Company Participants
Kelly Steckelberg – CFO
Conference Call Participants
Pete Newton – Barclays
Pete Newton
Awesome. Good morning, everybody. And thank you for coming to the Barclays TMT Global Tech Conference. Happy to be here today. My name is Pete Newton. Obviously, I’m not Ryan MacWilliams. Ryan just gave birth or his wife just gave birth or their first job. So, if you see him, congrats. If you see him on Bloomberg or something, just hang up, let him know if you have so.
So, with that, we’re here with Zoom Video Communications and their CFO, Kelly Steckelberg. Before we begin and dive into questions, there’s a lot considering recent news. I do have to say the first time we got Kelly in person was about months ago at the Zoomtopia event. And how check-in to these conferences goes. You walk around. You get your badge, your name tag. People carry around foods, drinks, and things like that. I saw a plate of bacon. I was like, wow. That’s really good.
So, I walked over there, a piece of bacon. Look up. Kelly’s holding the pot. So, the first time I met Kelly, I didn’t bring bacon today.
Kelly Steckelberg
I’m sorry. Or I should that your bacon.
Pete Newton
No. I need to return this favor. So, with that, I’m glad you have presented your thoughts.
Kelly Steckelberg
Thanks for having us.
Question-and-Answer Session
Q – Pete Newton
Let me just start with –we saw the news headlines, but we’d love to hear your thoughts regarding the space and market speculation around recent M&A.
Kelly Steckelberg
Yes. So, lots of news the last few days. Somebody asked me, this morning, why aren’t we refueling our [indiscernible] 59. And I’m here to say we are not refueling our moments. We highly respect them. They’re an amazing company. We have high regard to them. But we are really focused on building the main contact solutions for our home. And there was other news this morning about our new tier pricing approach as we are putting in place which is highlight our commitment to building a true enterprise-grade content. So, the product there’s it’s also another thing. Because we are so focused on this, actually, our team self is now managing the contact center team. So, we’ve done a slight reorg within the organization and pulled that in and it’s really exciting to see and I think we’ll just help continue the focus, commitment, and exploration of this product.
But it’s doing well. We announced on our call a few weeks ago that we’re over 700 customers and there are some great features and functionality that already exist today and some that are coming, they’re either in beta or will be released later this year. And what we announced is kind of a pretty standard in industry-tiered pricing in terms of how you move up depending on your needs of the product in price and industry.
Pete Newton
Very helpful. Well, just kind of double-clicking on that. You mentioned 700 customers, which is, I believe, up from 500 in 2Q. So, a solid to add. How should we think about the makeup and composition of an ideal Zoom contact center customer?
Kelly Steckelberg
So, we have one that we talked a little bit about, I think on the call or some of the responses where an ideal customer is one that already is likely a meeting on Merck, they’re familiar with the product. And we saw this with our customers that recently in the last year. They doubled their Zoom call commitment. They also doubled their contact center commitment. And then in addition to that, they deploy workforce management and quality management. So, we’re building components around the core desktop as well. And so, seeing a customer really like that go all in is really amazing.
Pete Newton
Okay. That sounds helpful to picture. I do want to just touch on the M&A point before we fully put it to rest. How do you think about acquisitions with regards to entering new markets versus with regards to something within the existing Zoom video communications platform?
Kelly Steckelberg
So, we obviously have a significant amount of cash sitting on our balance sheet, $6.5 billion to be specific. And we really see that as an opportunity. It gives us flexibility to focus on areas of potential investment. And what we are focused on is driving top-line growth. We can talk about this more. In terms of the overall financial profile, but we really have gone through some transition this year that are focused on reaccelerating growth for the company in the long-term. And M&A is a way to do that.
We want to maintain the flexibility and we look at it in terms of areas that we currently compete, UCC as potential opportunities. And it could be historically is buying smaller tech and talent tuck ins that accelerate the development there. Or it could be a larger, more transformative M&A opportunity that brings you other areas, not only product and customer but areas of expertise. But beyond that, we also look at things that could fit adjacent to where our platform exists today. So that could be productivity. It could be expanding our verticalization, things about health care and education, which are really important for us today. Even sales could be another opportunity if you start to think about more department specialization as well.
So, that’s to say that my subject and my corps is amazing. They look at all of these opportunities on a daily basis. And when you think about M&A, there’s kind of three ones that we look through. First of it is like what, but that’s really about the technology. We’re very proud of our modern architecture that we have today. The ease of use, the reliability, we never would want our customer sacrifice around that.
We look at culture. Culture, we believe, is a good indicator of potential success of the integration with us. And then, we also look at valuation. And valuation certainly has become easier over the last year, but we are a very thoughtful and highly insightful company and so really want to be careful about how we step in. And where we’ve had challenges in the past has either been better technology or evaluation. But we will eventually find the right match for us.
Pete Newton
Okay. very helpful color, thank you. Just broadly, just thinking about your cash position right now, and I know the past I know buyback is kind of an annual basis. How should investors think about the timing of an M&A transaction as well as at what point would consumer potentially pause that strategy and look for close to the payment pool and to buyback?
Kelly Steckelberg
So, we did, we’ve done one buyback per day. We did that in FY ’23, and I think very successfully executed to offset more than the dilution in that year. And we have a discussion every quarter with our team and our board. And again, it’s about maintaining currently maintaining the flexibility if we were to see something that was really attractive to us in terms of M&A. Historically, we have been very reluctant to take on debt. And also given where the stock price is today. I would rather use cash for an acquisition than issue stock at a transaction like that.
So, it doesn’t mean that we won’t do another buyback at some point and it’s just a matter of evaluating the opportunities that we see in the market and balancing that with potentially returning cash flow.
Pete Newton
So, I think we’ve kind of beat the M&A topic. We’re good to move on. So just looking at FY ’25, how should investors be thinking about growth prospects moving forward?
Kelly Steckelberg
So, the growth drivers of the company for the future, certainly phone continues to be a very important growth driver for us. As a reminder, we announced we’ve crossed over the 7 million seat mark, so really excited about the ongoing momentum from there. It will be contact center for all the reasons that we’ve spoken about earlier. Certainly, AI plays a very important role in our overall growth strategy in terms of not only improving retention, but also being a really competitive differentiator for us, especially against Microsoft, the fact that our AI companion comes included or are paying customers at no additional cost.
And our CTO recently did a blog that highlights how our AI companion communicates to get to Microsoft in terms of product responsiveness in terms of accuracy at a fraction of the cost. And the fact that they’re charging $30 a month and ours is included I think is a really important differentiator. And then the other opportunity areas for growth is really around international. International has really been a headwind for us for the last couple of years.
That’s a combination of FX rates, the economy we’ve seen, the impact in the Ukraine and Russia. So, starting to see those markets eventually return to stabilization would really be a help for us as well as we’re investing in growing our sales teams and our channel in those markets.
Pete Newton
Okay. It sounds like phone contact center drivers. So just kind of touching on the contact center, you said Eric’s manual, you’re heading into vision group. What’s the strategy looking like? For targeting customers, is there any kind of Eric’s attitude towards how he wants to run the contact center business?
Kelly Steckelberg
Yes. So first of all, it’s really focused on adding new features and functionality that we need to get to that true enterprise level, ability to compete at the enterprise level. And so, your, today, the products made it to integrate with voice, video, and SMS which is in data right now is the Messenger and WhatsApp. We need the things like email integration as well, outbound dialing, and then PCI compliance standards which you can take credit card in a good manner. And all of those are coming, I would say, within the next few months. And so, when we get to that level, then we’ll really, I think I’d say, so within the next year-ish we’ll really be able to compete those level.
The other thing that we are working on is establishing like just that’s really an important component of selling as well. And we have some of those in place, of them are still very nascent, especially when you look outside the U.S.
Pete Newton
That definitely makes sense. I think from, like, an AI purchasing perspective within the contact center. What are customer conversations looking like for demand within for AI within the contact center?
Kelly Steckelberg
So, there’s a couple of different components. There’s the Zoom virtual agent, which is actually a standalone SKU that we sell that leverages AI to respond without the assistance of a of a fleet. And that we’ve seen, great success. We’ve deployed it internally for contact center. We’ve deployed it also internally to handle some bold questions, especially around tax IDs, et cetera. And we’ve seen great success internally on the online contact center that handles, and like 85% being no cloud. So that’s it’s really been successful. So, there’s been a lot of discussion around contact centers in terms of, like, what AI going to do to the contact center. And we honestly are agnostic when we talk to our customers about, do you want to deploy a human agent to address this or do you want to use a virtual agent? And we have a solution for both. So, we’re really excited about the future there.
And then as part of the announcement this morning, there’s also a feature called AI assist, which helps the agent prompt then and some of these customers are coming. It’s like next obvious step or not really obvious. So, what’s the next recommended step you take with this customer based on the discussion that you’re having right now? So, this is where AI. I think it’s going to really help not only organizations being more efficient by leveraging potentially using virtual agents but also having agents themselves be more efficient by prompting them potentially more specific variables to upsell depending on the conversation that they’re having. So, I think those are all the things that are coming with AI in general around CapEx.
Pete Newton
And I think so six months ago, there was a big concern from, like, one of these AI back accounts. There was a big concern on context on the company because people thought AI is just going to drive efficiencies to a point where we could automate and remove contact center agents. VC based model, you can see that it can be a clear headwind. So, what have you seen with regard to AI potentially replacing agents?
Kelly Steckelberg
I think that they will be able to really make agents more efficient. That’s how I think about it. And they can take away the majority of the repetitive type transaction. So, like what we’ve seen internally is password reset. Like I said, on the billing side, adding things like enabling the customers to input their Tax ID without having to talk to an agent. So those are non-value add actions that a virtual agent the hardware, AI can accelerate. Where the agents then can get elevated up to is really the value add, whether it’s solving a more difficult product, problems with a customer, potentially talking to them about an additional product that could be upsold to and that’s where I think you’re going to start. The AI really drive more value into the context.
Pete Newton
Just making the Tier 1 interactions kind of automated. The Tier 2 is much more value add?
Kelly Steckelberg
Yes.
Pete Newton
Moving over to the AI and the non-contact center side, AI campaign, which is, like you said, baked into existing product offerings and pricing plan. You love this approach, by the way. Back then in companion given it’s [indiscernible]?
Kelly Steckelberg
So, customers love it. The feedback has been great so far. Eric was even telling you a story about having dinner recently with the CIO, and it was so interesting. So, we often see that our customers are leveraging going into Zoom and consumers of Microsoft. And we build our products to [indiscernible] perspective. This is the customer who’s leveraging the meetings and doing phone by using Microsoft Teams for chat.
And what the CIO said to Eric is there, he was talking to him about AI companion and how we think it is at all. The functionality that you get, especially as you start to use it across the platform, the CIO said, you know what? That now is a compelling reason for me to really look at Zoom chat, because I can leverage the AI capabilities across the entire platform. And by the way, I don’t pay an additional $30 a month to get that. And so, I think this is where you’re going to start to see the product really be the Zoom AI companion be a differentiator for us and not only drive retention, but even potentially drive attraction to the platform, because it is as good as anything out there, probably better than anything out there because of our federated approach and the ability to really provide a great product at no additional cost to our paying customers.
Pete Newton
So, it sounds like Zoom AI can almost help Zoom serve as a consolidator across other point solutions.
Kelly Steckelberg
Exactly. In general, we believe if we look at the, I mean, there’s some poor products in our platform that we rarely even talk about. We have an amazing whiteboard product. We have a scheduling product that is with [indiscernible]. We have Zoom Clips, which is our asynchronous video product. So, they’re really and when you look at the total cost of ownership benefit that our customers get, whether you take each of those products individually or you do them as a bundle under a Zoom One bundle.
The opportunity to probably onto our platform, have an amazing experience from both reliability and ease of use, native integration where all of these are cloud based modern architecture project at a very competitive price, I think it’s a really compelling proposition.
Pete Newton
I definitely agree. So, its kind of sounds like there’s ways to indirectly monetize in the AI companion. Have you thought about line, other ways to directly monetize in AI companion opinion?
Kelly Steckelberg
Yes. So, there are SKUs leverage AI that are monetized, as I mentioned, like Zoom Virtual Agent, for example. We have revenue accelerator, which is a sales analytics tool. We have things like subscription, which are all separate suites that are separately priced. But specifically, to AI companion itself, there are a couple of avenues that potentially in the future could monetization.
Right now, SaaS products, by definition, are multitenant, right? AI and the data around AI, it starts to play to an interesting consideration, which is we’ve said there is we don’t use our data to train our models. Some customers, though, it comes with and they want to leverage their data for their own model.
And so, what you could start to see develop over time is that single tenant relationship with those customers whereby you’re building an environment that segments their data or segregates their data only for their benefit. And that could be potentially a premium offering that we could charge for. There are also today, the things that we’re including in AI companion, which are, like, meeting summary or catch me up, which allows you to join a meeting late and ask, like, what did I miss? I stepped out of a meeting yesterday, and while I was gone, somebody did for me like, here, this is what you missed.
It was a really great summary of what happens during the meeting call. I was on, like chat composed, email composed. We believe those are all people think and are going to be included. But there could be premium offerings that go over and above that at some point.
Pete Newton
Well, I could really use that, I mean, [indiscernible], yes. We’ve been given a number of times I missed something, I’d call and turn a look from Ryan. Not just diving more into, like, the quarter performance and kind of questions around that. You’ve got out of recent part business to business plus plans? Can you just go over the details on that?
Kelly Steckelberg
Yes. So as a reminder, earlier this year for our online segment, the lowest bundle is Pro. And we had a price increase for monthly Pro users earlier this year with $1 on top of the $14.99 price. Biz and Biz Plus are the next two levels of bundles for our online. And in November, we announced a price increase there of $2 per month for Biz and Biz Plus for both monthly and annual customers. And then earlier this week, we announced a price increase or back to pro, the annual version of pro, which we didn’t do last year. So basically, all of the online bundles have gotten price increase over the last 12 months now.
Pete Newton
Okay. And is that pro annual price increase $1 as well, monthly, or is that…?
Kelly Steckelberg
I think it’s, the way it’s probably, it’s probably $10 total because I think we give them two months for free. I think it’s how the math actually is without, but yes.
Pete Newton
And then just on the Biz and Biz business profile side, how large are you going to [indiscernible]?
Kelly Steckelberg
We don’t disclose the actual number of our customer base. What we have said though about our online customer base is the majority of them are on the go plan. So, the majority of them have gone through it, but there’s obviously still an opportunity and the price increase per business is $2. So, it’s a little bit higher. There’s more value there, so it’s a little bit higher.
Pete Newton
I understand this takes effect on December 8th, Friday. Is this baked into or factored into the 4Q guidance at all? Or and how can it look for upside for FY ’25?
Kelly Steckelberg
Yes. So, we did know this was coming up, obviously, over time that we did guidance it either. But, yes, we have to remember, some of those customers are monthly, so they’ll give me, like just some of them are annual. So, the full effect of it, we did it very specifically in December to enable us to have the full impact in it by ’25. That’s really where there’s minimal impact in Q4, you really start to see the benefit.
Pete Newton
And then just from a macro perspective, have you seen any changes in macro since the quarter end? And maybe elaborate on how that, how macro is currently impacting different parts of the business?
Kelly Steckelberg
Yes. So, I mean in general, the macro environment we’ve been talking about it for a few quarters now, certainly continue to see deal scrutiny elongated sales cycles, back-end quarters. We saw that in Q3. We expect to see it again in Q4. And then the other impact we’ve seen is the right size is due to their own deductions in their employee base.
And an example of this would be a customer that comes to us and says. I have had 100 employees, they had a 100 meeting licenses, but I laid off 20% of my employee base. So now I only need 80. Our team has done a really good job of saying, okay. Great. Let’s look at your right size, but let’s talk about moving you from meetings to Zoom One, which is a bundle. And we announced on the call that our Zoom One customers grew 330% in the paper. And that’s really important, because what it does is, first of all, it preserves the customer. It preserves generally the spend, because as we’re moving them to a higher base SKU. We’re able to say, okay, now you’re buying 80 at a higher dollar. So maybe it’s the same dollar amount.
And what it does over time is, first of all, it’s on a bundle, and we know that customers with more than one product are more receptive, and that’s great. It also gets them better situated in terms of higher dollar SKU. So, that eventually, the company improves and they start to grow again. Now they’re growing at a higher-level SKU. So, by looking at the data that the majority of customers add renewal opportunity in FY 2020. The majority of them have worked through this.
However, and, unfortunately, I don’t think we’re completely done with this rightsizing. We are going to have customers that we’re going to renew in FY ’25, that didn’t have a renewal period in FY ’24. And as you’ve seen over the headlines in the last few days, we’ve seen announcements from Twilio and Spotify. And some of those are so we will obviously continue to work with them through these. But I feel like we have probably another year or so of this to rightsizing transition period that we’re working through, which is, it’s a transition phase, which is a little bit difficult.
But I think on the other side, coming out of it, we’re better positioned as we’re able to move them to these bundles, which really for the long run bring them a lot of beneficial total cost of ownership, but for us also, which we really prefer them to be on for all the reasons I mentioned.
Pete Newton
Absolutely. So, on the just the linearity perspective of those kinds of key optimizations and like contract renewal sizes getting a little smaller. Have you seen any improvement or trend in 3Q versus 2Q versus 1Q [indiscernible]?
Kelly Steckelberg
What we did see this year, which is as a reminder, we did a pretty significant reorganization and restructuring of our own in Q1 of this year. And to sales teams, especially some of that lingered into Q2, partly due to financial labor laws. They had some structural changes, a new leader. What we did see, which is very interesting, is historically, if you remember, Q2 and Q4 have been our highest business quarter as we have reps that are on six-month plans and then Q1 and Q3 are seasonally down.
We actually saw bookings in Q3 equal to those of Q2, which was an interesting phenomenon. And I think it’s a good, I think it’s a good example or a good indicator that we’ve kind of worked through that transition period. Q2 was probably a little bit impacted still by the reorganization. And it’s always a distraction when you go through something like that. And it tells me that, like, Q3 is like, okay. It’s kind of back. They’re focused. They’re in the field. So, I think that’s a good indicator for what’s coming in Q4.
Pete Newton
That sounds like sales a bit Q4?
Kelly Steckelberg
Yes.
Pete Newton
Now just take a look at the puts and takes of the deferred revenue guide for next quarter, like down 6% to 8% year-over-year. Could you just explain what’s happening there? Just because from an optical perspective, for users talking to this quarter, and you think that moving more towards enterprise deals with phone and contact center should support that as well, so [indiscernible]?
Kelly Steckelberg
So, it’s a really interesting phenomenon that’s happening, which is if you look at the total RPO, it’s up year-over-year, which indicates as we’re going through this kind of rightsizing discussions with our customers, we are able to get them to commit to longer-term contract showing up in RPO. However, customers are taking advantage of the higher interest rate environment and are reluctant to give us their cash out for us.
They want to do is they, they’re willing to commit to a longer-term contract, and they typically get a discount in response to that, but they prefer to pay on four-term cycles than they have done quarterly. So, if they’re paying annually for it now, they want to pay monthly. That allows them to preserve I mean, I can tell you, if they can earn 5% in the market, we don’t give them a 5% discount to pay upfront. So, they’re making that trade-off, which makes a little bit sense. But that’s why you’re seeing RPO extend, all the revenue coming down.
Pete Newton
Firstly, shifting a little bit over then to Zoom phone. You called out 7 million users which is just rapid enough, I would say. We’re very impressed with this number. What are you seeing in the Zoom phone? Is that the form of the bulk load expectation and what’s next for phone?
Kelly Steckelberg
Yes. So, we are really pleased with the bone and the momentum that we’re seeing there. What’s next is focused on international to expansion, building out the organization as well as channel relationships there. That’s a really important area for us. Some of you may remember, we were mainly a direct-led organization when we had these meetings. We were 95% direct-led, and so we’re continuing to focus on building that out. We recently got our license to sell and own in India, which is a huge accomplishment. It’s a very time-consuming and elaborate process to achieve that, so we’re really excited there. And that really, it’s kind of the last, I would say, check the box of our large multinationals. They want to be able to natively communicate use a native personality to communicate with their employees in India, which is what you get, and we have the ability to sell there directly.
Pete Newton
Like I said, zoom phone tracks have been very impressive so I think we’ve done there.
Kelly Steckelberg
Thank you.
Pete Newton
Just on the SBC side, I think that’s an important piece of Zoom story to touch on. Any commentary regarding the supplemental grant program or what that could look like in FY ’25?
Kelly Steckelberg
Yes. Thank you for the opportunity to talk about that. So as a reminder, we had a supplemental grant program that we sunset in February of this year. And so, we’re working through kind of the last phase of any of those grants. And if you look at FY ’24, approximately a third of our stock-based comp is directly tied to grants under that supplemental program.
And those grants, the tied to the underlying vesting of those grants. So that’s not. So those, whenever the grant was given, there were either two years or three years left of vesting on that grant. That’s how the design of the program. So, the simplest way to think about this is a third of our stock-based comp in FY ’24 will go for just three years from now. It will not be a, it’ll come down kind of step by step by step. And then that update is kind of what’s left in terms of based on the size of our organization today that you should expect it with a recurring stock based a normalized stock-based comp level.
Pete Newton
Okay. So, then a third is on a dollar basis, is not a percent of sales?
Kelly Steckelberg
Yes. Sorry. Dollar base.
Pete Newton
And I think just before our time runs up, just a little bit to dive into the operating margin profiles of online versus enterprise. Is it reasonable to think that online business margin could be double enterprise business margin or…?
Kelly Steckelberg
I think the easiest way to think about it is the online business model margins have no sales expenses. Not no, but very minimal is what I should say. There’s a small team that supports them. We do allocate marketing because they benefit for it. Even though most of our marketing is targeted towards enterprise, there’s obviously benefits that the trick over into online. But the majority of it is you can almost completely take out the sale.
Pete Newton
Very helpful. And before we wrap up, I’d just love to give you the floor. Anything that investors mind heading into 4Q or FY ’25 perspective?
Kelly Steckelberg
I think we’re really excited about the future. We think we are very well positioned there with not only the extensive nature of our platform, but the ongoing expansion of contact center, AI companions I think is really going to be a key differentiator. And then of course as the economy itself eventually starts to improve, which we’re not giving FY ’25 guidance, but we’re not comping on that for FY ’25, but over as it does will be very welcome.
Pete Newton
Okay. Thanks so much everyone for coming and thanks Kelly for being here.
Kelly Steckelberg
Thank you, everybody.