Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Business Overview

PTC is a global software company that provides a portfolio of innovative digital solutions that work together to transform how physical products are engineered, manufactured, and serviced.

Our software portfolio includes award-winning offerings that enable companies to author product data (our computer-aided design (CAD) portfolio solutions) and to manage product data and orchestrate processes (our product lifecycle management (PLM) portfolio solutions).

Our software can be delivered on premises, in the cloud, or in a hybrid model. Our customers include some of the world's most innovative companies in the aerospace and defense, automotive, electronics and high tech, industrial machinery and equipment, life sciences, retail and consumer products industries.

We generate revenue through the sale of subscriptions, which include term-based on-premises software licenses and related support, Software-as-a-Service (SaaS), and hosting services; perpetual licenses; support for perpetual licenses; and professional services (consulting, implementation, and training).

Forward-Looking Statements

Statements in this document that are not historic facts, including statements about our future financial and growth expectations and potential stock repurchases, are forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from those projected. These risks include: the macroeconomic and/or global manufacturing climates may not improve or may deteriorate due to, among other factors, high interest rates or increases in interest rates and inflation, volatile foreign exchange rates and the relative strength of the U.S. dollar, tightening of credit standards and availability, the effects of the conflicts between Russia and Ukraine and in the Middle East, and growing tensions with China, any of which could cause customers to delay or reduce purchases of new software, reduce the number of subscriptions they carry, or delay payments to us, which would adversely affect ARR and/or our financial results, including cash flow; our investments in our solutions may not drive expansion of those solutions and/or generate the ARR and/or cash flow we expect if customers are slower to adopt those solutions than we expect or if they adopt competing solutions; other uses of cash or our credit facility limits could limit or preclude the return of 50% of free cash flow to shareholders via share repurchases; and foreign exchange rates may differ materially from those we expect. In addition, our assumptions concerning our future GAAP and non-GAAP effective income tax rates are based on estimates and other factors that could change, including changes to tax laws in the U.S. and other countries and the geographic mix of our revenue, expenses, and profits. Other risks and uncertainties that could cause actual results to differ materially from those projected are described below throughout or referenced in Part II, Item 1A. Risk Factors of this report.

Operating and Non-GAAP Financial Measures

Our discussion of results includes discussion of our ARR (Annual Run Rate) operating measure, non-GAAP financial measures, and disclosure of our results on a constant currency basis. ARR and our non-GAAP financial measures are described below in Results of Operations - Operating Measure and Results of Operations - Non-GAAP Financial Measures, respectively. The methodology used to calculate constant currency disclosures is described in Results of Operations - Impact of Foreign Currency Exchange on Results of Operations. You should read those sections to understand our operating measure, non-GAAP financial measures, and constant currency disclosures.

Executive Overview

Despite the overall demand environment, which has been sluggish for many quarters now, ARR grew 10% (12% constant currency) to $2.13 billion as of the end of Q3’24 compared to Q3’23.

Cash provided by operating activities grew 26% to $214 million in Q3'24 compared to Q3'23. Free cash flow grew 29% to $212 million in Q3'24 compared to Q3'23.

Revenue decreased 4% (3% constant currency) to $519 million in Q3'24 compared to Q3'23, driven by lower on-premises subscription license revenue due to shorter contract durations and an increase in the proportion of ratably recognized SaaS contracts compared to on-premises subscription contracts. Diluted earnings per share grew 11% to $0.57 in Q3'24 compared to Q3'23, primarily driven by a non-cash tax benefit associated with the effects of IRS procedural guidance issued in May 2024 and a reduction in total expenses, partially offset by lower revenue.

Results of Operations

(Dollar amounts in millions, except per share data)		Three months ended								Percent Change
		June 30, 2024				June 30, 2023				Actual				Constant Currency**(1)**
ARR		$	2,126.1			$	1,928.7				10	%			12	%
Total recurring revenue(2)		$	481.6			$	498.4				(3	)%			(2	)%
Perpetual license			7.1				8.3				(15	)%			(14	)%
Professional services			30.0				35.7				(16	)%			(15	)%
Total revenue			518.6				542.3				(4	)%			(3	)%
Total cost of revenue			111.9				115.9				(3	)%			(3	)%
Gross margin			406.7				426.5				(5	)%			(3	)%
Operating expenses			310.9				316.6				(2	)%			(1	)%
Operating income		$	95.8			$	109.9				(13	)%			(10	)%
Non-GAAP operating income(1)		$	164.4			$	185.0				(11	)%			(9	)%
Operating margin			18.5	%			20.3	%
Non-GAAP operating margin(1)			31.7	%			34.1	%
Diluted earnings per share		$	0.57			$	0.51
Non-GAAP diluted earnings per share(1)		$	0.98			$	0.99
Cash provided by operating activities		$	213.8			$	169.2
Capital expenditures			(1.6	)			(5.1	)
Free cash flow		$	212.2			$	164.1

(Dollar amounts in millions, except per share data)		Nine months ended								Percent Change
		June 30, 2024				June 30, 2023				Actual				Constant Currency**(1)**
ARR		$	2,126.1			$	1,928.7				10	%			12	%
Total recurring revenue(2)		$	1,551.6			$	1,407.7				10	%			10	%
Perpetual license			22.2				30.4				(27	)%			(27	)%
Professional services			98.1				112.4				(13	)%			(13	)%
Total revenue			1,671.9				1,550.4				8	%			8	%
Total cost of revenue			332.0				325.2				2	%			2	%
Gross margin			1,339.9				1,225.3				9	%			9	%
Operating expenses			945.8				887.9				7	%			7	%
Operating income		$	394.1			$	337.3				17	%			15	%
Non-GAAP operating income(1)		$	617.8			$	558.2				11	%			10	%
Operating margin			23.6	%			21.8	%
Non-GAAP operating margin(1)			37.0	%			36.0	%
Diluted earnings per share		$	2.07			$	1.68
Non-GAAP diluted earnings per share(1)		$	3.54			$	3.14
Cash provided by operating activities		$	651.9			$	561.1
Capital expenditures			(9.8	)			(18.0	)
Free cash flow		$	642.0			$	543.1

(1)

See Non-GAAP Financial Measures below for a reconciliation of our GAAP results to our non-GAAP financial measures and Impact of Foreign Currency Exchange on Results of Operations below for a description of how we calculate our results on a constant currency basis.

(2)

Recurring revenue is comprised of on-premises subscription, perpetual support, SaaS, and hosting services revenue.

Impact of Foreign Currency Exchange on Results of Operations

Approximately 50% of our revenue and 35% of our expenses are transacted in currencies other than the U.S. Dollar. Because we report our results of operations in U.S. Dollars, currency translation, particularly changes in the Euro, Yen, Shekel, and Rupee relative to the U.S. Dollar, affects our reported results. Our constant currency disclosures are calculated by multiplying the results in local currency for the quarterly periods for FY'24 and FY'23 by the exchange rates in effect on September 30, 2023.

Revenue

Under ASC 606, the volume, mix, and duration of contract types (support, SaaS, on-premises subscription) starting or renewing in any given period can have a material impact on revenue in the period, and as a result can impact the comparability of reported revenue period over period. We recognize revenue for the license portion of on-premises subscription contracts up front when we deliver the licenses to the customer, typically on the start date, and we recognize revenue on the support portion of on-premises subscription contracts and stand-alone support contracts ratably over the term. We continue to convert existing support contracts to on-premises subscriptions, resulting in a shift to up-front recognition of on-premises subscription license revenue in the period converted compared to ratable recognition for a perpetual support contract. Revenue from our cloud services (primarily SaaS) contracts is recognized ratably. We expect that over time a higher portion of our revenue will be recognized ratably as we expand our SaaS offerings, as we release additional cloud functionality into our products, and as customers migrate from on-premises subscriptions to SaaS. Given the different mix, duration and volume of new and renewing contracts in any period, year-over-year or sequential revenue can vary significantly.

Revenue by Line of Business

(Dollar amounts in millions)		Three months ended								Percent Change								Nine months ended								Percent Change
		June 30, 2024				June 30, 2023				Actual				Constant Currency				June 30, 2024				June 30, 2023				Actual				Constant Currency
License		$	149.1			$	192.9				(23	)%			(21	)%		$	567.4			$	562.6				1	%			0	%
Support and cloud services			339.5				313.7				8	%			9	%			1,006.4				875.4				15	%			15	%
Software revenue			488.6				506.7				(4	)%			(2	)%			1,573.8				1,438.1				9	%			9	%
Professional services			30.0				35.7				(16	)%			(15	)%			98.1				112.4				(13	)%			(13	)%
Total revenue		$	518.6			$	542.3				(4	)%			(3	)%		$	1,671.9			$	1,550.4				8	%			8	%

Software revenue decreased in Q3'24 compared to Q3'23, primarily driven by lower license revenue in Q3'24 due to shorter contract durations and an increase in the proportion of ratably recognized SaaS contracts compared to on-premises subscription contracts. Software revenue growth in the first nine months of FY'24 was driven by PLM, which included the contribution from ServiceMax (acquired in early Q2'23), and CAD.

License revenue growth was relatively flat in the first nine months of FY'24, reflecting CAD and PLM growth in Europe and Asia Pacific, offset by lower license revenue in the Americas, particularly in PLM.

Support and cloud services revenue growth in Q3'24 was mainly driven by PLM growth in the Americas and Europe. Support and cloud services revenue growth in the first nine months of FY'24 was driven by PLM (which included contribution from ServiceMax) in the Americas and Europe.

Professional services revenue decreased in Q3'24 and the first nine months of FY'24 as we continue to execute on our strategy of leveraging partners to deliver services rather than contracting to deliver services ourselves.

Software Revenue by Product Group

(Dollar amounts in millions)		Three months ended								Percent Change								Nine months ended								Percent Change
		June 30, 2024				June 30, 2023				Actual				Constant Currency				June 30, 2024				June 30, 2023				Actual				Constant Currency
PLM		$	300.3			$	314.4				(4	)%			(4	)%		$	958.6			$	864.4				11	%			10	%
CAD			188.3				192.3				(2	)%			0	%			615.2				573.7				7	%			7	%
Software revenue		$	488.6			$	506.7				(4	)%			(2	)%		$	1,573.8			$	1,438.1				9	%			9	%

PLM software revenue decreased in Q3'24, driven by lower revenue in the Americas. PLM software revenue growth in the first nine months of FY’24 was driven by the contribution from ServiceMax (acquired in early Q2’23) and growth in Europe. Year-over-year PLM software revenue growth for the first nine months of FY'24 excluding Q1'24 ServiceMax revenue would have been 6% (5% constant currency).

PLM ARR grew 12% (13% constant currency) from Q3’23 to Q3'24.

CAD software revenue decreased in Q3'24 compared to Q3'23, primarily due to lower revenue in the Americas. Year-over-year CAD software revenue growth for the first nine months of FY'24 was primarily driven by revenue growth in Europe and Asia Pacific.

CAD ARR grew 8% (10% constant currency) from Q3’23 to Q3’24.

Gross Margin

(Dollar amounts in millions)		Three months ended												Nine months ended
		June 30, 2024				June 30, 2023				Percent Change				June 30, 2024				June 30, 2023				Percent Change
License gross margin		$	137.0			$	181.4				(24	)%		$	534.4			$	521.3				3	%
License gross margin percentage			92	%			94	%							94	%			93	%
Support and cloud services gross margin		$	269.5			$	245.5				10	%		$	802.0			$	697.8				15	%
Support and cloud services gross margin percentage			79	%			78	%							80	%			80	%
Professional services gross margin		$	0.2			$	(0.4	)			138	%		$	3.5			$	6.1				(43	)%
Professional services gross margin percentage			1	%			(1	)%							4	%			5	%
Total gross margin		$	406.7			$	426.5				(5	)%		$	1,339.9			$	1,225.3				9	%
Total gross margin percentage			78	%			79	%							80	%			79	%
Non-GAAP gross margin(1)		$	422.3			$	442.2				(5	)%		$	1,384.7			$	1,266.8				9	%
Non-GAAP gross margin percentage(1)			81	%			82	%							83	%			82	%

(1)

Non-GAAP financial measures are reconciled to GAAP results under Non-GAAP Financial Measures below.

License gross margin changes in Q3'24 and the first nine months of FY'24 compared to the corresponding FY'23 periods were in line with changes in license revenue. License gross margin growth in the first nine months of FY'24 was due mainly to lower intangible amortization expense. Cost of license revenue in Q3'24 remained consistent with Q3'23.

Support and cloud services gross margin growth in Q3'24 and the first nine months of FY'24 compared to the corresponding FY'23 periods was in line with support and cloud services revenue growth. Cost of support and cloud services revenue in the first nine months of FY’24 grew at a similar rate to revenue, driven by higher intangible amortization expense, compensation expense, and royalty expense. Cost of support and cloud services revenue in Q3'24 remained consistent with Q3'23.

Professional services gross margin decreased in first nine months of FY'24 compared to the corresponding FY'23 period, primarily due to lower margins on business subcontracted to partners. Professional services gross margin improved in Q3'24 compared to Q3'23 due to lower outside services and compensation costs. The decreases in professional services revenue and costs are due to our continued execution on our strategy of leveraging partners to deliver services rather than contracting to deliver services ourselves.

Operating Expenses

(Dollar amounts in millions)		Three months ended												Nine months ended
		June 30, 2024				June 30, 2023				Percent Change				June 30, 2024				June 30, 2023				Percent Change
Sales and marketing		$	140.3			$	145.1				(3	)%		$	411.8			$	392.7				5	%
% of total revenue			27	%			27	%							25	%			25	%
Research and development		$	110.3			$	103.8				6	%		$	323.0			$	292.3				10	%
% of total revenue			21	%			19	%							19	%			19	%
General and administrative		$	49.7			$	57.1				(13	)%		$	180.4			$	173.9				4	%
% of total revenue			10	%			11	%							11	%			11	%
Amortization of acquired intangible assets		$	10.7			$	10.7				0	%		$	31.5			$	29.4				7	%
% of total revenue			2	%			2	%							2	%			2	%
Restructuring and other credits, net		$	—			$	(0.0	)			(100	)%		$	(0.8	)		$	(0.4	)			113	%
% of total revenue			0	%			(0	)%							(0	)%			(0	)%
Total operating expenses		$	310.9			$	316.6				(2	)%		$	945.8			$	887.9				7	%

Total headcount increased 4% between Q3’23 and Q3’24.

Operating expenses in Q3'24 decreased compared to Q3'23, primarily due to the following:

a $7 million decrease in marketing expense, primarily due to not holding our LiveWorx event in FY'24; and

a $6 million decrease in stock-based compensation, driven by Q3'24 changes in estimated attainment for performance-based grants and less expense for grants related to the ServiceMax acquisition;

partially offset by:

a $3 million increase in compensation expense, excluding stock-based compensation; and

a $3 million increase in outside services, driven by consulting services related to corporate initiatives.

Operating expenses in the first nine months of FY'24 increased compared to the first nine months of FY'23, due to the following:

a $44 million increase in compensation expense driven by our Q2'23 acquisition of ServiceMax, higher headcount, and annual salary increases in Q3'23;

a $13 million increase in stock-based compensation expense, driven in part by acceleration of equity grants held by our former CEO upon his separation from service in Q2'24 (which expense is included in General and administrative), as well as the impact of an FY'24 change in eligibility for continued vesting upon retirement for a subset of prospective equity grants; and

an $8 million increase in outside services, driven by consulting services related to corporate initiatives;

partially offset by:

a $16 million decrease in acquisition and transaction-related costs, largely driven by costs associated with our Q2'23 acquisition of ServiceMax; and

a $10 million decrease in marketing expense, primarily due to not holding our LiveWorx event in FY'24.

Interest Expense

(Dollar amounts in millions)		Three months ended												Nine months ended
		June 30, 2024				June 30, 2023				Percent Change				June 30, 2024				June 30, 2023				Percent Change
Interest and debt premium expense		$	(27.8	)		$	(35.8	)			(22	)%		$	(94.7	)		$	(93.7	)			1	%

Interest expense in both FY'23 and FY'24 includes interest on our revolving credit facility, term loan, and our senior notes due 2025 and 2028. Interest expense in FY'23 also included interest on a deferred acquisition payment associated with the ServiceMax acquisition. Interest expense decreased in Q3'24 compared to Q3'23 primarily due to lower aggregate debt and deferred acquisition payments. The increase in interest expense in the first nine months of FY'24 compared to the first nine months of FY'23 was driven by higher interest rates, offset by lower aggregate debt and deferred acquisition payments.

Other Income (Expense)

(Dollar amounts in millions)		Three months ended												Nine months ended
		June 30, 2024				June 30, 2023				Percent Change				June 30, 2024				June 30, 2023				Percent Change
Interest income		$	1.0			$	1.4				(25	)%		$	3.4			$	3.9				(12	)%
Other income (expense), net			(1.7	)			1.1				(258	)%			(4.1	)			(3.5	)			(18	)%
Other income (expense), net		$	(0.7	)		$	2.5				(127	)%		$	(0.7	)		$	0.4				(268	)%

Other income (expense), net was lower in Q3'24 compared to Q3'23, driven by foreign currency exchange losses. Other income (expense), net was lower in the first nine months of FY'24 compared to the first nine months of FY'23 due to a $2.0 million impairment loss related to an available-for-sale debt security classified as a Level 3 investment, offset by lower foreign exchange losses.

Income Taxes

(Dollar amounts in millions)		Three months ended												Nine months ended
		June 30, 2024				June 30, 2023				Percent Change				June 30, 2024				June 30, 2023				Percent Change
Income before income taxes		$	67.4			$	76.5				(12	)%		$	298.7			$	244.0				22	%
Provision (benefit) for income taxes		$	(1.6	)		$	15.1				(111	)%		$	48.9			$	44.1				11	%
Effective income tax rate			(2	)%			20	%							16	%			18	%

The effective tax rate for Q3'24 and the first nine months of FY'24 was lower than the effective tax rate for the corresponding prior-year periods primarily due to changes in the geographic mix of income before taxes and the non-cash effects of IRS procedural guidance requiring IRS consent for certain previously automatic changes of accounting method. The IRS procedural guidance change significantly increased our estimated taxable income for 2024, resulting in an increase to the estimated tax benefit for the deductions associated with Global Intangible Low-taxed Income and Foreign-derived Intangible Income. The benefit from this change for Q3’24 and the first nine months of FY’24 will reverse in a future fiscal period if we receive IRS consent for a change in the treatment of these deductions. For the first nine months of FY'24, this was offset by a tax expense of $3.6 million related to a tax reserve in a foreign jurisdiction.

Critical Accounting Policies and Estimates

There were no material changes to our critical accounting policies and estimates as set forth under the heading Critical Accounting Policies and Estimates in Part II, Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations of our 2023 Annual Report on Form 10-K.

Recent Accounting Pronouncements

In accordance with recently issued accounting pronouncements, we will be required to comply with certain changes in accounting rules and regulations. Refer to Note 1. Basis of Presentation to the Condensed Consolidated Financial Statements of this Quarterly Report on Form 10-Q, which is incorporated herein by reference, for all recently issued accounting pronouncements, none of which are expected to have a material effect.

Liquidity and Capital Resources

(in millions)		June 30, 2024				September 30, 2023
Cash and cash equivalents		$	247.7			$	288.1
Restricted cash			0.6				0.7
Total		$	248.3			$	288.8
(in millions)		Nine months ended
		June 30, 2024				June 30, 2023
Net cash provided by operating activities		$	651.9			$	561.1
Net cash used in investing activities		$	(99.5	)		$	(866.1	)
Net cash provided by (used in) financing activities		$	(590.9	)		$	307.5

Cash, Cash Equivalents and Restricted Cash

We invest our cash with highly rated financial institutions. Cash and cash equivalents include highly liquid investments with original maturities of three months or less.

Due to the stability of our subscription model and consistency of annual, up-front billing, we aim to maintain a low cash balance. A significant portion of our cash is generated and held outside the U.S. As of June 30, 2024, we had cash and cash equivalents of $37.1 million in the U.S., $99.5 million in Europe, $88.5 million in Asia Pacific (including India) and $22.6 million in other countries. We have substantial cash requirements in the U.S. but believe that the combination of our existing U.S. cash and cash equivalents, cash available under our revolving credit facility, future U.S. operating cash flows, and our ability to repatriate cash to the U.S. will be sufficient to meet our ongoing U.S. operating expenses and known capital requirements.

Cash Provided by Operating Activities

Cash provided by operating activities increased $90.8 million in the first nine months of FY'24 compared to the same period in FY'23. The increase was driven by higher collections (including contribution from ServiceMax) and lower vendor disbursements, which were partially offset by higher interest and salary-related payments. Interest payments in the first nine months of FY'24 were approximately $60 million higher than in the prior-year period and include the payment of $30.0 million of imputed interest on the ServiceMax deferred acquisition payment.

Cash Used in Investing Activities

Cash used in investing activities in the first nine months of FY'24 was driven by the acquisition of pure-systems for $93.5 million in Q1'24. Cash used in investing activities in the first nine months of FY'23 was driven by a payment of $828.2 million in Q2'23 related to the acquisition of ServiceMax. Capital expenditures in the first nine months of FY'24 were lower than in the prior year period as we invest more in cloud-based rather than on-premises software.

Cash Provided by (Used in) Financing Activities

Cash used in financing activities in the first nine months of FY'24 included $620.0 million paid to settle the ServiceMax deferred acquisition payment, partially offset by net borrowings of $109.0 million ($944.8 million borrowed under the revolving line of our existing credit facility, less payments of $835.8 million) to

fund the ServiceMax deferred acquisition payment and the pure-systems acquisition. In the first nine months of FY'24, payments of withholding taxes in connection with vesting of stock-based awards were higher than in FY'23, primarily driven by vesting of awards held by our former CEO in connection with the CEO succession in Q2'24.

Cash provided by financing activities in the first nine months of FY'23 included net new borrowings of $771.0 million (a $500.0 million term loan and a $271.0 million incremental revolving line) to fund the ServiceMax acquisition, repayments of $385.0 million on the new revolving facility, and payments of $13.4 million related to credit facility origination costs.

Outstanding Debt

(in millions)		June 30, 2024				September 30, 2023
4.000% Senior notes due 2028		$	500.0			$	500.0
3.625% Senior notes due 2025			500.0				500.0
Credit facility revolver line			322.0				202.0
Credit facility term loan			493.8				500.0
Total debt		$	1,815.8			$	1,702.0
Unamortized debt issuance costs for the senior notes			(4.6	)			(6.2	)
Total debt, net of issuance costs		$	1,811.2			$	1,695.8
Undrawn under credit facility revolver		$	928.0			$	1,048.0
Undrawn under credit facility revolver available to borrow		$	912.1			$	384.6

As of June 30, 2024, we were in compliance with all financial and operating covenants of the credit facility and the note indenture. As of June 30, 2024, the annual rate for borrowings outstanding under the credit facility was 6.9%.

Our credit facility and our senior notes are described in Note 10. Debt to the Condensed Consolidated Financial Statements of this Quarterly Report on Form 10-Q. As of June 30, 2024, $518.1 million of our debt was classified as current, including $499.3 million associated with the 2025 senior notes and related debt issuance costs which will become due in February 2025.

Future Expectations

We believe that existing cash and cash equivalents, together with cash generated from operations and amounts available under the credit facility, will be sufficient to meet our working capital and capital expenditure requirements through at least the next twelve months and to meet our known long-term capital requirements.

For the remainder of FY'24, we expect to use substantially all our cash generated from operating activities to repay debt outstanding under our revolving credit facility.

Our expected uses and sources of cash could change, our cash position could be reduced, and we could incur additional debt obligations if we retire other debt, engage in strategic transactions, or repurchase shares, any of which could be commenced, suspended, or completed at any time. Any such repurchases or retirement of debt will depend on prevailing market conditions, our liquidity requirements, contractual restrictions and other factors. The amounts involved in any debt retirement or issuance, share repurchases, or strategic transactions may be material.

Operating Measure

ARR

ARR (Annual Run Rate) represents the annualized value of our portfolio of active subscription software, SaaS, hosting, and support contracts as of the end of the reporting period. We calculate ARR as follows:

We consider a contract to be active when the product or service contractual term commences (the “start date”) until the right to use the product or service ends (the “expiration date”). Even if the contract with the customer is executed before the start date, the contract will not count toward ARR until the customer right to receive the benefit of the products or services has commenced.

For contracts that include annual values that increase over time, which we refer to as ramp contracts, we include in ARR only the annualized value of components of the contract that are considered active as of the date of the ARR calculation. We do not include any future committed increases in the contract value as of the date of the ARR calculation.

As ARR includes only contracts that are active at the end of the reporting period, ARR does not reflect assumptions or estimates regarding future customer renewals or non-renewals.

Active contracts are annualized by dividing the total active contract value by the contract duration in days (expiration date minus start date), then multiplying that by 365 days (or 366 days for leap years).

We believe ARR is a valuable operating measure to assess the health of a subscription business because it is aligned with the amount that we invoice the customer on an annual basis. We generally invoice customers annually for the current year of the contract. A customer with a one-year contract will typically be invoiced for the total value of the contract at the beginning of the contractual term, while a customer with a multi-year contract will be invoiced for each annual period at the beginning of each year of the contract.

ARR increases by the annualized value of active contracts that commence in a reporting period and decreases by the annualized value of contracts that expire in the reporting period.

As ARR is not annualized recurring revenue, it is not calculated based on recognized or unearned revenue and is not affected by variability in the timing of revenue under ASC 606, particularly for on-premises license subscriptions where a substantial portion of the total value of the contract is recognized as revenue at a point in time upon the later of when the software is made available, or the subscription term commences.

ARR should be viewed independently of recognized and unearned revenue and is not intended to be combined with, or to replace, either of those items. Investors should consider our ARR operating measure only in conjunction with our GAAP financial results.

Non-GAAP Financial Measures

Our non-GAAP financial measures and the reasons we use them and exclude the items identified below are described in Management's Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended September 30, 2023.

The non-GAAP financial measures presented in the discussion of our results of operations and the respective most directly comparable GAAP measures are:

free cash flow—cash flow from operations

non-GAAP gross margin—GAAP gross margin

non-GAAP operating income—GAAP operating income

non-GAAP operating margin—GAAP operating margin

non-GAAP net income—GAAP net income

non-GAAP diluted earnings per share—GAAP diluted earnings per share

The non-GAAP financial measures other than free cash flow exclude, as applicable: stock-based compensation expense; amortization of acquired intangible assets; acquisition and transaction-related charges included in General and administrative expenses; Restructuring and other charges (credits), net; non-operating charges (credits); and income tax adjustments as defined in our Annual Report on Form 10-K for the fiscal year ended September 30, 2023 and as reflected in the reconciliation tables.

The items excluded from the non-GAAP financial measures often have a material impact on our financial results, certain of those items are recurring, and other such items often recur. Accordingly, the non-GAAP financial measures included in this Quarterly Report on Form 10-Q should be considered in addition to, and not as a substitute for or superior to, the comparable measures prepared in accordance with GAAP. The following tables reconcile each of these non-GAAP financial measures to its most closely comparable GAAP measure on our financial statements.

(in millions, except per share amounts)		Three months ended								Nine months ended
		June 30, 2024				June 30, 2023				June 30, 2024				June 30, 2023
GAAP gross margin		$	406.7			$	426.5			$	1,339.9			$	1,225.3
Stock-based compensation			5.9				5.8				16.0				15.7
Amortization of acquired intangible assets included in cost of revenue			9.7				9.8				28.8				25.8
Non-GAAP gross margin		$	422.3			$	442.2			$	1,384.7			$	1,266.8
GAAP operating income		$	95.8			$	109.9			$	394.1			$	337.3
Stock-based compensation			48.0				53.8				161.2				147.6
Amortization of acquired intangible assets			20.4				20.5				60.3				55.2
Acquisition and transaction-related charges			0.2				0.8				3.0				18.5
Restructuring and other credits, net			—				(0.0	)			(0.8	)			(0.4	)
Non-GAAP operating income		$	164.4			$	185.0			$	617.8			$	558.2
GAAP net income		$	69.0			$	61.4			$	249.8			$	199.9
Stock-based compensation			48.0				53.8				161.2				147.6
Amortization of acquired intangible assets			20.4				20.5				60.3				55.2
Acquisition and transaction-related charges			0.2				0.8				3.0				18.5
Restructuring and other credits, net			—				(0.0	)			(0.8	)			(0.4	)
Non-operating charges(1)			—				—				2.0				5.1
Income tax adjustments(2)			(19.5	)			(18.8	)			(48.2	)			(52.5	)
Non-GAAP net income		$	118.0			$	117.7			$	427.3			$	373.4
GAAP diluted earnings per share		$	0.57			$	0.51			$	2.07			$	1.68
Stock-based compensation			0.40				0.45				1.34				1.24
Amortization of acquired intangible assets			0.17				0.17				0.50				0.46
Acquisition and transaction-related charges			0.00				0.01				0.02				0.16
Restructuring and other credits, net			—				(0.00	)			(0.01	)			(0.00	)
Non-operating charges(1)			—				—				0.02				0.04
Income tax adjustments(2)			(0.16	)			(0.16	)			(0.40	)			(0.44	)
Non-GAAP diluted earnings per share		$	0.98			$	0.99			$	3.54			$	3.14
Cash provided by operating activities		$	213.8			$	169.2			$	651.9			$	561.1
Capital expenditures			(1.6	)			(5.1	)			(9.8	)			(18.0	)
Free cash flow		$	212.2			$	164.1			$	642.0			$	543.1

(1)

In the first nine months of FY'24, we recognized an impairment loss of $2.0 million on an available-for-sale debt security. In the first nine months of FY'23, we recognized $4.2 million of financing charges for a debt commitment agreement associated with our acquisition of ServiceMax.

(2)

Income tax adjustments reflect the tax effects of non-GAAP adjustments which are calculated by applying the applicable tax rate by jurisdiction to the non-GAAP adjustments listed above. Additionally, in the first nine months of FY'24, adjustments exclude a tax expense of $3.6 million for a tax reserve related to prior years in a foreign jurisdiction.

Operating margin impact of non-GAAP adjustments:

		Three months ended								Nine months ended
		June 30, 2024				June 30, 2023				June 30, 2024				June 30, 2023
GAAP operating margin			18.5	%			20.3	%			23.6	%			21.8	%
Stock-based compensation			9.3	%			9.9	%			9.6	%			9.5	%
Amortization of acquired intangible assets			3.9	%			3.8	%			3.6	%			3.6	%
Acquisition and transaction-related charges			0.0	%			0.1	%			0.2	%			1.2	%
Restructuring and other credits, net			0.0	%			0.0	%			0.0	%			0.0	%
Non-GAAP operating margin			31.7	%			34.1	%			37.0	%			36.0	%