Upwork Inc. (NASDAQ:UPWK) Q4 2023 Earnings Call Transcript

Upwork Inc. (NASDAQ:UPWK) Q4 2023 Earnings Call Transcript February 14, 2024

Upwork Inc. beats earnings expectations. Reported EPS is $0.2, expectations were $0.17. Upwork Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good day, and thank you for standing by. Welcome to the Upwork’s Fourth Quarter and Full Year 2023 Financial Results Conference Call. At this time, all participants are in a listen-only mode. After the speaker’s presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today’s conference is being recorded. I would now like to turn the conference over to David Niederman, Vice President, Investor Relations. Please go ahead.

David Niederman: Thank you. Welcome to Upwork’s discussion of its fourth quarter 2023 financial results. Joining me today are Hayden Brown, Upwork’s President and Chief Executive Officer, and Erica Gessert, Upwork’s Chief Financial Officer. Following management’s prepared remarks, we will be happy to take your questions. But first I’ll review the state harbor statement. During this call, we may make statements related to our business that are forward-looking statements under federal securities laws. Forward-looking statements include all statements other than statements of historical fact. These statements are not guarantees of future performance, but rather are subject to a variety of risks, uncertainties, and assumptions. Our actual results could differ materially from expectations reflected in any forward-looking statements.

For discussion of the material risks and other important factors that could affect our actual results, please refer to our SEC filings available on the SEC website and also on our investor relations website as well as the risks and other important factors discussed in today’s earnings press release. Additional information will also be set forth in our annual report on form 10-K for the three months ended December 31st, 2023. In addition, reference will be made to certain non-GAAP financial measures. Information regarding the reconciliation of non-GAAP to GAAP measures can be found in the press release that was issued this afternoon on our investor relations website at investors.upwork.com. Unless otherwise noted, reported figures are rounded in comparisons to the fourth quarter of 2023 or to the fourth quarter 2022.

All financial measures are GAAP unless cited as non-GAAP. Now, I’ll turn the call over to Hayden.

Hayden Brown: Welcome everyone to Upwork’s fourth quarter and full year 2023 earnings call. I’m excited to review our accomplishments for the year and speak to our plans for the future. We gained further momentum in the fourth quarter. Fourth quarter revenue of $183.9 million grew 13.9% year-over-year, reflecting accelerating growth over the past three quarters. Full year revenue grew 11.5% year-over-year to $689.1 million. We continued to demonstrate strong profitability with GAAP net income of $46.9 million and adjusted EBITDA of $73.1 million for the full year, which is the highest adjusted EBITDA result in our company’s history. This success was made possible by our dedicated Upwork team and I want to thank them for their disciplined efforts.

2023 was a significant year for the world of work. As the world’s largest work marketplace, Upwork played a critical role in helping the more than 850,000 clients and millions of independent professionals we serve, adapt to new realities and modernize how they work. There are three key areas of focus that we saw pay dividends in 2023, AI investments, partnerships, and ads and monetization. We built innovative new AI-powered features and platform experiences across every category of work. In the fourth quarter, we opened up the waitlist for Upwork Chat Pro, a work tool powered by OpenAI GPT-4 and embedded into the Upwork experience to help customers solve challenging tasks, boost productivity, and do their best work faster. We’ve already received over 150,000 signups, and the wait list is growing every day.

Our AI-powered job post generator tool has also proven to be a major boost for clients, significantly increasing task completion speed and improving results. And lastly, findings from the first version of our proposal tips tool showed that freelancers using it secured work at a higher rate than those not using it. Despite only being available for a short time, these AI-powered tools are already having a strong positive impact, and we are committed to further developing this exciting technology for the benefit of our customers. We also forged constructive partnerships in 2023 with specific objectives in mind. The first objective involved establishing Upwork as a go-to destination for experts in different types of work. This included launching our third quarter partnership with OpenAI.

Since signing OpenAI, we have signed a dozen additional partners through a similar model with more on the horizon. The second objective was establishing partnerships with companies such as Adobe, Amazon, Miro, Jasper, and ClickUp, aimed at increasing the speed and quality of work delivered on Upwork. While this strategy is in its early stages, customer feedback has been extremely positive. Finally, on ads and monetization, we made a strong push to enable talent on our platform through a number of offerings that empower them to stand out from the crowd and highlight their unique skills. Our suite of ads and monetization products was the fastest growing revenue stream for Upwork in 2023, and the efficacy of these tools is being proven out in real time.

Using these products, talent can signal to prospective clients that they are ready to start a project immediately, boost proposals to secure work, and promote their profiles at the top of a client’s search results when a client is searching for talent. When a client sends invitations to collaborate with freelancers using an availability badge, those invitations are accepted 77% more often. A successfully boosted proposal increases a freelancer’s chance of getting hired by approximately 20%. And finally, thanks to ongoing enhancements to our Freelancer Plus subscription offering for talent, we saw enrollments increase 76% year-over-year. We’re excited to grow this suite of products and support our customers in the year ahead. Turning to Enterprise, we continue to be well positioned to capture share and drive value.

In December, we announced an initiative to make it easier for Enterprise customers to use Upwork within their existing workforce management systems. We launched partnerships with major vendor management system, or VMS platforms, SAP Fieldglass, and Flextrack within our Enterprise Suite. We plan to drive further Enterprise growth through these integrations and by expanding these arrangements to additional VMS partners to be announced this year. The differentiation of our enterprise suite is what attracted 31 leading organizations like Instacart, Checkout.com, and New York University to become a new enterprise client in the fourth quarter, innovating how they work at scale. We are proud of the foundation of efficiency and pace of acquisition we built for the Enterprise business in 2023 and are confident in our plans to re-accelerate this business in 2024.

Of course, one trend dominated the discourse more than any other last year, the rise of artificial intelligence. Last summer, when we unveiled the first set of AI innovations in our ecosystem, we said what we believed AI would be a game changer for work, deliver major wins for professionals and companies alike, and be an avenue for the world to work smarter. We saw that AI tools held tremendous promise to enhance work experiences and enable professionals to be more productive and fulfill their potential. While still early in the journey, my conviction in that vision is stronger than ever. We have made significant progress toward our goal of making Upwork the preeminent destination for AI-related talent and work. We’re also continuing to expand our range of AI-based solutions that supercharge our customers’ ability to get work done.

In Q4, we acquired AI startup Headroom and welcomed Headroom’s founder, Andrew Rabinovich, as our Head of AI and Machine Learning. Andrew is one of the world’s leading scientists in deep learning and computer vision. He worked for years in leadership positions at Google Brain and Magic Leap and his background and expertise will enable us to accelerate our work to reimagine how we serve customer needs using human-centered AI as the new building block for innovation. This year, with our expanded internal AI team, we are fundamentally re-envisioning the full Upwork experience. We look forward to sharing more on our exciting progress and vision in the coming year. As we look to the year ahead, we are focused on three strategies that guide our investments.

These strategies are, first, win key customer and work segments via specialization. Upwork is already known for the breadth and diversity of our marketplace. This year, we are executing on the opportunity to layer in greater category specialization to enable high value customer and work offerings to thrive more readily in our ecosystems. You’ve seen us take early steps in this direction with our focus on the AI talent vertical last year. We helped clients more easily connect with top tier AI talent via targeted partnerships with organizations like OpenAI, feature launches like consultations for AI work and a dedicated talent storefront with our AI services hub. These efforts led to 70% growth in GSV in the AI and machine learning subcategory on Upwork and are the makings of a playbook for continued specialization approaches in this and other categories across our marketplace.

Our second strategy is to build the world’s most innovative work platform. We’re pursuing bold innovations that use the newest technologies to remove friction and enhance the light among our customers as evidenced by our already launched features and plans to leverage AI to reimagine the Upwork experience. In addition to our own internally developed apps and features, we are leveraging partners both to distribute talent on Upwork into third-party ecosystems and to empower talent on our marketplace with access to cutting edge tools. This year, we will further expand our partner ecosystem for customers. Our third strategy is to build a foundation for ongoing profitability growth over multiple years. We are in the early chapters of our ads and monetization journey, and we’ll continue building on the strong foundations we have established to unlock more value for customers and shareholders over time.

In 2023, we were successful in our shift to profitability, delivering a 16.6% adjusted EBITDA margin and Q4, and we remain committed to an enduring focus on expanding margin this year and in years to come. These are the pillars that will guide Upwork in 2024. I look forward to providing updates as we progress through the year. With that, I will turn it over to Erica to review our financials.

Erica Gessert: Thanks, Hayden. I’m delighted to be here to share more specifics on our strong financial momentum as we enter into a promising 2024. 2023 was a year of heightened uncertainty across the world and in business. Marked by volatility in geopolitical events and capital markets, it was an environment where the rules of the game change rapidly. Within this dynamic, we moved to focus our business on adjusted EBITDA margin and free cash flow generation with tremendous success. In just six months, we moved from negative profitability to a business with adjusted EBITDA margins in the high teens. We showed strong operational agility, quickly identifying opportunities for efficiencies across our business. Our focus on greater efficiency is yielding tremendous results.

Our performance marketing engine is working better than ever. In Q4, we saw 20% growth in our new client starts driven by performance marketing, while our CAC in the same period improved by 24% year-over-year. We also had excellent success with higher value client segments, which we expect have an outsized impact on revenue and LTV. And in enterprise sales, we were able to increase our client acquisition in Q4 even with our rationalized sales force. These positive actions helped to drive total active client growth of 5% year-over-year in the fourth quarter. Within the dynamic market environment in 2023, we turned our business into one of steady growth. For the full year 2024, we expect to continue this progress, producing strong year-over-year growth in active clients, revenue, adjusted EBITDA, and adjusted free cash flow.

Our momentum exiting 2023 and our plan for 2024 give us conviction that we can provide strong business results and serve our customers even in uncertain economic conditions. This confidence is based on our growing business efficiency, our culture of innovation, and the pipeline of new products that we have planned for 2024 and beyond. For the fourth quarter, GSV again exceeded $1 billion and was $4.1 billion for the full year 2023. Fourth quarter GSV growth was positively impacted, in part by the timing of client payments to freelancers, which included an additional week in Q4 versus the fourth quarter of 2022. Revenue growth again showed sequential acceleration, growing 13.9% year-over-year to $183.9 million, compared to 10.8% growth in Q3.

Marketplace revenue was $157.5 million. Turning to our enterprise business unit, I want to note that in accordance with our internal operating model, we are now reporting enterprise revenue separately from marketplace revenue and the business unit includes both managed services and enterprise solutions revenue. In the fourth quarter, total enterprise revenue was flat year-over-year at $26.4 million, which reflects the ongoing macro impacts to this customer segment that we’ve highlighted throughout 2023. Enterprise revenue increased modestly from Q3 to Q4. Our active client base continues to grow. We added 15,000 new active clients in the fourth quarter of 2023, ending the year with approximately 851,000 active clients. Underpinning this growth in the fourth quarter, we had the strongest year-over-year growth in new client acquisition and reactivated clients in more than two years.

Only about a quarter of our new client acquisition comes from performance marketing, so we are also seeing strong organic growth. I want to spend a moment to provide some detail on GSV dynamics. While we continue to see a slight decline in GSV per active client, this is partially attributable to the mix shift to newly activated clients who have lower spend early in their life cycles. Our average client increases their spend on our platform over time. So this new client acquisition is an important indicator of future growth. GSV per newly active client was up modestly year-over-year in the fourth quarter. Non-GAAP gross margin declined slightly on a sequential basis, largely associated with one-time items, but improved nicely year-over-year, both for the fourth quarter of 2023 and also for the full year.

Q4 non-GAAP gross margin of 75.3% increased 60 basis points year-over-year. Full year 2023 non-GAAP gross margin of 75.5% increased 120 basis points year-over-year from 74.3% for the full year in 2022. Non-GAAP operating expense was $111.8 million in the fourth quarter, representing 61% of revenue, compared to $121.6 million or 75% of revenue in the comparable prior year period. For the fourth quarter, non-GAAP R&D expense was $39.6 million, increasing 16% year-over-year as we continued to invest in the product innovation and platform enhancements that Hayden has discussed. Non-GAAP sales and marketing expense of $44.9 million declined 24% year-over-year as we maintained our strategy of efficient growth and non-GAAP G&A expenses of $25.1 million grew 15% year-over-year, coming off of two quarters of negative year-over-year growth as we filled some key positions and executed various projects in the fourth quarter.

Our provision for transaction losses remains steady at $2.1 million for Q4, representing just 1% of total revenue. Adjusted EBITDA was $30.5 million in the fourth quarter, representing a margin of 16.6%. For the full year 2023, adjusted EBITDA was $73.1 million, our highest ever. Cash, cash equivalents, and marketable securities was approximately $550 million in the fourth quarter, down slightly from approximately $555 million in the prior quarter. This decline is due to the timing of client payments to freelancers that I mentioned earlier. Cash as of January 31st of this year was $608 million, which is more indicative of our growing cash balance trends [than the] (ph) end-of-year result. We are pleased that our profitable business model is translating to GAAP earnings per share growth, which includes the impact of stock-based compensation.

For the fourth quarter of 2023, fully diluted GAAP earnings per share was $0.13, and for the full year 2023, it was $0.06 cents. I’m also happy to announce the disclosure of a new metric, adjusted free cash flow. We are starting to report this metric to reflect our commitment to growing profitability and the strong cash yield of our business. Our adjusted free cash flow for the full year 2023 was $48.3 million. Please refer to the key definition slide in our earnings presentation for further detail on the calculation of adjusted free cash flow. Turning to guidance. For the first quarter of 2024, we expect to produce revenue in the range of $183 million to $188 million, representing 15% year-over-year growth at the midpoint. And for adjusted EBITDA, a range of $28 million to $32 million, which represents an adjusted EBITDA margin of 14% at the midpoint.

We expect first quarter of 2024 non-GAAP diluted EPS to be between $0.17 and $0.19. For the full year 2024, we are guiding revenue to a range of $760 million to $780 million, representing 12% year-over-year growth at the midpoint. And for adjusted EBITDA, a range of $125 million to $135 million, representing a margin of 17% at the midpoint. I want to highlight that the cadence of quarterly sequential revenue growth is expected to moderate slightly in the back half of 2024. This is primarily due to lapping of the pricing change that we have discussed on prior calls. Our year-over-year growth and adjusted EBITDA margin reflects the profitability of our business model and our commitment to durable profitable growth. We expect full year 2024 non-GAAP diluted EPS to be between $0.77 and $0.81.

Stock-based compensation is expected to be in the range of approximately $20 million per quarter for 2024. As we look beyond 2024, it’s important to note our key financial priorities. From a top-line perspective, we will be focused on driving growth through innovations in our marketplace offering and driving re-acceleration in our enterprise business unit. At the same time, we will maintain our commitment to growing profit margins. As I’ve dug into our business over the past year, I continue to have unwavering conviction in our ability to produce durable, profitable growth with expanding margins over multiple years. While we have made great progress in 2023, our journey to increase both efficiency and productivity in this business is still in the early innings.

I see many opportunities for ongoing operating leverage through increasing scale, growth of new revenue streams, and ongoing productivity and efficiency improvements. I’m excited about the growth we have planned for 2024, and we as a management team are committed to producing value for our customers, for our employees, and for our shareholders on an ongoing basis. I want to thank our fantastic team at Upwork for their tireless commitment to profitability, growth, and innovation. And with that, we’d be happy to take your questions.

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Q&A Session

Operator: Thank you. [Operator Instructions] Our first question today will be coming from Maria Ripps of Canaccord. Your line is open.

Maria Ripps: Great, thanks so much for taking my questions. First, I appreciate all the color in terms of guidance. Anything you can share about maybe GSV growth this year? And then maybe help us understand what’s included in your revenue guidance in terms of contribution from your take rate expansion?

Hayden Brown: Yeah, sure. Thanks, Maria, and hi. So first and foremost, I’ll say for GSV growth in 2024, we do expect to drive some modest year-over-year growth in GSV in 2024. Look, as we all know, we’re coming out of a couple of really volatile years in the broader economic environment in which a lot of companies saw impacts to their growth. But we’re really confident that we have the right strategy in place to grow GSV over the long term. Just in terms of what we’re contemplating from revenue growth associated with take rate in 2024, obviously we do expect, I think as everyone is pretty well acquainted with the strategic change in our pricing to a flat fee price that we announced in 2023, at the beginning of this year, the remaining 5% contracts did step up to 10%.

And so we do expect a step up in take rate from Q4 into Q1. So we’ll expect some tailwinds from take rate ongoing into 2024. And just overall, I would say the dynamics of that price change have been extraordinarily good. And it really reflects the health and the strengths of the platform.

Erica Gessert: I’d add Maria that as we think about GSV growth in 2024 and beyond, there’s really two levers that we’re focused on. The first one is around winning key customers and work segments with specialization of our product and go to market. And you saw us executing on that already last year with the playbook in the AI category in particular, which really led to the 70% growth in the AI machine learning subcategory, which we mentioned. So we’re going to be expanding that playbook this year, and I think that will start to contribute to that GSV growth this year, but also ramp into future years. The other strategy we’re focused on is building the world’s most innovative work platform. And there’s a tremendous opportunity around that.

With our AI strategies, we did acquire the company Headroom in Q4, and that’s really accelerating our entire roadmap around innovating the platform and watching new features. We have a number that we already put out in Q4, but again, the product pipeline there is really robust. So we’re very excited about how that’s going to layer in over the coming years.

Maria Ripps: Got it, that’s very helpful. And then maybe secondly, you’ve talked a lot about sort of new ad products and things like Connect that are driving take-rate extension on the freelancer side. But I’m just wondering whether there is any opportunity to introduce maybe additional products on the client side to drive for the take-rate expansion. And then more broadly, how are you thinking about your long-term pricing power on both sides of the marketplace?

Hayden Brown: I’d say we’re still very early in the ads and monetization journey. I think what we saw in 2023 was very exciting in terms of the momentum with those products. And certainly, you’re right, we focus more on some of the talent side features and functionality, which suggests there is a lot more we can do on the client side as well. So I think there’s more to come there. We think this is early innings. Every healthy marketplace seems to have very robust ads products. And we believe we can build that, too, as evidenced by the progress we’ve already made. So more to come there. This is definitely something that we’re leveraging this year. And in terms of pricing power, I think the success of our pricing changes over the course of the last year have already demonstrated, I think, that we have a good handle on what that pricing power looks like in the marketplace and that the value of the offering is really robust.

All of the pricing changes we’ve made have really resulted in changes in line with our expectations in terms of adoption, churn rates, et cetera. There’s been no surprises and those have been a resounding success. So we’re going to continue to lean into the opportunities there to create value both for shareholders, but also for customers through these types of products.

Erica Gessert: I just had one more nuance there, which is the reason we talk about ads and monetization is that these products are kind of multi-dimensional, right? We have what would be considered probably more traditional ads products, like the boosted proposal product that’s shown really nice growth. We also have some of our new subscription products with Freelancer Plus, where we’re offering new value props to our freelancers and seeing really good uptake there. And I think that there’s a lot more we can do with some of these products, and so that’s one of the things that gives us confidence in kind of growing these revenue streams over time.

Maria Ripps: Got it. That’s very helpful. Thank you for the color.

Operator: Thank you. One moment for the next question. And our next question will be coming from Bernie McTernan of Needham & Company. Your line is open.

Bernie McTernan: Great. Thank you for taking the questions. Just wanted to dig on to — dig in on performance marketing a bit. Thought it was some pretty interesting comments that you guys made in terms of the return that you’re seeing. And so just wanted to see if that was macro driven or if it’s really changes in what you’re doing in performance marketing. And I think it’s the latter, so just any tangibles or specifics you could give would be really helpful. Thank you.

Erica Gessert: Yeah, I definitely don’t think it’s macro driven at all. I think that the team has spent a lot of time optimizing the performance marketing spend. Obviously, we’ve ramped down our brand spend in 2023 and really focused in on that performance marketing engine. And we’re seeing benefits on multiple fronts, right? So we’re seeing our CAC, as I noted in the prepared remarks, our CAC is down 24% year-over-year. We also — we’re also accessing the customers that we are adding are coming from higher value segments, kind of in the SB plus segments. And so I think all these factors together are just reflecting the fact that our performance marketing investments and the engine itself. We did a lot of work building new models in 2023, so all those things combined are really driving momentum there.

Bernie McTernan: Understood, and then just on enterprise, given the change in reporting, it will be a bit more explicitly modeled now. I know re-excelling that growth is a priority, but just any other color to give just in terms of where you think that business can go over the next couple of years?

Hayden Brown: Yeah, Bernie, I think we expect to see modest growth in the business in 2024 with acceleration at the end of the year and into 2025. Through the course of 2023, we were really focused on driving efficiency and productivity of the business, particularly on the land side, and that did yield the addition of 31 new logos in Q4, which is our highest in the year. And I feel good about that, given that it’s still a fluid macro environment. And despite all of that, our go-to-market improvements have definitely been effective. This year, we’re also extremely focused on improvements on the expand side of our business, which really drives up spend per client account. And as you might imagine, this takes longer to get the results, but we have been taking steps such as our VMS integration partner launches in December, and those will kind of continue to expand and have impacts through this year and help drive that modest acceleration that we expect this year.

Bernie McTernan: Great. Thanks, Hayden. Thanks, Erica.

Hayden Brown: Thanks.

Operator: Thank you. One moment for the next question. Our next question will be coming from Andrew Boone from JMP Securities. Your line is open.

Andrew Boone: Thanks so much for taking my question. It’s great to see marketplace GSV accelerate from 3Q to 4Q. Is there any help you can provide as we think about cohorts that are underlying that and just a more stable macro and how cohorts are responding?

Erica Gessert: So I do want to emphasize on GSV, number one, as I said, we are expecting kind of modest year-over-year growth in 2024 on GSV front. In Q4 of 2023, we did see, and I talked a little bit about this in the prepared remarks, we did see some benefit on a year-over-year growth rate point of view because of the timing of payments from clients to freelancers and the day of the week that happens. Because there are 14 Sundays in Q4, the quarter ended on a Sunday. We did get a modest uptick in GSV growth in Q4 because of that. So we do expect for GSV growth to moderate just a little bit, still be up in Q1, but a little bit to a lesser degree as we go into the year.

Andrew Boone: Thanks, And then I had a big question — a big picture question maybe for Hayden. If I think about a platform fee of 10% and I compare that to 5% or 20%, is that the right comparison as I think about the potential for you guys to continue to increase price on the platform? Is there anything else we should be thinking about as we think about the relativity of pricing versus competitors in a broader picture sense? Thanks so much.

Hayden Brown: Yeah, Andrew. We’re very focused on ensuring that the pricing that we have really aligns with our model, our products, and the value we create for customers, which is a pretty different model than Fiverr, which is we have long-term high-value relationships here, and we monetize those through a variety of mechanisms. So I would say we are early still in unlocking the full value as you mentioned earlier around things like as in monetization which are a different vehicle for monetizing things like [time and attention] (ph) on our platform. And certainly there is room for take-rate expansion through vehicles like that one. However, we’re not contemplating changes to our fee structure right now. I think we did a really great job with moving to the 10% platform fee.

It has been extremely successful on all the dimensions that we’ve been able to see and measure and I think it’s a good place to be right now. But there are other ways that we can continue to create value and monetize that value for customers and we’re very focused on doing that this year and in years ahead.

Andrew Boone: Great. Thank you.

Operator: Thank you. One moment for the next question. Our next question will be coming from Kunal Madhukar of UBS. Your line is open.

Kunal Madhukar: Hi, thank you for taking my questions. One, in terms of the jobs that the freelancers are getting from the new clients that you added, is that any different in nature from the jobs that your traditional client base used to do? So that is one part. And then another part of the same thing would be, in terms of duration of the projects, in terms of the amount of the total project, in terms of the rate per hour, do you see any difference between new clients versus older clients? And then I have a housekeeping question on the balance sheet side. Want to understand, we get the adjusted free cash flow measure and that kind of reflects the delta because of the extra Sunday or the extra week. But you have funds held in escrow, which went up significantly, trade and client receivables which went up significantly, and deferred revenue which went down significantly, even compared to the recent past. So can you talk about that too? Thank you.

Hayden Brown: All right, Kunal, packed a lot in there, so let me start to break it down. So let’s start with your first question in terms of the jobs that freelancers are getting from new clients. So I wouldn’t say that the new clients coming on the platform, which we do anticipate to be a nice strong growth driver for GSV going forward. I wouldn’t characterize that there’s any significant mix shift in Q4 with the new jobs that clients are hiring for. I think just in general — that the general dynamics of the platform that we’ve been seeing over the last couple of quarters are persistent with new client acquisition. And those obviously are that AI-related jobs are one of our biggest growers. And we actually also continue to see some pretty interesting dynamics on the platform.