Sprout Social, Inc. (NASDAQ:SPT) Q3 2023 Earnings Call Transcript

Sprout Social, Inc. (NASDAQ:SPT) Q3 2023 Earnings Call Transcript November 3, 2023

Operator: Thank you for standing by. Welcome to the Sprout Social Third Quarter 2023 Earnings Call. I would now like to welcome Jason Rechel, Vice President of Investor Relations and Corporate Development to begin the call. Jason, over to you.

Jason Rechel: Thank you, operator. Welcome to Sprout Social third quarter 2023 earnings call. We’ll be discussing the results announced in our press release issued after market closed today and have also released an updated investor presentation which can be found on our website. With me are Sprout Social’s CEO, Justyn Howard; CFO, Joe Del Preto; and President, Ryan Barretto. Today’s call will contain forward-looking statements, which are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. All statements other than statements at historical fact are forward-looking statements. These include among others, statements concerning our future financial performance and business plans and objectives and can be identified by words such as expect, anticipate, intend, plan, believe, seek, path, opportunity or will.

These statements reflect our views as of today only and should not be relied upon as representing our views at any subsequent date and we do not undertake any duty to update these statements. Forward-looking statements address matters that are subject to risks and uncertainties that could cause actual results to differ materially. For discussion of the risks and other important factors that could affect our actual results, please refer to our quarterly report on Form 10-Q for the quarter ended September 30th, 2023 to be filed with the SEC as well as our previous 10-Q and most recently filed 10-K. During the call we’ll discuss non-GAAP financial measures which are not prepared in accordance with generally accepted accounting principles. Definitions of these non-GAAP financial measures, along with reconciliation to the most directly comparable GAAP financial measures are included in our third quarter earnings released, which has been furnished to the SEC and is available on our website at investors.sproutsocial.com.

And with that, let me turn the call over to Justyn. Justyn?

Justyn Howard: Thank you, Jason, and good afternoon, everyone. Thank you, as always for joining us. At our Investor Day in Chicago last month, we spent time outlining our path to the $1 billion revenue milestone and on the opportunity to establish ourselves as the category winner in a rapidly maturing market. Our goal is to build an enduring software company centered on amazing products, amazing people, and over delivering for our customers every day. We’re pleased to share fantastic Q3 results today, which reflect strong execution against these goals. The combination of our ongoing breakout upmarket, rising utility for our software, strengthening multi-product strategy, and our entrance in influencer marketing have Sprout at the starting line of our next great growth chapter.

During Q3, we saw continued record new business ACVs, and total ACV growth at a record 40% year-over-year. This was driven by 49% year-over-year growth in our 50K plus ARR customers, an acceleration in our premium module attach rates, and a further acceleration in our enterprise business. We delivered ARR over performance across segments, geographies, products, partnerships, and tagger, and RPO growth of 67% crystallizes this momentum. We spent a considerable amount of time at Investor Day discussing our product leadership through every stage of market maturity. And what is today a market that is more quickly maturing than any time in our history. This was perhaps most evident at the high end of the enterprise and in our strategic accounts team, which delivered more than 100% year-over-year growth in net new ARR, powering total ACV growth of more than 40%.

This combination of product leadership and market maturity will stand out in some of the branch that Ryan will share with you. You’re going to hear stories that you haven’t historically heard from customers that this group hasn’t historically associated with Sprout. Another key component of our current and future execution is our platform strategy. Only 6% of our customer base has adopted two or more premium products. And we see massive potential to unify what should be standard social capabilities for all global businesses. Total premium module attach rates were even stronger than our impressive Q2, increasing of more than 27%. We were also excited to surpass $100 million in premium module ARR this quarter. This performance was, of course, complemented during Q3 with our acquisition of influencer marketing leader Tagger.

Our acquisition thesis was grounded in our right to win this NACES category by leveraging our incumbent position in social with our ability to create a social suite designed to deliver customer workflow, reporting, and analytics that is not to this point existed. One of the more recent validations of our thesis was Snapchat’s October launch of their creator marketplace API. Tagger was one of only a handful of companies selected to participate. And as further highlights the rising strategic role we play with the network’s positioning Sprout and Tagger to deliver integrated and differentiated functionality that our industry has not previously seen. Business integration has also progressed smoothly and early customer reception to tagger has far exceeded our expectations.

Our teams and our products have felt like cousins from the start and we now have differentiated value proposition to deliver for an expanding set of new customers and customer excitement inside our installed base has been headlined by very large enterprise bands and small businesses alike. With 3x to 4x current Sprout ECBs and a meaningful opportunity to further differentiate the customer value proposition we believe Tagger has potential to be a greater than $100 million ARR business by 2028. Our broader product evolution made meaningful progress during Q3 as well, almost specifically in AI and social customer care. Our foundational AI releases during Q3 include the listening content filtering, message sentiment analysis, enhanced listening queries, theme suggestions, and many more.

We expect generative AI and new enrichments to the platform will create even more customer value during Q4 and into next year. We saw a high velocity of social customer care enhancements during the Q4 as we redefined workflow, case creation, and reporting with differentiated rules engine, elegant user experience, enterprise security, and governance, and a platform that allows our customers to engage everywhere that their customers are. Our enterprise customer care momentum with new customers this Q4 was exceptional and we’re just getting started. Sprout has been fortunate to build a leading company centered on building world-class team and over delivering for our customers. Recently we were named to the 2023 Fortune Best Workplaces and Technology List and recognized by G2’s 2023 Fall reports as a leader across 138 categories.

We are also honored to be rated the number three software company in the entire software industry. We’ve proven our success in every stage of the evolution of our market with customers of all sizes and in all market conditions. We believe social is maturing as the primary communication channel between brands and their customers. Though our market is still early, both in terms of age and the maturity of adoption across the fast growing list of use cases, we’re all in on social, our holistic differentiated approach and consistent focus increasingly stand out. We’re early in our multi-product strategy, early in our international growth, and early in our upmarket evolution. We believe we have the right team and the right approach to fully capitalize on our expanding opportunity.

And with that I’ll turn the call over to Ryan to tell you more about our progress.

Ryan Barretto: Thanks, Justin. I’m incredibly proud of the way our teams are delivering for our customers. Social is unlocking new paths to revenue, customer satisfaction and loyalty, brand awareness, and business growths. And knowing that we have the technology, community, and customer validation to lead social into the next phase of growth is beyond exciting. An Investor Day assured several important building blocks that will allow us to execute against our $1 billion revenue milestone. And I want to update you on that progress today. Thinking about platform leadership and culture, it’s worth stating again. We are recently recognized as the third highest ranked company on G2. And of every software company on G2, we are number three.

We’re honored to be recognized as the top customer rated platform in our category for every market segment from S&B through the enterprise, and in virtually every customer satisfaction dimension measured by G2. We are also specifically named as the number one product in social media management, social media analytics, social customer service, best results for the enterprise, and in 68 other categories. We have a relentless commitment to be the best place to be an employee and the best place to be a customer. This type of market recognition only comes after exceptional customer success. Our teams continue to over deliver, and during Q3 we had the opportunity to work with many iconic and leading global brands. These customers included American Honda Motor Company, HARMAN International, a Samsung company, Camping World, Hormel Foods, Danaher, Activision Blizzard, Welch Foods, NYU Langone Health System, Belden, and Mercado Libre.

For those keeping tracks, I just mentioned the fourth biggest tech company in the world, the 20th most valuable brand in the world, four Fortune 500 companies. The biggest commerce company in Brazil, and these are just a handful of the iconic brands we have the approval to share publicly. It’s also inspiring to see the scope of how our customers are now leveraging social. For those that know the Burradoo [ph] Household, Papa John’s is the pizza ordered for pizza night. Josh Martin, Papa John’s Director of Social Media and Brand Engagement, said it well. We strive to be the most engaged pizza brand in the industry, and Sprout is the right solution to help us achieve that goal. We focus on high value community engagement to improve our overall customer experience.

Rich social listening data allows us to go deeper into customer sentiment, while making UGC more accessible. Sprout’s unified platform allows us to deliver value across content marketing, influencer identification, brand management, and social customer care. Long time Sprout customer NBCUniversal, who expanded our relationship this quarter, echoes similar sentiment. Justin Karp, the VP of Social Media at NBC Cable Entertainment and Sports Chairs. Sprouts Social has made many parts of our Social business more efficient. From content creation, project management to analytics. Sprouts tools have made us a smarter and stronger operation. The product continues to improve and we are pleased that our feedback on several of Sprouts tools have been taken and put into action.

Expanding our partner ecosystem will also play a pivotal role in our future success. We have a massive opportunity to complement Salesforce, Service Cloud and help brands respond faster than ever to their customers on social. After a record Q2 onboarding, we helped another 154 Salesforce customers implement Sprout during Q3 and the scope of deployments increased resulting in record new Salesforce ARR. We expect another record ARR contribution in Q4 as complex deployments begin their migration to Sprout. A loyal community is another building block to $1 billion. We’re fortunate to invite many customers to speak in our community, and just last week we had the opportunity to host McDonald’s Customer Care Program Strategy Manager, Elly Moody, to hear her perspective on enhancing the customer experience with social care.

I’d encourage you to listen and learn about the inherent challenges when sending customers from social to the 1-800 number or other channels. As I shared in my presentation at Dreamforce, this is the future state of Omnichannel Customer Care, meeting customers where they are. This is the key to improving customer satisfaction and building customer trust. This intersection of partner success and community highlights exactly why Social Studio is only the beginning of our ecosystem opportunity. We have spent the last 18 months integrating Sprout natively into the common data layer of Salesforce. Our main goal has been to provide the most powerful and seamless collaboration across Salesforce, and to ensure that Sprout is the best and only choice for Salesforce customers seeking to solve for Social.

We believe this unique combination of partner and community success has Sprout well-positioned for growth in 2024 and well beyond. Speaking of 2024, according to socialmedia.org recent 2024 Pulse Survey, more than 75% of enterprise social media leaders expect to maintain or grow their budget through next year, and more than 90% expect to stable or growing social media team through 2024. Some top areas of planned investment include influencer marketing, employee advocacy, social listening, content creation, reporting, and analytics. Social is an increasingly important and necessary part of any business as it expands across many different departments, and Sprout is well positioned to help our customers unify these social capabilities across the enterprise.

I am proud of the way our teams are executing. Our exceptional team and exceptional product are foundational of how Sprout creates outsized value for our customers. And they are the pillars for how we will build a category defining software franchise. And with that, I’ll turn it over to Joe to run through the financials. Joe?

Joe Del Preto: Thanks, Ryan. I’ll now walk you through our third quarter results in detail before moving on to guidance for the fourth quarter and full-year 2023. Revenue for the third quarter was $85.5 million, representing 31% year-over-year growth. Subscription revenue was $84.8 million, up 31% year-over-year. Services revenue was $0.7 million, down 5% year-over-year. Total ARR as in Q3 was $359.5 million, up 33% year-over-year and nicely ahead of our plan. Very strong ARR growth was led primarily by a meaningful acceleration in our Enterprise business, stronger premium module catch rates, better than expected early tag momentum and roughly 3 million less churn than we previously anticipated from our non-core business. The number of customers contributing more than $10,000 in ARR grew 33% from a year ago.

The number of customers contributing more than $50,000 in ARR grew 49% from a year ago. Q3 ACV growth was a record 40% year-over-year. Record new business deal sizes, very strong enterprise momentum, earlier terms from influencer marketing expansion, and the aggregate from a number of low-value logos each compounded ongoing healthy seed expansion and much stronger premium module attach rates. We expect ACVs in the near term to grow similar to Q3 levels and expect faster than previously anticipated ACV growth over the medium term. In Q3, non-GAAP gross profit was $66.8 million, representing non-GAAP gross margins of 78.1%. This is a 50 basis point compared to a non-GAAP gross margin of 77.6% a year ago. Non-GAAP sales and marketing expenses for Q3 were $35.9 million or 42% of revenue up from 40% a year ago.

We continue to hire aggressively at an enterprise sales and success organization and this quarter took on the tag our team as well. Non-GAAP research and development expenses for Q3 were $15.0 million or 18% of revenue down from 20% a year ago. We continue to invest in our future and our increasingly targeted investments in AI and social customer care are delivering strong results. Non-GAAP general and administrative expenses for Q3 were $16.4 million or 19% of revenue, consistently 19% a year ago. We expect to deliver a consistent G&A leverage at the percent of revenue moving forward. Non-GAAP operating loss for Q3 was negative $0.6 million for negative 0.7% percent non-GAAP operating margin, an improvement of 150 basis points year-over-year in spite of near term dilution associated with Tagger.

Non-GAAP net loss for Q3 was $0.6 million for non-GAAP net loss of $0.01 per share, based on $55.8 million weighted average shares of common stock outstanding, compared to a non-GAAP net loss of $1 million and $0.02 per share a year ago. Turning to the balance sheet and cash flow statement, we ended Q3 with $121.4 million in cash, cash equivalence, and marketable securities. This is down from $192.4 million at the end of Q2 and reflects our acquisition of Tagger in August. Deferred revenue at the end of the quarter was $123.4 million. Looking at both our billed and unbilled contracts, RPO totaled $228.7 million, up from $206.4 million exiting Q2 and up 67% year-over-year. We expect to recognize approximately 73% or $167 million of total RPOs revenue over the next 12 months, and playing a CRPO growth rate of 51% year-over-year.

Operating cash flow in Q3 was negative $5.5 million compared to positive $1.0 million a year ago. Pre-cash flow was negative $3.4 million down from a year ago. We observed Tagger and integration expenses this quarter. We expect to shift back to positive operating and pre-cash flow beginning in Q4. Shifting to formal guidance. For the fourth quarter of fiscal 2023, we expect revenue in a range of $90.5 million to $90.6 million, or growth rate of 30%. We expect non-GAAP operating income in a range of $0.6 million to $0.7 million. The sum of the non-GAAP operating margin of 0.7% at the midpoint. We expect a non-GAAP net income per share of between zero cents and $0.01. This assumes $56.6 million weighted average basic shares of common stock outstanding.

For the full-year 2023, we expect total revenue in a range of $330.6 million to $330.7 million. This is expected overall reported growth rate more than 30%. We’re raising our implied ARR growth rate exiting 2023 to approximately 30% for our prior view of 28% to 29%. This continues to assume that our non-core low end ARR declines to zero exiting the year. For the full-year 2023, we now expect non-GAAP operating income in a range of $3.6 million to $3.7 million. This implies annual non-GAAP operating margin improvement of 270 basis points compared to with our prior margin expansion forecast of 200 basis points. We now expect non-GAAP net income per share of between $0.12 and $0.13 compared to our prior guidance of $0.07 and assuming $55.9 million weighted average basic shares of common stock outstanding.

We believe we’re building a category defining company when we do that strong execution during Q3 as it’s on the path to achieving our full potential as we carry strong business momentum in the end of the year. With that, Justyn, Ryan and I are happy to take any of your questions. Operator?

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Q&A Session

Operator: [Operator Instructions]. Our first question comes from the line of Raimo Lenschow with Barclays. Please go ahead.

Unidentified Analyst: Hey, this is Frank on for Raimo. Congrats to the strong quarter. I want to ask one around Tagger. How has the integration process been going there? And has Tagger begun to weigh as a factor in those enterprise wins already?

Ryan Barretto: Hey, thanks for the question. This is Ryan. The integration has been going well so far. We’ve been really excited by what we’ve seen, certainly from the product and as well from the team. We’ve got the team now working really well across the go-to-market organization embedded into our marketing, our sales, and customer success motions. And then certainly on the product side, our R&D organizations have been working really closely together, not only on the integration, but as we think about 2024 and some of the opportunities in front of us. As it relates to the second part of the question in terms of the value in the enterprise deals, we’re really early within this so far. We’ve been generating some really nice pipeline and opportunities, but certainly from what we’ve seen in the short period of time, the value prop of having social media management alongside of influencer marketing has been very compelling for customers.

And so we are seeing this as a great opportunity to do what we had thought during diligence, which is to differentiate ourselves from other social media management providers. And also to bring a product that’s still pretty nascent to the 30,000 customers that we get to work with every day. So we see it being a really strong opportunity for us as we move forward here. And we certainly saw some good results already in Q3.

Unidentified Analyst: Thanks, Ryan. Any way to think about the ARR contribution from Tagger specifically?

Ryan Barretto: Yes, so the way we’ve kind of talked about that historically, Frank, as we talked about this coming out of the acquisition after Q2 is we modeled out, we told you about $3 million of revenue over the last five months. And from there, you can kind of infer the ARR from those numbers. We outperform that, in Q3 a little bit and we are a little bit ahead of that schedule. So you can expect a little bit more upside from an ARR standpoint based on what we’ve seen so far in Q3 going into Q4.

Unidentified Analyst: Awesome. Congrats again.

Ryan Barretto: Thank you.

Operator: Our next question comes from the line of [indiscernible] with William Blair. Please go ahead.

Unidentified Analyst: Yes, thanks. Congrats on the quarter and appreciate you taking the question. I was curious if you could give any additional color on the acceleration of premium attach rates. Was that primarily driven by like Tagger cross dollar? Was it more of the other premium modules?

Ryan Barretto: Yes, thanks Rachel. It would be the other premium modules that we’d highlight. These are things that we’ve talked about in the past. We’ve seen really good acceleration there. As we get really focused in on this ideal customer profile, which are these sophisticated customers, more and more things like premium analytics, social listening, advocacy are really important for the things that they’re trying to solve at the enterprise level. And so we’ve continued to see really great success across all of those products. We certainly believe to the question before that that Tagger is going to be a really nice addition on top of that. So this is really driven by the premium modules that we’ve always had and spoken about in previous calls.

Unidentified Analyst: Awesome. Thank you. And then just like one follow-up to that, if I could. Any thoughts on where you think premium attach rates could go in the near to medium term?

Justyn Howard: Thanks for the question. This is Justyn. I think that you’ve heard us talk a lot about where it is today in terms of percentage of customers with multiple of the premium products. We see a lot of utility across a number of the premium offerings now, including influencer marketing to a pretty wide part of our customer base. I think it’s early for us to be directional on where we think that could ultimately be, but we certainly think that there’s a ton of headroom. We’ve seen that acceleration in the attach rates today. We talked about it in Investor Day, the amount of companies that are going to be kind of graduating through the maturity curve of where they are with social. And if that continues to improve that utility and that readiness for these more sophisticated future sets is only going to grow from there.

Unidentified Analyst: Awesome. Thanks so much and congrats again.

Justyn Howard: Thank you very much.

Operator: Our next question comes from the line of DJ Hynes with Canaccord Genuity. Please go ahead.

David Hynes: Hi guys, thanks for taking the question and really impressive roster of large customers here in the quarter. So kudos. Ryan, maybe one for you to start. I’m curious what kind of trends you’re seeing in sales cycles as you move really up into that kind of large enterprise bucket. And I’d be curious, like how often are those deals involving multiple department decision makers at land?

Ryan Barretto: Yes, thanks, DJ. So one of the benefits, and we’ve spoken about this a little bit in the past, but worth mentioning again, one of the benefits that we have here is that we have this trial model that we leverage even in the enterprise. And so even in enterprise deals that might come from RFPs, we generally have a faster sales cycle than you might see with other enterprise software players, both in our space and outside of it, because customers are in the product by the time they make a decision. And oftentimes, they’ve implemented a lot of the work. They’ve got users in, they’re starting to publish through their social profiles or run reports directly in Sprout before they ever sign a contract for us. So we’ve seen really good cycles.

There’s still 35 to 41 days on average, certainly in the large enterprises. They’ll be longer than that, but we have this advantage that they’re in the product leveraging it. And we’ve seen that being a really big differentiator for us as we move forward.

David Hynes: And then, Justyn, maybe a follow-up from you. I’m curious how you think about more traditional contact center oriented software firms and their ability to compete in social customer care over time?

Justyn Howard: Yes, it’s an interesting question and I spend a lot of time thinking about, I think Social has proven to be something that requires a lot of focus, a lot of energy, a lot of R&D expertise, a lot of historical buildup of that expertise. And Social as part of the care stack, if you will, is really unique in that, it’s not the only thing happening in that channel. There’s marketing, there’s community, there’s product feedback, there’s certainly questions, there’s support issues, et cetera. That really require all of the stakeholders within an organization across business functions to be able to work together. And for that reason, historically, and we believe going forward, there’s a pretty big moat around the care aspects of Social.

And we’re seeing as more of these large enterprises that we’ve talked about in many other organizations are starting to make investments, more significant investments in social as a care channel. They’re recognizing that as well, choosing Sprout for the reasons that I mentioned, where it’s been a bit harder and disconnected in some of the other approaches, taking kind of legacy systems into account.