Secret Agents

Stock Pick: ServiceNow (NOW-US, $238B MCAP)

After being pronounced dead, software is so back.

Many talking heads came out with long rants about how AI is eating software. When new disruptive technologies come along, its easy to say that incumbents are dead.

However, traditional software companies are starting to look like they are embracing this technology instead of getting disrupted by it.

Companies that can enable this new technology, and integrate it into their existing product suite are starting to see additional cross-sell opportunities.

The reality is that changes happen slowly in large corporations. These companies have taken decades to adopt digital transformation. Some businesses even still send paper cheques!

This week’s pick is already ingrained in the digital infrastructure of large companies. The sales cycle here is long and arduous, and the replacement cost is high. This gives it a wedge into which it can then shift its business model away from traditional SaaS and towards a hybrid SaaS-consumption revenue model that will benefit from the introduction of AI agents.

Welcome to the new digital world.

• Overview 👉 What Does ServiceNow Do?

• Product Suite 👉 Now Platform

• How Do They Make Money? 👉 Subscriptions

• By The Numbers 👉 Key Metrics

• New Growth Driver👉 GenAI Monetization

• Risks 👉 Potential Pitfalls

Overview 👉 What Does ServiceNow Do?

ServiceNow is cloud-based software company that provides comprehensive workflow automation tools to large enterprises. Originally known for its IT Service Management (ITSM) platform, it has steadily expanded into a broader suite of offerings — ranging from HR service delivery and customer support to governance, risk, and compliance solutions. Land and expand baby! At the foundation of its product lineup lies the Now Platform, a single, integrated platform that enables organizations to streamline their business processes, break down operational silos, and increase overall efficiency and productivity.

In an era where companies are urgently adopting digital solutions to stay competitive, ServiceNow’s technology has become a cornerstone in helping them modernize their internal operations. By automating manual tasks, integrating disparate systems, and leveraging artificial intelligence for proactive problem-solving, ServiceNow empowers enterprises to enhance service quality while lowering costs. You hear this term in software a bunch — TCO (Total Cost of Ownership). TCO estimates the cost of acquiring, operating, and retiring software. ServiceNow is the best in the biz in this area, which makes it a compelling ROI case when looked at by IT budgeting committees.

As more enterprises embrace cloud-based solutions, digitize their back-end processes, and invest in reducing operational friction, ServiceNow stands well-positioned to capture a larger share of a growing, global market. Ultimately, this combination of robust product innovation, entrenched enterprise relationships, and favorable market trends should support long-term revenue expansion, margin improvement, and solid returns for investors.

Product Suite 👉 Now Platform

The Now Platform is ServiceNow’s core, cloud-based foundation that powers a wide range of enterprise workflow automation solutions. It provides a unified environment where businesses can integrate their IT, HR, customer service, and other critical functions, enabling them to streamline complex processes, reduce silos, and increase operational efficiency.

By offering a single system of action—enhanced with artificial intelligence, machine learning, and predictive analytics—the Now Platform not only simplifies day-to-day tasks but also drives proactive decision-making, ultimately helping organizations scale more effectively, respond more quickly to market changes, and deliver superior experiences to employees and customers alike.

If this description sounds expansive, that’s because it is. Here is a table of all the different areas of the IT stack that ServiceNow optimizes:

How Do They Make Money? 👉 Subscriptions

ServiceNow primarily generates revenue through subscription fees for access to its cloud-based software platform. Businesses pay ongoing, recurring fees—often on a per-user, per-module basis—to utilize the various workflows and automation tools aligned with their particular operational needs.

These subscription arrangements commonly span one to three years and are often renewed given the platform’s integral role in daily operations, providing ServiceNow with a highly predictable revenue stream.

ServiceNow is a textbook land and expand software company. They revenue-stack modules within existing customer cohorts in order to experience very steady recurring revenue growth. Land and expand can be best shown in this chart which shows the customer cohort growth over time. Do this for over a decade, and you can experience exponential Annual Contract Value (ACV) growth:

By The Numbers 👉 Key Metric

The predictability here is a thing of beauty. With highly visible reporting metrics, one of the most attractive parts of this company is just how predictable it has been.

Two key forward indicators of revenue growth are cRPO (current Remaining Performance Obligations) and Noncurrent RPO.

cRPO is the subset of contracted business that has yet to be recognized as revenue but is expected to be realized over the next 12 months. Since it captures obligations slated for near-term delivery, cRPO serves as a more immediate indicator of upcoming revenue and can highlight the company’s short-term growth trajectory.

By contrast, RPO encompasses the entire backlog of contracted revenue that is yet to be recognized, including both short-term and longer-term commitments. This broader metric offers insight into the company’s pipeline beyond the next year and can show how well its sales engine is driving long-term value.

In essence, revenue reflects what ServiceNow has already delivered, cRPO points to what the company will likely deliver in the near term, and RPO provides visibility into the longer-term runway of contractual agreements. Together, these three measures help provide a comprehensive view of current performance, short-term momentum, and long-term sustainability. This has led to clockwork growth YoY over the most recent five quarters:

To further show off the predictability of this compounder, we turn to profitability. from FY22 to FY23 ServiceNow has expanded operating margins while maintaining FCF margins:

New Growth Driver👉 GenAI Monetization

One area that I want to focus specifically on is their new AI offering. This is the greenfield area of growth that I think can accelerate the next leg up.

ServiceNow's Agentic AI offering will allow users to deploy autonomous agents across ITSM, CSM, HRSD, ITOM, Creator & other workflows in order to drive efficiency gains & cost savings for customers. Driven by domain-specific LLMs (trained on use-specific data sets), customers can automate end-to-end workflows with out-of-the-box agents or custom builds that are tailored to specific needs. To power these agentic networks (leveraging different agents for different tasks), NOW has built an improved data architecture that taps into customers' enterprise data for realtime, secure access across a single control plane.

Layering on these Agents has already lead to an increase in incremental spend on the Pro+ SKU in the first 12 months since launch. Adoption of the Pro+ platform launched in Q4 of 2018 has reached 45% as of the most recent quarter, and I believe this is set to further accelerate due to GenAI implementations. All this leads to a 30% uplift in ACV. Remember that stacking chart above? This will lead to further exponential growth.

Within this structure, ServiceNow is also adapting to a large change in the industry — a shift towards consumption-based pricing models. This will insulate them from potential decreased headcount as AI Agents slow headcount growth across IT teams.

Risks 👉 Potential Pitfalls

• Slow Growth: The adoption of NOW's Pro Plus SKU and GenAI workflows is not as strong as expected, weighing on investor sentiment and growth levers.

• Pricing Risk: Efficiencies from GenAI limit seat expansions & ServiceNow fails to capture price on a value- or consumption-based basis.

• Competition: Other market players are heavily investing in this space, as are potential new AI-native incumbents that could take market share.

• Macroeconomics: Market conditions deteriorate, causing longer sales cycles & greater budget scrutiny and impacting subscription growth rates going forward.

Wrapping Up…

ServiceNow has been a strong compounder in the market ever since it went public in 2012. It has done this in an extremely capital efficient manner, plowing free cash flow back into growth initiatives.

They have engrained their mission-critical product into the core workflows across large blue-chip customers which faces an extremely high cost to replace.

Being so close to the customer data has massive advantages when implementing new solutions.

If they can get this AI Agent component right and fend off competition, this should add an entirely new growth vector that will see this company continue to compound.

This is one you can buy and sleep easy at night.

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Cheers,

The GRIT Alpha Team