Prepared remarks
Good day, and welcome to the Vertex Inc. Third Quarter 2025 Earnings Conference Call. Please note that this conference is being recorded. I would now like to turn the conference over to Joe Crivelli, Vice President, Investor Relations. Thank you, and over to you.
Hello, and thanks for joining us to discuss Vertex's third quarter results. David DeStefano, our President and CEO; and John Schwab, our CFO, are also with us today. During this call, we may make forward-looking statements about expected future results. Actual results may differ due to risks and uncertainties. These risks and uncertainties are described in our filings with the Securities and Exchange Commission. Our remarks today will also include references to non-GAAP metrics. A reconciliation of these metrics to GAAP is also provided in today's press release. This call is being recorded and will be available for replay on our Investor Relations website. I'll now turn the call over to David.
Welcome, everyone, and thank you for joining us. Our third quarter performance demonstrated continued momentum in core strategic areas while managing specific market and customer headwinds. The strength of our strategy was evident in our strong cloud revenue growth, the increased margin leverage driven by automation initiatives and strong cash flow performance. We also saw accelerating traction in e-invoicing and improved SAP activity. However, offsetting this was the persistence of lower-than-typical growth from existing customer entitlements as previously discussed in our second quarter earnings call. In addition, the bankruptcy of three large enterprise customers as well as several accelerated migrations to our new cloud platform impacted customer retention metrics. I will highlight the specifics of all of this and their impact on certain metrics in a moment. Our revenue results for the third quarter were in line with our guidance, while adjusted EBITDA exceeded expectations.
Revenue was $192.1 million, up 12.7% year-over-year. Subscription revenue grew 12.7% and cloud revenue growth was 29.6%. Adjusted EBITDA was a record $43.5 million, exceeding the high end of our guidance by $2.5 million and representing an EBITDA margin of 22.6%. And free cash flow was very strong at $30.2 million in the third quarter. In addition, annual recurring revenue, or ARR, grew 12.4% to $648.2 million. Average annual revenue per customer increased 12.4% year-over-year to $133,000. Scaled customer count grew 14%. Gross revenue retention or GRR remained at 95% in the third quarter within our targeted best-in-class range of 94% to 96% and net revenue retention or NRR decreased to 107%, down one point from the second quarter. First and foremost, I want to provide more specific details into the items that impacted customer retention metrics. As we have discussed each quarter, we experienced moderate customer turnover at the very low end of our customer base and discontinuation of legacy product usage by customers who have migrated to our new cloud solutions.
In Q3, we experienced an unusual impact in these areas. Certain enterprise customers, including Big Lots, Party City and JOANN Fabrics, canceled licenses due to bankruptcy. This impacted retention metrics by approximately $2 million. Additionally, we had three large customers who had previously migrated to our new cloud platform, complete their own internal legacy ERP migrations faster than previously anticipated, which enabled them to downsize that portion of their subscription fees with us. This impacted NRR by another $2-plus million. Beyond these anomalies, management was encouraged by the progress achieved across several of our ongoing growth initiatives. On e-invoicing, ecosio had a strong quarter and contributed revenue of $4.1 million. This is an increase of approximately 30% from their run rate in last year's third quarter when we acquired the company. We have landed over 100 customers since declaring general availability in late March, all fit nicely into our expected land and expand experience.
Additionally, we are seeing success with our integrated product strategy, which includes both e-invoicing and value-added tax compliance in one platform with full end-to-end documentation and audit support. In the third quarter, we continued to see an influx of new customers driven by upcoming e-invoice mandates, including Belgium, France and Germany, which we expect to accelerate as those actual deadlines approach. Ongoing cloud migrations with ERP vendors, including our partners, SAP and Oracle remain solid with pipeline build improvements appearing. And the expense control initiatives we discussed last quarter are driving improving earnings leverage as demonstrated by our strong adjusted EBITDA and free cash flow results this quarter. This quarter's progress on our long-term growth initiatives validates we still have significant greenfield opportunity with enterprise customers that are currently using legacy homegrown or manual solutions for indirect tax compliance and are migrating to the cloud.
We continue to believe we have approximately three times opportunity with our existing installed base, which we will penetrate by expanding usage throughout their organizations or by cross-selling additional products. We have major tailwinds in front of us from the upcoming e-invoicing mandates in major countries like Belgium, France, and Germany. Demonstrating our confidence in Vertex's long-term growth opportunity, today, we announced that the Board of Directors has authorized the repurchase of up to $150 million of Vertex shares in the open market. Coupled with our progress on several growth areas, I'm excited with the number of AI initiatives the team advanced in the quarter. We are executing on three fronts to commercialize AI, which are focused on enabling new logo wins and wallet expansion with existing customers, driving enhanced customer retention through targeted ecosystem interoperability, and participating in new segments ripe for disruption.
We are seeing ongoing traction with our smart categorization offering. And last week at our annual customer conference, we highlighted several new agentic capabilities on our cloud platform. These are focused on workflow capabilities and data management. The customer conference was our largest yet with strong attendance from alliance and tech partners highlighting the energy around our customer segment and market opportunity. And the AI sessions were clearly the most oversubscribed sessions by attendees. Additionally, at Exchange, we shared some of the transformational work we are doing, including our pioneering of the first-ever agent-to-agent tax configuration capability for Microsoft Dynamics 365 finance and supply chain. This is another step forward in creating a differentiated experience for Microsoft customers, bringing enterprise innovation to the mid-market. In October, we also launched Kintsugi powered by Vertex, which enables SMBs to automate key compliance functions while providing real-time dashboards for jurisdictional liability and exposure tracking.
Powered by the Vertex tax engine, it delivers the same trusted accuracy and global content that enterprises rely on. In an AI-native experience built for agility and scale, this is just the first of many such new products and initiatives that we expect to launch in partnership with Kintsugi. Exchange was also a clear reminder of the stark difference in tax compliance precision requirements between the enterprise customer and the SMB segment where good enough is sufficient. These complex global multinational enterprises remain very cautious about how AI is being considered in their departments due to inherent limitations. Several points were clear from our discussions there. Enterprise customers know that our solutions operate with the speed and scale they must have to support their business embedded in the workflow of the critical order-to-cash process. Our implementations are complex. It's not uncommon for Vertex to be connected to multiple instances of SAP, an instance of Oracle in another division, a legacy ERP solution in still another, as well as multiple billing and CRM solutions.
We are providing tax answers across that architecture with no latency and enterprise-level accuracy. These enterprise customers cannot afford for a single customer to experience transaction delays as an AI engine spins through scenarios to deliver a tax answer. They rely on the accuracy Vertex provides in every transaction. Enterprise customers are audited constantly by taxing authorities and cannot afford any risk that a probabilistic AI-driven outcome subject to hallucinations delivers an inaccurate tax answer, and they need accountable traceability for tax positions they take in their compliance. In addition, we estimate that as many as 70% of the tax rules in our content database are not easily mined by AI-driven web scraping. In the United States, below the level of state and county, tax rules for municipalities and tax overlay districts are hard to curate, sometimes embedded in meeting minutes that are not easily sourced on the Internet.
In some districts, finding the latest tax rules requires a person-to-person phone call, and all of this requires human judgment and professional curation to codify into the tax content database. These tax rules are constantly changing at a historic pace, and this is likely to get worse with the reduction in federal funding to states as a result of the recently approved tax legislation. I'll now highlight a few business wins. We saw improved momentum in the SAP ecosystem this quarter, driven by ECC to S/4HANA conversions. These transitions created meaningful opportunities for Vertex to expand our footprint with existing customers and win new logos. In the third quarter, we partnered with an existing specialty retail customer on a major ECC to S/4HANA transformation. As part of this initiative, the customer advanced their plan to standardize on Vertex, transitioning additional tax functions from a competitor to our cloud platform.
This expansion resulted in mid-six figures of new revenue and reinforces our role as a strategic partner in their modernization journey. Another long-standing customer in the manufacturing industry launched a company-wide transformation project this year, including a migration from ECC to S/4HANA. As part of their transformation, the customer added VAT calculation across its operating regions and added several SAP tools, resulting in mid-six figures of new revenue for Vertex. This is an example of how our business grows during migration. In addition to receiving a significant like-for-like increase, many customers use this as an opportunity to license additional capabilities. An existing customer that is a leading North American energy services company expanded with Vertex to cover two companies it recently acquired. This customer, which is currently operating on a legacy Oracle ERP solution, selected our private cloud solution and will eventually migrate its entire infrastructure to the cloud as part of an Oracle Cloud transformation.
This customer expansion drove low-six figures of new revenue. While our AI-based smart categorization product is still in limited availability, we added a major grocery store chain to our customer base for this new product. The customer staff was struggling with the labor-intensive nature of tax categorization in its delivery business and is excited about the ability to automate this process. This cross-sell resulted in six figures of new revenue for Vertex. This gives you an idea of the magnitude of sales opportunities with this AI-driven application. At present, we are focusing on the retail industry; hence, the new business win. But over time, we will expand our capabilities to cover other industries. A leading aerospace and defense contractor recently selected Vertex as its preferred indirect tax solution for one of its consumer-facing subsidiaries, fully displacing a competitor across its global operations, including Brazil and India.
This competitive win underscores the strength of Vertex' tax content coverage in complex jurisdictions and is expected to generate mid-six-figure annual revenue. In addition, a global pharmaceutical company selected Vertex as its first external indirect tax provider to support its S/4HANA transformation. This new logo win was driven by Vertex' proven global tax coverage, deep expertise in the pharmaceutical industry, and ability to manage complex requirements. This new business win, which was brought to us by our partner, EY, will also drive mid-six figures of new revenue for Vertex. During a cloud transformation initiative, a global marketing services company replaced an incumbent competitor with Vertex, citing concerns about scalability and infrastructure flexibility. The customer valued Vertex's agnostic deployment model, which aligned with the CIO's preference for private cloud, a feature the competitor did not support.
This strategic win sourced through our partner, Grant Thornton, represents a six-figure new business opportunity. Finally, during the quarter, we won an e-invoicing opportunity with a global real estate investment trust, which is preparing for upcoming mandates in Belgium, France, and Germany. We will also cover Italy and Spain for this customer. Of note, this customer was driving mid-six figures of revenue for Vertex prior to this new business win; e-invoicing will drive high five figures of new revenue. Before I turn the call to John, let me address my succession that we announced in October. I approached the Board of Directors in early 2025 and told them of my plan to retire after 26 years at Vertex. However, I did not set a specific timeline as we wanted to make sure we had the right candidate in place. We launched a comprehensive search process led by a renowned management recruiting firm and considered both internal and external candidates.
Ultimately, we found an exceptional new CEO in Chris Young, who will officially join the company next week. Our search surfaced outstanding candidates from top companies around the world, but Chris stood out as the clear choice. His strategic vision, experience in our ecosystem through his prior role as Executive Vice President of Business Development at Microsoft, and deep familiarity with global enterprises all point to his ability to drive growth and value creation. What truly sets Chris apart, however, is his commitment to fostering a positive performance-driven culture, grounded in respect for people, a quality that aligns closely with our values and leadership philosophy. In addition, Chris was at the vanguard of Microsoft's push into AI and helped shape Microsoft's investment agenda in artificial intelligence and other frontier technologies. His forward-thinking perspective in that regard will be extremely valuable to Vertex and our shareholders.
As for me, I'm not going anywhere. I'm merely transitioning. I will stay on as Nonexecutive Chairperson of the Board, where I will bring all my energy in the months ahead to support Chris and his transition. John will now take you through the financials.
Thanks, David, and good morning, everyone. I'll now review our third quarter financial results and provide guidance for the fourth quarter and full year of 2025. In the third quarter, revenue was $192.1 million, up 12.7% year-over-year. Our subscription revenue increased 12.7% to $164.8 million. Services revenue grew at 12.8% to $27.3 million, and our cloud revenue was $92 million in the third quarter, up 29.6%. Annual recurring revenue, or ARR, was $648.2 million at quarter end, up 12.4% year-over-year. Our net revenue retention, or NRR, was 107% compared to 108% in the second quarter. This was impacted in the third quarter by factors David noted in his prepared remarks. Gross revenue retention or GRR, remained at 95% at quarter end within our targeted range of 94% to 96%. Our average annual revenue per customer or AARPC was $133,484, up 12.4%. For the remainder of the income statement discussion, I will be referring to non-GAAP metrics.
These non-GAAP metrics are reconciled to GAAP in this morning's earnings press release. Gross profit for the third quarter was $142 million, and gross margin was 73.9%. This compares with a gross profit of $126.2 million and a 74% gross margin in the same period last year. Gross margin on subscription software revenue was 81.4% compared to 80.5% in last year's third quarter and 83.2% in the second quarter of 2025. Gross margin on services revenue was 28.8% compared to 35% in last year's third quarter and 33.1% in the second quarter of 2025. The lower margin was due to investments in automation that are expected to drive higher margins into the future. Turning to operating expenses. In the third quarter, research and development expense was $16.8 million compared to $12.9 million last year. With capitalized software spend included, R&D spend was $40.8 million for the quarter, which represents 21.2% of revenue.
Selling and marketing expense was $43.4 million or 22.6% of total revenues, an increase of $5 million and approximately 12.9% from the prior year period. General and administrative expense was $38.4 million, up $2.6 million from last year. Adjusted EBITDA was $43.5 million, up 12.7% compared to 38.6% for the same period last year and exceeding our quarterly guidance. This represents an adjusted EBITDA margin of 22.6%. As a reminder, adjusted EBITDA margins are being impacted in 2025 by accelerated investments to support the two acquisitions we made in 2024 related to e-invoicing and artificial intelligence. On the former, we are investing in ecosio, which we acquired in August 2024 to accelerate country coverage and broaden our go-to-market infrastructure. This represents an investment of approximately $16 million to $20 million in 2025. On the latter, we're investing $10 million to $12 million this year to productize our smart categorization product and adopt AI technologies in other areas of the business.
In the third quarter, operating cash flow was $62.5 million and free cash flow was $30.2 million. We ended the third quarter with over $313.5 million in unrestricted cash and equivalents and $300 million of unused availability under our line of credit. As David mentioned, the Board has authorized a share repurchase of up to $150 million. Now turning to guidance. Reflecting the factors mentioned earlier, including customer bankruptcies and faster-than-expected legacy platform migrations, we now expect fourth quarter revenues of $192 million to $196 million. And for the fourth quarter, we expect adjusted EBITDA of $40 million to $42 million, reflecting an adjusted EBITDA margin of 21.1% at the midpoint. For the full year of 2025, we now expect revenues of $745.7 million to $749.7 million, Cloud revenue growth of 28% and adjusted EBITDA of $159 million to $161 million, reflecting a margin of 21.4% at the midpoint.
Thanks, John. I have been in this industry for 26 years. I have seen it go through countless economic, regulatory and technological cycles. The enterprise segment customer has remained very consistent in their approach to solving their needs for effective tax compliance due to the mission-critical nature of their role. They don't buy on hype. They seek proof. They are focused on mitigating risk and delivering accuracy. They make purchase decisions for the long term based on value. So while we have noted some very specific headwinds to short-term performance in the past two quarters, we remain confident that the fundamental drivers for our long-term growth are strong and growing, and that Vertex will benefit from them with improved performance as we move into 2026 and beyond. My recent experience at our customer conference reinforced my belief in the strength of our alliance partner relationships as we continue to lean into our partner-first strategy.
Our leadership position in the enterprise segment certainly requires continued investment given the pace of accelerating regulatory and technological changes. And in doing so, we are positioned to reward our investors as a result. It is this confidence that is the primary driver for our Board's authorization of the $150 million stock buyback program announced today. I'm thrilled to now have Chris Young join our team and work side-by-side with him in our respective roles to ensure the company realizes the full potential of our opportunities and deliver strong financial performance for years to come. With that, we will take your questions.
Questions and answers
We have the first question from Joshua Reilly from Needham.
I wanted to get your latest thoughts on how you expect the SAP ERP cycle to kind of play out from here. Clearly, there's a lot of companies that still need to migrate to S/4HANA to hit the 2027 deadline. It seems like that's a bit of a stretch. Curious, what's your thoughts in terms of the capacity out there to manage these migrations in the industry? And what are you hearing maybe that improved the deal flow a bit this quarter versus the last couple of quarters?
Yes, thanks for the question. I believe the industry has been preparing for this for several years. In discussions with several of our partners, they've been increasing their staff in anticipation of the upcoming migration processes. That's what I know. I can't provide any further information regarding potential changes to the deadline. SAP continues to emphasize it, so I don't see any fundamental reason to alter it. As we have mentioned, the pipeline remains strong. The challenge has been the efficiency of moving through the pipeline, as the process at the customer level has sometimes slowed due to their own migration delays. We observed a slight improvement in that regard this quarter, which is why we were able to highlight several SAP wins during this period.
Got it. That's helpful. Can you provide more details on whether it was two customers moving to their own homegrown solutions? Is this a partial transition of their business with you to the homegrown system, or is it a complete system? Was this included in your previous guidance, or did you learn about it after you issued your prior guidance?
Yes. These are customers that moved to the Vertex next-generation cloud platform instead of their own systems. When companies undergo a cloud migration like we are, there's often a phase where they are essentially paying for both the new system and the old one. They pay for the new system after re-licensing with Vertex, while also shutting down their old system. This transition period typically lasts a short time. The two companies we are discussing were major customers who had already transitioned to our cloud with a substantial price increase, and they were able to close down their old systems more quickly than we anticipated because they made internal progress that was not forecasted during our previous discussions. We do consider this in our guidance as we project future numbers, but these two customers completed their transitions sooner than what they had initially communicated to us.
We have the next question from the line of Chris Quintero from Morgan Stanley.
And David, let me say, I know you're still going to be around, but it's been a pleasure working with you, and I wish you all the best in this next part of your life here. Maybe on the guidance, I think this is the second time in a row you guys have cut the guide, which I can't remember the last time Vertex has done that. And so just at a high level, has the guidance philosophy changed at all? And how are these kind of cuts informing your assumptions that you're putting into the Q4 guidance here?
Yes, Chris, thank you for the call. No, we have not done this before. You're right. Our philosophy on guidance hasn’t changed at all. We remain careful as we consider guidance. As David mentioned, there were a few factors this quarter that had some effect on us. The bankruptcy and migration activity certainly made an impact. Additionally, the timing of deals that closed in the third quarter and what we anticipate for the fourth quarter also influenced us. We are still concentrating on our services strategy, prioritizing partnerships and downplaying other areas. These were the primary factors behind the change in guidance for the fourth quarter. However, our fundamental philosophy has not shifted.
Got it. It seems that the entitlement growth has been a significant challenge for your net retention rate and growth from expanding customers. I'm curious if there are any insights regarding renewal cohorts, especially since some of these customers have been renewing over the past few years.
Yes, Chris, I believe it's essential to evaluate our company's growth in relation to our customers' growth rates as they progress through our revenue tiers. We lack clarity regarding each customer's projected growth rate, especially in terms of whether they will continue to increase their usage based on their own growth. This has been a challenge we've emphasized in the data shared since our last update in Q2. We are working on gaining a better understanding of the growth guidance our customers are providing to the market and how that might correspond to our anticipated revenue tiers. However, there is a fine line regarding the amount of information we possess and how it translates into our revenue projections, given the timing of their revenues. Unfortunately, this presents a challenge for us.
We have the next question from the line of Alex Sklar from Raymond James.
David, I want to extend my congratulations on your impressive career at Vertex. Shifting focus, I noticed you appointed a new Head of Sales in Europe. Could you discuss that transition? What prompted the leadership change in Europe, and how do you view Europe as an opportunity as we approach 2026 compared to previous quarters?
Yes. Thanks for the kind words. I'm anxious to partner with Chris Young in the future of Vertex. And certainly, in my transition, I expect to be as Nonexecutive Chairperson of the Board. I will be quite active in helping continue to pursue the strategy of this company. I think Europe, it's a timing of just a leadership change. We're continuing to expand the complexity of operations that we have over there with the acquisition of ecosio, and as we push further into the whole e-invoicing marketplace, we had a very good quarter in terms of continued growth there by the ecosio team and our team in general. And just the overall complexity of the opportunity increasing, felt like we wanted somebody who had been there and done that at a high level. And so it's just an up-level opportunity there. We really appreciate the gentleman that led that operation for years, but it was a great opportunity with someone we had a good relationship connection to bring in, and so we capitalized on it.
Okay. Great. And then I don't know if you or John want to take this one. But just as we think about the Q4 growth outlook relative to the kind of the medium-term growth outlook that you spoke to earlier this year, how much of the headwinds like the true-ups, the bankruptcies, the early kind of shutting off of on-prem feel kind of one-time from your standpoint versus anything different about the market you're operating in today in terms of just the pace of technology changes or the pace of that SAP transition or e-invoicing adoption kind of broadly?
Yes. I think I’ll begin. Regarding our midterm guidance, the bankruptcy migration issues we encountered seem to have been unusual for this quarter and are not expected to be a recurring situation. These types of events occur every quarter, but this quarter, we experienced an unusual cluster of significant cases that impacted our results. From this perspective, I view it as a temporary anomaly. Looking ahead, as we assess the quarter's performance and consider what next year might bring, it’s important to remember that we had some substantial adjustments in the fourth quarter of last year, and we expect minimal similar adjustments in this year's fourth quarter. This will influence revenue growth going forward and somewhat dampens the true impact of this quarter.
Right. I mean the actual growth rate for the quarter would be close to 13% if you took out those entitlements. And so I think that is notable. And I do think as you look forward in e-invoicing, I mean, obviously, we're just getting into the whole land-and-expand motion we've talked about that we think is really setting us up well as those France and Germany deadlines come on in 2026. That's really what we've been pointing for. And I think the timing of those adoptions are pretty much falling where we thought it will accelerate as we move into '26 pretty significantly.
We have the next question from the line of Adam Hotchkiss from Goldman Sachs.
David, echoing my best wishes to you. It's been great working with you. I wanted to touch on the comments you made on your customer conference in AI. What was it that customers from your perspective were most interested in from an AI perspective? And where are they from exploratory to actually starting to put some of these things into practice? And I know the Smartcat call on the retail side was interesting. How quickly can you get into other verticals and just get up and running with more customers on that side?
Yes, I think our approach to AI, particularly with the human in the loop, is fundamental to what the enterprise market expects. This is especially important for traceability during audits, as companies need to justify their tax decisions and understand the rationale behind their choices. Keeping the human in the loop is critical. We've also been working on agent-to-agent interactions, which we showcased this quarter with the first-ever connection between our platform and Microsoft Dynamics 365 finance and supply chain. This is encouraging for our customers because it indicates that there will be processes in place to support their value requirements. Our strategy goes beyond simply implementing AI like ChatGPT or Copilot; it aims to enhance efficiency and effectiveness in the market. Smartcat is a particularly exciting offering, and we're beginning to see positive developments due to the categorization challenges our customers face. We're ready to expand beyond retail and are focused on enhancing our retail offerings while increasing our data ingestion capabilities. We'll assess our progress on a quarterly basis, as there is significant interest from our customer base in these advancements.
Okay. Great. That's really helpful color. And then on investments in e-invoicing and AI, just curious how those are tracking. I know that EBITDA did come in a little bit better this quarter. Are you still expecting that margin inflection? And I know that Chris isn't on the call, but just maybe reiterate your confidence level and when and sort of the magnitude of that margin inflection would be helpful.
Yes, that's a great question. We are on track with our investments, specifically the ecosio investments of $4 million to $5 million each quarter, along with our AI investments that primarily center around the Smartcat activities mentioned by David. Those are progressing well, and we are optimistic about the results we've seen so far. Our plan is to have much of this behind us by the middle of next year, and we feel that everything is aligned towards that goal. We anticipate beginning to see some leverage and recognition of these investments. This quarter was strong from a margin standpoint, and we are pleased with those results, which are largely influenced by the leverage we are experiencing throughout our business and our careful spending as we moved into the second half of the year based on discussions from the end of Q2. Overall, we are confident about our investment programs and plan to continue with them without making significant changes to our timing or spending levels. Everything is progressing well.
We have the next question from the line of Jake Roberge from William Blair.
And David, I'll echo my congrats. It's been great working with you over the past few years. Just on the e-invoicing solution, could you talk about how that product compares to some of your competitors out there just from a country coverage perspective? And as we start seeing some of these larger countries like Germany and France go online next year, do you feel like that product is ready for prime time?
Yes, sure. Thank you for the kind words. Yes, number one, France and Germany, priority one, the whole strategy from day one was always to make sure wherever there was a greenfield, meaning there was no competitor had already solved for a given country. That was our priority one in terms of where we've been investing. So we're ready for France, Belgium and Germany to compete on those, and very comfortable as those regulations are going into effect with Belgium here in two months and the other two as we move into the middle to back half of '26. So yes, I feel very comfortable there, number one. Number two, we continue to expand our coverage. As you know, when we made the acquisition, we didn't buy a company that had coverage everywhere. We've been focused on the primary economies and continue to expand our coverage around the primary economies where e-invoicing is of the greatest import to our customers.
Primary economies, meaning where large economies where our customers are doing a lot of business. Hence, the recent go-to-market partnership we announced with Brinta to accelerate our coverage in some key LatAm geographies like Mexico and Brazil, where a lot of our global multinationals have revenue, and we want to make sure we had coverage to be competitive in those regions. So yes, that continues to be a steady part of our build-out as we go forward. And that's the investment cycle that John was just highlighting that's going to run through the middle of next year.
Okay. That's helpful. And then there's obviously been some moving pieces over the past few quarters. But just thinking a bit longer term, could you double-click into the competitive landscape? And if you've seen any changes to win rates or competitors making more noise that might have been showing up at the edges this year?
It's funny. I literally just made sure, like I always do before these calls to check with my head of sales here in the U.S., in particular, where we have a lot of competitors. And no change whatsoever in the competitive dynamics in terms of win rate. Our strategy to continue to focus on the influencers that impact the market, our tight relationships with the Big 4 and other large accounting firms and the investment we're making to deemphasize our services revenue, which does impact short-term revenue, we've noted that, is also paying off by securing the win rates that we've enjoyed in the past, and we continue to see. Certainly, some of the investments we're now making in areas like AI and Microsoft, I actually think are going to improve our opportunities in some of the new segments.
We have the next question from the line of Brett Huff from Stephens Inc.
I have two questions. I know you've been working hard to understand the changes in entitlements and to gain better visibility into them. How should we view these changes moving forward? We've received some inquiries about the entitlements slowing down a bit. Do we need to anticipate a period of a couple of quarters to get through this? Is there any significant timing or other factors we should be aware of that might prolong this situation? How do you interpret this?
Thank you for the question, Brett. Regarding entitlements, I don't foresee any imminent changes in the time frame. There isn't anything currently that will accelerate the rebound or significantly alter it. It’s likely to take some time to develop. Through our usual renewal process, we expect to see progress. We strive to enhance our visibility and incorporate this into our forecasts. Overall, this situation is largely tied to the economic activity of our customers and, to a lesser extent, their capacity to integrate other systems into the Vertex platform. As they undertake upgrades and other initiatives, they are continuously migrating additional systems and entities onto our software. If their progress slows due to other commitments, it may extend the timeline. However, I don't believe there are any factors that will dramatically change this scenario; it primarily relies on the passage of time. As mentioned, we experienced something similar during COVID when, after a few quarters, we noticed a recovery as activity increased, and I expect we will see a similar situation here.
Great. And the second question around SAP. Thanks for the comments earlier, both prepared and in the answers to questions. Can you maybe just a little bit more unpack that? Any anecdotal kind of conversations, change in tone around SAP migrations? It sounds like they were a little bit better this quarter. What is kind of the anecdotal feedback that you've gotten? I'm sure you had a lot of conversations at your user conference. Can you give us any more insight into how those decisions are being made or delayed?
Yes. I believe the exchange at our customer conference, which took place about a week and a half ago, was very positive. It supported our expectations as we look towards 2026, based on our discussions with the large accounting firms present as well as SAP directly. I am confident that the activity in 2026 will pick up as we move forward, reflecting what customers are sharing with us and what influencers are observing in their increasing backlogs that they will be processing.
We have the next question from the line of Steve Enders from Citi.
David, congratulations on your previous statements during the call. To begin, I would like to ask for clarification on a prior comment you made regarding some timing issues with deals that closed in the quarter, which seemed to have an impact. Could you provide more insight into whether there were any deal delays and how that might be reflected in the pipeline or your thoughts on the future pipeline?
I appreciate the question and the comments, Steve. The quarter wrapped up mostly at the end of September, which was a significant month for us. We anticipate seeing similar behavior moving forward with clear visibility. When we discuss the pipeline for the quarter, it refers to opportunities that are already advanced and not stuck in any delays related to ERP processes. Regarding guidance, John is formulating it based on what he can see, which is already well along in the process, meaning we have been selected. The focus is mainly on the legal and purchasing processes needed to finalize these deals. We expect a consistent process for the upcoming quarter, which is our largest, with December typically being the peak month, and I foresee no changes to that trend.
Okay. And sorry, to clarify, there were deals that got pushed out or things that didn't close as you originally expecting here?
No, I think in Q3 we closed the deals we anticipated, although they were finalized later in the quarter than we expected. That's why I mentioned that September was a particularly significant month, which caused us to miss out on some revenue that would typically have been recognized in the earlier part of the quarter. Looking ahead to Q4, it seems we're experiencing a similar trend, with December projected to be a very strong month. The pipeline of activity is where we forecast to be, and that is part of our considerations regarding guidance.
I understand. That's useful information. Regarding ecosio, I appreciate the revenue contribution this quarter. Do you believe it is on track for this year? Did you see the recovery that you were anticipating? Additionally, is the $16 million revenue target that you mentioned still achievable?
Yes, absolutely. We still have line of sight for that. I mean I think they've made some real good progress, and we've seen some nice upticks in the business activity over there as well as the momentum that's underlying the pipeline. And so we absolutely still have line of sight to that. And again, between the combination of that and then the continued investment we're making in that business, we're all in on e-invoicing. I think we expect to see those results come through as anticipated.
Steve, the deadline for Belgium is approaching, and decisions are being made which is why we have such visibility. I believe we will see similar developments as we enter next year in the larger economies of France and Germany. France is set to go live in September, and I expect a noticeable increase in activity as we move through the first quarter, less so in that quarter, but certainly in the second and third quarters, there will be a significant uptick. The same applies to Germany, which will go live in January 2027 with activity ramping up towards the end of the fourth quarter, aligning with what we've previously indicated based on our experience.
We have the next question from the line of Andrew DeGasperi from BNP Paribas.
David, I want to express how great it has been working with you over the years, and I wish you the best of luck in your new role as Chairman. Regarding the recent Q&A, I’m receiving feedback that with the e-invoicing opportunities and the SAP migrations, along with easier comparisons to this year, is there any reason your business shouldn't see growth in revenue next year? I understand you don’t provide guidance, but I’m looking to gain a clearer idea of the direction we’re heading in.
Yes, Andrew, I'll start with that. As we consider next year, we’re not providing guidance at this time. We plan to do that during our call in February. However, we do expect significant top-line revenue growth next year. There are several fundamental factors contributing to this, as David mentioned, with strong invoicing activity continuing. The SAP pipeline and related activities will also be major contributors to our growth next year. Therefore, we fully anticipate significant revenue growth next year due to these ongoing factors in the business.
Great. You mentioned earlier that some customers are paying two mortgages during these transitions. I'm curious about what portion of that customer base is currently experiencing this. When we compare your cloud revenue to on-prem revenue, I wonder if we might see a more significant disparity between the two as we move into next year.
No, not at all. I don't think we should be surprised by what happened in Q3. We always have good visibility and work hard to factor that into our guidance. Typically, we see about 2% to 3% of our customer base migrating each year, and there's an on-prem base that will never go away. Subscription revenue will be around for quite some time, and currently, nearly 57% of our business is cloud, which is where growth is happening. The customers who haven't migrated will take the longest to do so, considering the nature of their businesses. I see no reason to expect surprises like the recent shutdown, which happened faster than usual, but I'm not concerned about it at all.
We have the next question from the line of Patrick Walravens from Citizens.
David, I think you first came to our conference in 2007. So it's been a pleasure working with you over the last 18 years. It's probably for Joe, but the prepared remarks didn't address the 2028 targets. So can we just address it head on? Are you reiterating the 2028 20% plus subscription growth and 30% plus cloud growth today?
Yes. I think the buyback is a signal by our Board for its confidence in the future of this company, 100%. And I certainly think we continue to be cloud first in everything we're doing. So I see no reason to fundamentally think that, that's going to shift away from the growth we expect in the future. Certainly, with what we're seeing in e-invoicing and what should pick up in '26 even more so from SAP as their deadline approaches, I don't see a reason to fundamentally shift anything we've said in our guidance. The numbers that you've seen in entitlements pull back, we saw this in COVID and then it snapped back nicely. I see, once again, just the fundamental nature of who the enterprise customer is. They're going to grow through bands, and we're naturally going to get those entitlements. No, I have no data to suggest a shift in what we've fundamentally said.
Terrific. Terrific. And then can I just ask about the bankruptcies because I just looked two of them up quickly. And Party City and Big Lots, both of those were announced in December of '24. So how does that play out? Like, yes, how does that work?
So when companies file Chapter 11, sometimes they continue to be in business. They continue to operate for years. As long as you're in business, you have to charge sales tax. We've had customers in the past that have gone bankrupt, and we continue to collect license revenue. It may be on a reduced rate because the revenue has gone down, but we continue to collect revenue from. These are ones that officially went away. You don't know when that's going to end. We have no way of knowing that just because they file Chapter 11 doesn't mean we're necessarily going to see an immediate end of that license revenue.
We have the next question from the line of Rob Oliver from Baird.
David, first one for you is just one of the themes, I think, at the Analyst Day back in March was around tax not just as compliance, but as business enablement. As part of that, you talked about not just the sort of the traditional enterprise channel, which has been a big focus of this call, but also some of the marketplaces like SAP Hybris and Salesforce Demandware. Obviously, Shopify is moving upmarket, and there hasn't been any comment on the call about this. So I really wanted to hear your view on where you guys are today relative to that opportunity where there really seems to be a burgeoning opportunity within the tax software market. And then I had a quick follow-up for John.
Yes, sure. I had Shopify on stage with me at my customer conference, really talking about the partnership and the work we're doing with them, really working in lockstep as they continue to expand and they're rapidly succeeding upmarket. There's just a natural synergy between our two organizations. Every quarter, I try to pick out a few wins that are notable. Coming out of Q2, there are a lot of questions about the SAP pipeline. We had a really good quarter in SAP wins. I thought I would just highlight a few of those on the call, but we continue to make progress across the entire base of our key technology ecosystem partners, number one. Number two, I see no reason that's not going to change. In fact, you may have noticed we launched our Kintsugi powered by Vertex offering, which I think is just going to increase a new opportunity for us to generate growth in the future as we look at their ability to actually work at the lower end of the market, which is really highly suspect or highly appropriate for the type of solution that AI can deliver through Kintsugi.
Yes. Thanks, Rob. Certainly, it seems like the challenge now is more about entitlements true-ups than it is about the ERP opportunities. So just on that topic, with two quarters in a row of the guidance coming down, maybe talk a little bit more about how you factored those expectations into your guide for Q4 and how we might get comfortable with the thought that that's not caught you guys by surprise, I think, a couple of quarters here. So how to think about that headed into '26? Yes. Thanks for the question, Rob. In terms of kind of where our expectations were, again, a lot of what we do is we set those expectations and we lay that out based on the information that we have available at the time. We monitor those and we know that we'll see some challenges like we've seen over the last couple of quarters. Some of the entitlements have changed a bit, but I think operationally, we're keeping that in the forefront of our mind. I think for next year, we are not looking at any major changes to those philosophical thoughts about outlook in general, but again, we're keeping a close eye on the whole piece of that puzzle.
We have the next question from the line of Samad Samana from Jefferies.
Most of my questions have been answered. But if I just think about the bankruptcies, they were all in the retail space. So that might be probably coincidence more than anything else. But John, can you just remind us where your biggest vertical concentrations are in terms of the book of business? And if you're at least within the retail sector taking a more conservative view given that that's where the bankruptcies were? And then I have one follow-up.
Yes. Good question, Samad. Thank you. In terms of kind of where our big verticals are, certainly, manufacturing is our largest. Retail kind of comes in soon after. And so they're bigger focus. We certainly have taken a look at some of the rest of the customers within our vertical of retail to anticipate if anything is out there. But at this point, there's really nothing in there that caused us to pause or adjust our thinking in terms of kind of any exposures there. We feel like we're very well reserved, and we're in a good spot.
Understood. And then maybe just on the long-term targets, I know Pat asked the question, but I'll ask it a slightly different way. I mean with the management transition going on with the headwinds that the business has faced, if I think about the Q4 guidance kind of pointing to what looks like about high single-digit growth, it seems like 20% is a very tough lift to get to by 2028. And so why not get rid of those targets and make it easier, especially as the management transition? And just help us think about what's the path to getting to 20%.
Yes. To start, we believe that the overall demand drivers for the business are still strong, as David pointed out. We are managing through some transitions, as he has explained, but we remain confident that the factors that led to our expectations back in March are still valid. We anticipate further progress as we look toward 2026 and 2027. Regarding longer-term guidance, we think it's a bit premature to make any changes, especially given the current demand we are facing.
This concludes our question-and-answer session. I would like to turn the conference back over to Joe Crivelli for any closing remarks.
Thanks, everybody, for joining us today. If you have any follow-up questions or if you'd like to schedule additional time with the team, please send me an e-mail at investors@vertexinc.com. Have a great rest of your day, and we look forward to speaking with you in the coming weeks.
Thank you. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.