight success. This journey is a thousand little steps. We launched Connect and Scale of January 2020. I think what we have now creates a new baseline. But let’s also look at the facts and the fact base, I should say. In 2018, we had $1.1 billion of ARR. We closed Q1 at $2.03 billion of ARR. In 2018, we were 31% recurring revenue as a business, as-adjusted, Q1 we’re 63% ARR. We had EBITDA of 22.6% in 2018. We closed Q1 at 27.9%. Structurally, our gross margins in 2018 were 58% and Q1 adjusted to 67.5%. Over the last five years, we produced 44% operating leverage. We haven’t just decided that this is the direction that we’re going.
We’ve been working on this for a number of years. So now as we take this as the baseline, I think one of the — probably one of the better things as an outcome of the resegmentation is that transparency and that visibility to the investment community, which is what you’re highlighting. It is very obvious to see in that AECO business now. This is a scaled ARR business operating well above rule of 40. Growing ARR in the high teens produced 37.4% operating income in the first quarter. I’m emphatically positive and proud of the team and what they’ve accomplished on that. So I look forward in a three-year time frame. We’re looking — we talk about ARR and free cash flow. To me, those are the big bookends, not the only bookends, but they’re two of the biggest bookends that we have to drive value.
So I’d say in the three-year time frame, you should be looking for continued ARR growth. We should be able to continue to progress the structural gross margins as software I would expect would outgrow hardware over that time frame. That structural gross margin improvement is an abler of an ability to drive operating leverage. We drive operating leverage. That means we’re driving increased levels of EBITDA. And then as Phil said in his prepared remarks, I think cumulative free cash flow is the game and the long-term game. And so we’d be looking to continue to progress the free cash flow and the business relative to the net income that we have. That’s the quantitative framework I’d have around that. I hope that helps.
Joshua Tilton: It definitely did. I am fired up. Thank you so much.
Operator: Your next question comes from the line of Tami Zakaria with JPMorgan. Please go ahead.
Tami Zakaria: Hi. Good morning, Rob, Phil and David. Thank you for taking my question. I have a follow-up on that Transporeon comment. The autonomous code solution you sold to a North American customer. Can the same salesperson currently selling the existing Trimble solution sell the new Transporeon solution to the customer? Basically, I’m trying to understand how does the back end of all of this work in terms of the customer rep for each of the two solutions, the billing, et cetera. And then how did the ACV go up after selling this versus what it was before?
Rob Painter: Hi, Tami. Good morning. This is Rob. I’ll take that one. So it’s a multi-hundred thousand dollar ARR, it’s over $400,000 ARR in that example that I used, so therefore the ACVs over the $400,000 — yes, $400,000 as well. In terms of the go-to-market motion, think of it as a named account seller who’s responsible for the account in North America bringing in a sales engineer, a sales specialist from Transporeon, who knows the depth of the functionality to be able to, I’d say, be conversant with the customer and the value proposition and how to use it. That’s actually very similar. Tami, to Trimble Construction One, when we’re selling a breadth of offerings, now we do have named account sellers, and then we can bring in the technical specialists to really know the depth of a given solution to make sure that customer can get the most value out of that. Did I answer your question?
Tami Zakaria: Yes, it does. Thank you. So the second question, after this formation of PTx Trimble, how do you view the organic growth algo [ph] potential of this new streamlined portfolio that you have? Basically, I’m curious to know whether you think it’s now the right time to refresh the 2027 target?
Rob Painter: Okay, so hey, on the 2020 multi-year targets, we’re going to have an Investor Day in December, and Phil mentioned that in his prepared remark. We had been saying second half of the year, but we’re narrowing that to December, so that’s the formal update. I appreciate that in the interim, there’ll be questions of how do we think about that progression of the business and the model. I think we can continue to provide color in the next couple of calls, but what we already know is the baseline, and I want to highlight that. We know we have a baseline from the quarter on, or you can actually say take the year, where we’re guiding for the level of EBITDA for the company between 26.5% and 27.5%, we’ve talked about the ARR growth, they’re guiding 11% to 13% organic, so if you take the EBITDA that we have and you continue to play forward the growth we expect and apply operating leverage on that, it’s not that hard to see that we could look at about 100 bps of gross margin improvement a year, and that that could look like 100 bps on the bottom line on a year-over-year basis.
