Zoom Video Communications, Inc. (ZM) Presents at KeyBanc Emerging Technology Summit Conference (Transcript)

Zoom Video Communications, Inc. (NASDAQ:ZM) KeyBanc Emerging Technology Summit Conference Call March 8, 2022 2:00 PM ET

Company Participants

Kelly Steckelberg - CFO

Conference Call Participants

Steve Enders - KeyBanc

Steve Enders

All right. Awesome. Thanks everybody for being here joining us for day one of our Emerging Tech Summit. Here for this session we have Kelly from Zoom. Kelly, thank you so much for being here.

Kelly Steckelberg

Of course, thank you for having us.

Question-and-Answer Session

Q - Steve Enders

Yes. I guess maybe just to start out, I think everyone knows Zoom at this point. But I guess now that we're beginning to return to in-person events like this one here, what's kind of your perspective on the future of hybrid work and things returning to in-person. Are there kind of any early learnings that you've had from things beginning to change and open up last fall and so far this year?

Kelly Steckelberg

Yes. So we have our and have continued to spend a lot of time with our customers and hear feedback from them about the future of work. And if you back up by two years ago, we all knew how to work together in person. And then there was this mad rush and we all learned how to work together remotely. And now we're trying to figure out how do we come together in this hybrid environment.

And it creates different challenges, right, especially how to make it be inclusive. So we've all gotten used to this experience of seeing everybody's face on the screen, you can see their names, it's very clear who is talking. And if you're the person now that has this experience of not being in the room, it might not be as great. We've also heard from people that Zoom meetings give a voice to people that often didn't feel comfortable speaking up in person. And so, how do we help solve all that?

So there is a couple of things that we're doing around Zoom Rooms specifically. So Zoom Rooms is our conference room strategy, and there are couple of new features and functionality we've developed during this time, once called Smart Gallery. And what Smart Gallery does is it recreates that experience of if you're not in the room, if you're the person on video or if you're joining on video, you can see everybody in the room. So it's a combination of a hardware and a software.

And it's great. It like slices up the room, if you will, if there is five people in there, what you see is, you see a view of the room, but you also see them all individually, which is really great. So they - if you're not in the room, you can tell who is speaking, you can see their facial expressions.

And then we have something also called companion mode. And what companion mode does is, if you walk into that conference room, so if you're attending the meeting in person, you can silently join your meeting from your mobile device or from your laptop. And silent is important because you guys have probably all the experience, if you walk in the room, you turn in your device and the speakers, you know the mic goes crazy, and you have that terrible experience.

And so joining silently, but giving you access to chat, to pulling the other ways you can interact with the meeting really helps build that productivity. So these are the few things because we've heard from people that like invited their employees back to the office, then they had the terrible experience of say now, please go to your desk and Zoom from your desk, which is terrible, right. You're totally defeating the whole purpose of bringing people together.

And so these are the early learnings we've had so far. And I'm sure they're going to continue. We are actually reopening our headquarters on Tuesday.

Steve Enders

Congratulations.

Kelly Steckelberg

So I'm excited to see, I have actually moved, I've moved to Texas. So I'm going to be the experimental case for this. And we're going to see how it goes, we'll experience it right along with all of you.

Steve Enders

No, that's great to hear. And that's - it's good overview there. I want to in terms of base a bit on earnings call from the recent one. You changed how you're segmenting your customers as part of it. I guess what led to this change in customer disclosures and how should we kind of think about the '23 outlook and kind of the puts and takes across those customer bases there?

Kelly Steckelberg

Sure. So, just if I just give you a quick overview for everybody who is here on the call. So when we went public three years ago, we came up with this metric that we were disclosing which is the number of customers with greater than ten employees. And we used that at the time for a proxy with customers greater than ten correlating to our direct business. And customers fewer than ten, with fewer than ten employees correlating to our online business.

And if you go back pre-pandemic, the online segment of our business was 20% to 25% of revenue. Now fast forward to the last two years and the online business grew dramatically during this time. And what started to happen is that customers with more than ten or fewer than ten metric got really mishmashed if you will because we saw larger customers buying online. So it wasn't really working any longer as a proxy.

So what we have now changed to is a metric we're calling Enterprise. And the definition of Enterprise is customers that are touched by either a direct rep, a channel rep, or an ISV partner. And so, they're being physically, you know, they've gotten a quote, they're interacting with someone on our, one of our sales teams or partners. And then online is exactly that. Customers are now coming through the online channel.

And the reason that we changed this is because this is how we're thinking about the business now. As online has really emerged as a much more important part of our business in general, so pre-pandemic is 20%, 25% business, it peaked at 56% of our revenue at some point during the pandemic. And Q4, it was 50% of our business.

And as you can imagine the customers in these businesses are very different. They have different lifetime values. They like the enterprise customers by annual or multi-year agreements, they tend to start smaller deployments and grow over time versus online a lot of them by monthly, they come and go, they typically buy up to 50 licenses online, and more than that they're probably talking to a rep. And so we really are managing these businesses differently and thinking about them differently internally. And so, if this is how we're thinking about it internally, of course, we want the investors to have the opportunity to evaluate and think about them the same way.

Steve Enders

Sure. It makes complete sense. I guess with the online business specifically, how are you thinking about kind of the churn in cohort dynamics for this next year. I think we've talked about 15 month, 18 month kind of being when there is a big change in terms of continued adoption there, how were you just kind of thinking through these dynamics through the outlook?

Kelly Steckelberg

Yes. So again, if I can just give an overview for everybody, if you weren't at our Analyst Day last fall, we had, we shared two really important charts. And one talked about what are the retention rates at different ages of these cohorts. And when you hit 15 months, there is remarkable stability in those retention rates, even when there is a lot of volatility in 1 through 14 months, once they hit 15 months, it's remarkable how stable that becomes.

And then we showed another chart that shows how these pandemic cohorts are aging through. And what's going to happen is when we get to sort of the back half of this year, the large cohorts we've acquired through the pandemic, all of them are going to have hit kind of their 15 months birthday. And that will bring a lot of stability to the overall business, of course we're continuing to add new customers along the way. But the size of the cohorts is not as meaningful as those pandemic cohorts.

And so, what we guided to specifically is that we expect the overall guidance for FY '23 is 11% year-over-year growth. And we've said that the enterprise business will be growing approximately 20%. And online will be flattish with some variability within the quarter. So that tells you that as we get to stable that there is some churn in there still, but that the new customers that we're adding are making up for that.

And then we have a lot of initiatives around the online business to continue to stabilize and the goal would be to return that business to growth in the future, which includes things like localized pricing and packaging, additional payment currencies, additional payment types. And then coming up with also optimize - and making sure that we've optimized the website for customers to buy additional products, et cetera.

Steve Enders

Okay, that makes sense. On the Enterprise side, I mean, it grew 38% in 4Q, I think you talked about net retention of 130% for the year and yet guiding to 20% for this next year, what are kind of the dynamics that you're thinking about that comes in at 20% number?

Kelly Steckelberg

Yes. So a couple of things have changed pretty noticeably in the last couple of quarters. First of all starting with customers and we talked about this in the Q3 and the Q4 call again, which is customers have really returned to normalized buying cycles, which means they're doing RFPs, they're doing proof of concepts.

So there were about six quarters in there where it was sort of they were just making decisions very quickly and buying whatever they needed to keep their employees safe and efficient. And now they're really stepping back again and being more strategic about that. And that - we see that in terms of elongated sales cycles, we see that in terms of linearity within our quarter. So we had a period of time during the pandemic where we had one quarter where like 50% of our bookings were done in month one, which is amazing, right, because it has a big impact to your revenue as well.

We're back to sort of Q4 was, as you would expect, with a SaaS company much more back-end loaded. And then we're also seeing sales rep productivity change. It's not back to where it was pre-pandemic because they have the benefit of brand awareness. They have more products in their bag.

But it's certainly not where it was during the pandemic, which was not sustainable any way, like there is no way that they were working around the clock. And so we knew this was going to happen at some point. And that's the outlook for FY '23 is built upon all those assumptions that we're seeing in the market.

Steve Enders

Okay. No, that's very helpful. I guess part of the sales rep productivity kind of part of it, you just talk about, there's more tools in the bag for them to get a sale. How are you thinking about what could be incremental lever to grow for this year. Is it primarily around Zoom Rooms, coming back to in-person, Zoom Phones has been getting really good traction and Contact Center is brand new out there. So you can help us walk through those dynamics.

Kelly Steckelberg

Yes. Absolutely. So it's a combination of all. So this is really a transition year for Zoom, as we're moving from being this killer meeting app to a platform. And you just outlined many of the products that are contributing there. I just want to touch on Zoom Phone for a quick minute. I mean, we had an amazing Q4, 550,000 seats of Zoom Phone sold, that's not only a record for us, but that has never been done in the industry ever, that number of seats sold in a quarter.

And that just shows the momentum that we're seeing. And then Zoom Rooms, absolutely as we were just meeting with investors right before this, she was talking about like going back to the office like, oh yes, I can tell already we're going to have to bare Zoom Room, right. And we're going to see more and more of that as people to start to have - really have this experience.

And then Contact Center is brand new, as you said, it became GA 2 weeks ago. So we have very conservative contribution assumptions for that in FY '23 as this will really be a learning year, and I think a building year in terms of features and functionality. But certainly excited about the prospects of that product for the future.

Steve Enders

Sure. I guess where were you seeing the dynamics with around Zoom Phones in the market that led to Zoom moving into the Contact Center market? I guess how often are you missing out on opportunities by not having a bundled solution out there?

Kelly Steckelberg

Yes, I don't know that we were missing out on opportunities, because we have great partnerships with all of the Contact Center providers out there. But if you step back and think about the power of having a natively built, fully integrated, modern architectured, video, voice, chat, and contact center solution, nobody has that. And it really for the long-term growth of this company, it's a really big differentiator. And that's why we ultimately decided this was the next leg in the stool, if you will, from a unified communications perspective. And are really excited about the future and what we can offer to our customers.

Steve Enders

Okay. Now that's great to hear. Maybe shift gears a little bit, touch a little bit on competition. I think one of the things we typically hear from investors is concerns around Microsoft Teams and competing with them in the market. I think people view Teams as kind of a free solution. How do you kind of view them as like an either/or proposition where customers are choosing one or the other or how are you kind of viewing the competitive landscape with Microsoft there?

Kelly Steckelberg

So first of all, as in most markets two leaders emerge. And we have always expected that it was going to be Zoom and Microsoft. So this is playing forwards exactly as we expected, and they are absolutely a great partner to us. And we could talk about that in a second, but the most formidable competitor for sure. And where we partner with them is we do often hear from customers, they want to use - they want to use Zoom for certain things most commonly phone and meetings. And they want to use Teams for other aspects of it. And that's usually chat.

So we have an integration where you can one-click launch a Zoom meeting or a Zoom phone call from within the Teams user interface. You can also launch a Zoom meeting from in a Microsoft enabled conference room. And this is really evidence that it's working. If you go look at the last Okta Report, which highlights what software people are using. So 45% of the Microsoft-enabled accounts have Zoom in them, and that's up from 42% the previous report. So that shows you this strategy of being compatible is working.

And giving customers the choice to use, what they want. And customers want choice, right. They don't want to have only one, and that's where I think the usability, the reliability of Zoom really is a differentiator. And yet for some places Microsoft is good enough and yet you're going to continue, I think you're going - so I think you're going to see this dance that we're going to keep partnering and competing. And that delivers happiness to our customers, this is what we're really focused on.

Steve Enders

Yes, I mean, I guess it comes down to best of breed versus kind of the platform approach. And I think we've historically seen best of breed really works.

Kelly Steckelberg

Yes.

Steve Enders

Let's maybe switch gears a little bit again. I think Zoom has been pretty disruptive from a pricing and contracting perspective out in the market, do you foresee kind of any shifts in the pricing and contracting philosophy going forward, particularly for some of the newer areas like Phones and Contact Center?

Kelly Steckelberg

Yes, so our internal philosophy is always we win based on product and we do not lose based on price. And we have a very efficient gross margin structure that allows us to be able to do that. And to support free customers as well as being very aggressive on pricing when we need to be. So this is - we started this with meetings and with phone, if you look at our list price for both of those two products, we're about half that of our competitors in the space. And we've also announced a very aggressive price point for Contact Center. And that is absolutely indicative of our strategy of bringing high value to our customers. We want them to see a tremendous ROI on our products.

I often hear from customers, we would pay more for Zoom and we'd love to hear that, because that means they are seeing high value. And the way that we want to continue to grow our revenue per customer is by selling them additional products. And when they see a high degree of value, and they trust us in what we've delivered before, that gives them confidence they should continue to expand.

And we see it happen, like one of the slides we showed at Analyst Day showed that the land and expand strategy, which we often use, we had two examples, one customer from their original deployment to four years later were spending four times what they had started with. And the other one was, I think 3.5 or 3.7 something like that. So they do, they build over time and it's just worked really well. So we like this approach and we think it works really well for our customers and for Zoom.

Steve Enders

Okay. We have about 10 minutes left, I want to make sure that we get to some questions from the audience. But before jumping into that, I just want to talk about the investments in the go-to-market that you're making. I guess what are kind of the core opportunities that you're seeing today to put incremental dollars to work and how does the channel fit into those investments?

Kelly Steckelberg

Yes, it's a great question. So especially for FY '23, we see tremendous opportunities still outside of the U.S., International is a really big growth driver for us. So in terms of go-to-market, specifically sales capacity, we will be adding more, on a year-over-year basis more will be devoted to international than U.S. And then the international channel is also really important investment area for us.

So we spent kind of the last two years building out the U.S. channel. We have 18 master agents and that has worked really, really well for us. The international channel is in very nascent stages. So, really focused on that. You - on the call we announced the partnership with Deutsche Telekom. And you should expect to see both more carrier partnerships, as well as master agents outside of the U.S. coming.

And then on the marketing side, really focused on, we historically spent a lot on brand awareness. But we're in a fortunate position not to have to do that any longer. And so really focused on more targeted product marketing. So making sure that everybody knows about Zoom meetings, knows about Phone, knows about Events, knows about Contact Center, knows about Rooms. And that's where you should see the investment going forwards.

Steve Enders

Okay. That makes that makes sense. Just on the Contact Center side, how does the go-to-market for that differ from what you've seen from your other products so far. I guess what can you learn from Zoom Phone and the early success you've had there to drive some of those Contact Center conversations?

Kelly Steckelberg

Yes, so I feel really great about the go-to-market strategy for the Contact Center, meaning we are ahead of where we were like when we're introducing Phone, because the approach will be similar to Zoom Phone. And we've learned a lot over the last couple of years. So it's an overlay team, so we have our core meetings or account execs that they all know very well how to sell meetings. And then because Phone and Contact Center are more technical sales, we have these ninjas that come in and help them when they need to.

The great thing is that a lot of our Zoom Phone overlay team has sold Contact Centers in the past. So there is a lot of overlap there. In fact the leader Graeme Geddes who he runs both the overlay team for Phone, Rooms and Contact Center, he is very knowledgeable in this space. So while we have more investment to do in building out that team, we already have a head start, because we have that knowledge in-house both from a structure as well as the specific product knowledge.

Steve Enders

Okay. Now that's great to hear. It seems like a great jumping-off point for those people to go sell.

Kelly Steckelberg

Yes.

Steve Enders

I want to ask about capital allocation. You made a few tuck-ins in the past, tried to do a bigger deal last year, but also focused on internal investments. How are you thinking about the incremental dollars and where you're going to put capital to work going forward?

Kelly Steckelberg

Yes, so there are a couple of really important areas of investment that we're focused on, R&D being one of them. We are, in my view, we were under-invested in R&D, we have been for the last couple of years, just because of the rapid acceleration of revenue, we haven't been able to keep up with the hiring and the investment. The long-term target for R&D is 10% to 12% and we were under 7% last year. So that's a really big area of a focus, sales capacity that we just talked about is really important.

And then M&A, we are focused every day on thinking about how could we accelerate either talent acquisition or technology acceleration as well. So I would expect that M&A will be a much bigger part of our strategy. We've done three acquisitions in the past, mostly focused on talent. But going forwards, you could expect to see technology tuck-ins that makes sense in terms of accelerating technology. And then also, I don't know, if you heard on the call, but we have the Board authorized a share buyback program as well up to $1 billion, yes, over the next two years is, given where the stock price is, we think that makes a lot of sense.

Steve Enders

Okay. And I guess how are you thinking about the buyback part of it? Is it going to be pretty opportunistic, is it kind of a [segregated] yes, is there a philosophy and...

Kelly Steckelberg

Yes, we implemented a trading plan so that there is consistency in that. And it's actually already executing.

Steve Enders

Okay. Good to hear there. I want to ask a little bit around some of the contracting and billings. It's not a great forward-looking metric there. I guess you're guiding into 1Q billings being down year-over-year. I guess what are kind of the dynamics that are playing out there, that is - that's leading to this. And on the other side of that, what are the metrics that investors should be looking at to think about the forward-looking business?

Kelly Steckelberg

So, as a reminder, the reason that billings is not a great forward-looking metric for us is because of this 50% of our business that's online. And those customers, a lot of them are buying and paying monthly. So they don't ever show up in that metric. And so, it's very different than most of the SaaS companies that you probably are familiar with and that use billings as a good forward-looking metric.

And I get asked this a lot, and I think the best that I have to offer is the guidance that we gave, which and trying to break out these metrics for all of you, we start to understand what's the growth profile that's happening in each of the two halves of the business today and why? I'm sharing with you how we're thinking about that is really the best we have to offer.

Over time billings may become a better metric. However even pre-pandemic, it wasn't great, when online was still 25% of our business, right. It just isn't the same, but because the other complication is the seasonality of our renewals right now that became very heavily front-end loaded during the pandemic, which is why - what we're trying to do, we gave color around deferred --we don't - haven't historically guided to deferred, but we gave this color around deferred on the Q4 call. And we gave it again on - sorry, the Q3 call and the Q4 call because we understand that it isn't intuitive based on other companies and we want to make sure that we're giving enough color to help everybody model and understand what's going on in the business.

Steve Enders

Okay. Now that's very helpful. I guess should RPO or current RPO be a bigger consideration or is it kind of similar...

Kelly Steckelberg

It's the same, it's exactly the same. And again, over time if the Enterprise business continues to expand as an overall percentage of revenue, then it may become more relevant, but that's going to take some time.

Steve Enders

Right, okay. We only have a couple of minutes left here. I want to make sure to touch on some of the margin profiles. And how you're thinking about that? I think we've talked about online being a really good cash flow generator and having some really good margin dynamics from there. As this kind of begins to shift away, how should we think about what the long-term trend would be for the margin outlook as Enterprise begins to ramp up as a bigger part of the mix?

Kelly Steckelberg

Yes, so we owe all of you an update on our long-term margin profile, which we will give at Analyst Day in the fall. We kind of planned that last year because of the potential impending acquisition that was happening is just going to make sense. So we will update that in the future. I think the bigger impact you should expect on gross margin - sorry on margin profile in the short-term is absolutely the increase in R&D spend as well as the expansion in the sales and marketing spend.

That's what's going to have the immediate impact and you've seen us, we guided down on margins from where we were in Q4 to FY '23. And that's really the impact. Over time, if there were to be a significant shift in the business, what you can think about is online, the real difference is not the full sales and marketing, but it's the actual sales commission portion and the sales expense commission, because the online team - sorry the online business generally doesn't have - is that no one is getting paid a commission associated with that. And so that's the benefit and the differential you would see over time if we're really become a much bigger part of the business.

Steve Enders

Okay. But I guess on the free cash flow side, since those are shorter duration contracts, there should be some offset there in terms of the Enterprise being more annual and having more buffer.

Kelly Steckelberg

Yes, I mean, again that - it starts - there is a lot of considerations in there because of the timing of the renewals, like there is a lot to consider. But over time, if online, what that would do, it would increase the duration of our contracts, which would happen over time, and then it would potentially spike the cash flow depending on the renewal cycles.

Steve Enders

Right. Okay. That makes sense. I guess just as we think about the broader portfolio of Zoom, have Zoom Chat in there have other solutions like that, where should we kind of think about the platform evolving from here? Because it seems like Eric talked about quite a bit around more investment coming from a product perspective?

Kelly Steckelberg

So there is certainly the opportunity to continue investing in the existing products. Contact Center is brand new. Chat, we have really been focused on the last couple of quarters increasing and improving that feature and functionality there. Phone continues to be a huge opportunity. Eric talked about on the call workflows as well. So integrations with other third parties, potentially there is more work to be done there.

And then there, Eric also talked about wanting to increase the pace of new product introduction. We had previously targeted kind of a new product, every two years. And he wants to accelerate that to one every year, one major product. So you should expect that there is investment happening in the background on new products as well. But just haven't been disclosed yet.

Steve Enders

Okay, now that's good to hear. I think we're running up against time here. But it sounds like there is a lot coming down the pipeline that we'll hear more about at Zoomtopia and the Analyst Day coming up in the fall. So Kelly, I want to thank you so much for being here. And want to thank everybody in the crowd for being here today as well.

Kelly Steckelberg

Thank you, everybody.