Zoom Video Communications, Inc. (NASDAQ:ZM) Q3 2024 Earnings Call Transcript

Zoom Video Communications, Inc. (NASDAQ:ZM) Q3 2024 Earnings Call Transcript November 20, 2023

Zoom Video Communications, Inc. beats earnings expectations. Reported EPS is $1.29, expectations were $1.08.

Operator: Well, hello, everyone, and welcome to Zoom’s Q3 FY ’24 Earnings Release Webinar. As a reminder, today’s webinar is being recorded. And now, I will hand things over to Tom McCallum, Head of Investor Relations. Tom, over to you.

Tom McCallum: Thank you, Kelcey. Hello everyone, and welcome to Zoom’s earnings video webinar for the third quarter of FY ’24. I’m joined today by Zoom’s Founder and CEO, Eric Yuan, and Zoom’s CFO, Kelly Steckelberg. Our earnings press release was issued today after the market closed and may be downloaded from the Investor Relations page at investors.zoom.us. Also, on this page you’ll be able to find a copy of today’s prepared remarks and a slide deck with financial highlights that, along with our earnings release, include a reconciliation of GAAP to non-GAAP financial results. During this call, we will make forward-looking statements, including statements regarding our financial outlook for the fourth quarter and full fiscal year 2024; our expectations regarding financial and business trends; impacts from the macroeconomic environment, our market position, opportunities, go-to-market initiatives, growth strategy and business aspirations; and product initiatives and the expected benefits of such initiatives.

These statements are only predictions that are based on what we believe today, and actual results may differ materially. These forward-looking statements are subject to the risks and other factors that could affect our performance and financial results, which we discuss in detail in our filings with the SEC, including the Annual Report on Form 10-K and quarterly reports on Form 10-Q. Zoom assumes no obligation to update any forward-looking statements we may make on today’s webinar. And with that, let me turn the discussion over to Eric.

Eric Yuan: Hey. Thank you, Tom. Thank you everyone for joining us today. In early October, we hosted Zoomtopia, our yearly customer and innovation-focused event, and it was awesome. Like last year, we ran it hybrid on Zoom Events, thousands joined us in person and many multiples of that virtually. Among the in person attendees were 40 customer presenters such as JP Morgan, MIT, Boston Consulting Group, HubSpot and Kohls, who spoke about their amazing experiences on Zoom and excitement about the future. We also showcased newly-released innovations like Zoom AI Companion, as well as Zoom AI Expert Assist and Quality Management for the Contact Center. Zoom AI Companion is especially noteworthy for being included at no additional cost to our paid plans, and has fared tremendously well with over 220,000 accounts enabling it and 2.8 million meeting summaries created as of today.

Remarkable growth in less than three months. At Zoomtopia, I also had the pleasure of sharing the stage with Flex, a global manufacturing and supply chain leader, who spoke about how they use Zoom to connect their large, distributed workforce of 170,000 employees across 30 countries. Flex started using Zoom Meetings in 2017, quickly followed by Rooms and Team Chat. Since then, Flex increased Team Chat users by 200% and Zoom Rooms by 245%. They also became power users of Zoom Whiteboard, creating over 13,000 Whiteboards. And moving to Zoom Phone allowed them to eliminate 50 to 70% of circuits and infrastructure across the globe, and reduce total cost of ownership. We were so happy to have Flex share their journey at Zoomtopia, and it cannot wait for what is in store for our partnership next.

Now moving on to some of our customer wins in Q3. First, let me thank Dropbox, who has been an amazing customer for many years starting with Meetings and then extending to Rooms, Phone and Events. In Q3, they selected Zoom Virtual Agent and Zoom Contact Center to provide world-class AI-enabled support to their global user base. Let me also thank Amynta Group, a premier insurance services company, who initially adopted Zoom Phone and Zoom Contact Center on a limited scale in Q1 of this year. Seeing how our modern solution offered superior agility, customization for CX flows and administrative functionality. In Q3, they decided to standardize their customer-facing sales support on the Zoom stack and add Workforce Management, leading to a nearly 5 times increase in their monthly spend with us.

I’d also like to congratulate the Virgin Group on their launch of Workvivo to bring together 60,000 employees across almost 40 Virgin companies on one platform. The Virgin Family Workvivo platform is helping to drive social connection, encourage collaboration and boost brand knowledge. It’s inspiring to see how the Virgin Group is bringing the platform to life and strengthening culture with Zoom’s Workvivo. These wins are a testament to the investments we are making in our customer experience offering, with the rapid pace of new innovations like Workforce Management, Quality Management, Zoom Virtual Agent and AI Expert Assist. They also highlight our progress with employee experience, especially with integrating Workvivo into the Zoom client.

Thank you so much to Dropbox, Amynta and Virgin Group. I love you all. And with that I’ll pass it over to Kelly. Thank you.

Kelly Steckelberg: Thank you, Eric and hello, everyone. We are pleased that we beat our top-line and profitability guidance in Q3. Here are a few milestones: First, Zoom Phone reached approximately 7 million paid seats. Second, Zoom Contact Center reached approximately 700 customers as of quarter-end, while Zoom Virtual Agent customers nearly doubled quarter-over-quarter. And finally, the number of customers on Zoom One bundles that include Zoom Phone grew approximately 330% year-over-year. These proof points demonstrate our customers’ willingness to entrust us with their critical CX and EX processes, and their commitment to grow with us as we expand our platform. In Q3, total revenue came in at $1.137 billion, up 3% year-over-year and 4% in constant currency.

This result was approximately $17 million above the high end of our guidance. Our Enterprise business grew 8% year-over-year and represented 58% of total revenue, up from 56% a year ago. We continued to see improvement in Online Average Monthly Churn, which decreased to 3.0% from 3.1% in Q3 of FY ‘23. This is the lowest churn we have ever reported. The number of Enterprise customers grew 5% year-over-year to approximately 219,700. Our trailing 12 month net dollar expansion rate for Enterprise customers in Q3 came in at 105%. We saw 14% year-over-year growth in the up-market as we ended the quarter with 3,731 customers contributing more than $100,000 in trailing 12 months revenue. These customers represent 29% of revenue, up from 27% in Q3 of FY ‘23.

Our Americas revenue grew 5% year-over-year, while EMEA, APAC declined by 2%, each. On a constant currency basis, APAC grew slightly year-over-year Moving to our non-GAAP results, which exclude stock-based compensation expense and associated payroll taxes, acquisition-related expenses, net gains or losses on strategic investments, and all associated tax effects. Non-GAAP gross margin in Q3 was 79.7%, an improvement from 79.5% in Q3 of last year, but slightly lower than the first half of this year. The strong performance in gross margin was primarily driven by the optimization of usage across the public cloud and our co-located data centers, partially offset by our additional investments in new AI technologies. For the full year, we expect non-GAAP gross margin to be approximately 80%.

Non-GAAP operating income grew by 17% to $447 million, exceeding the high end of our guidance of $405 million. This translates to a 39.3% non-GAAP operating margin, a meaningful improvement from 34.6% in Q3 of last year. Non-GAAP diluted earnings per share in Q3 was $1.29, on approximately 310 million non-GAAP diluted weighted average shares outstanding. This result was $0.20 above the high end of our guidance and $0.22 higher in Q3 of last year. Turning to the balance sheet. Deferred revenue at the end of the period was $1.32 billion, down approximately 3% from Q3 of last year. This was roughly 1 percentage point better than the high end of the guidance we provided last quarter. For Q4, we expect deferred revenue to be down 6$ to 8% year-over-year, partially driven by shorter billing frequencies on Enterprise deals arising from the high interest rate environment.

Looking at both our billed and unbilled contracts, our RPO increased 10% year-over-year to approximately $3.6 billion. We expect to recognize approximately 58% of the total RPO as revenue over the next 12 months, as compared to 59% in Q3 of last year, indicating lengthening contract durations on a year-over-year basis. As a reminder, our renewal seasonality peaks in Q1 and declines throughout the rest of the year. Operating cash flow in the quarter grew 67% year-over-year to $493 million. Free cash flow grew 66% year-over-year to $453 million. The sharp increase in our cash flow metrics was due to stronger collections, targeted expense management and higher interest income. Our operating cash flow and free cash flow margins expanded to 43.4% and 39.9%, respectively.

Turning to guidance. For Q4, we expect revenue to be in the range of $1.125 billion to $1.13 billion, which at the midpoint would represent approximately 1% year-over-year growth. Adjusting for currency impact, this projection is slightly higher than the previously implied guidance from our Q2 call. We expect non-GAAP operating income to be in the range of $409 million to $414 million. Our outlook for non-GAAP earnings per share is $1.13 to $1.15 based on approximately 312 million shares outstanding. We are also pleased to raise our top-line and profitability outlook for the full year of FY ‘24. We now expect revenue to be in the range of $4.506 billion to $4.511 billion, which at the midpoint represents approximately 3% year-over-year growth.

We expect our non-GAAP operating income to be in the range of $1.74 billion to $1.745 billion representing an operating margin of approximately 39%. Our outlook for non-GAAP earnings per share for FY ‘24 is $4.93 to $4.95, based on approximately 308 million shares outstanding. Thank you to the entire Zoom team, our customers, our community, and our investors for your trust and support. Kelcey, please queue up the first question.

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Q&A Session

Operator: Thank you, Kelly. And as Kelly mentioned, we will now move into the Q&A session. [Operator Instructions] Our first question will come from Ryan MacWilliams with Barclays.

Ryan MacWilliams: Hey, guys. Thanks for taking the question. Just to start with Kelly, do you have any changes in the overall macro environment in the third quarter compared to the second quarter? And could you touch on how linearity did throughout the quarter for new bookings? Thanks.

Kelly Steckelberg: Yeah. Hi, Ryan. So the macro has been pretty consistent from Q2 to Q3. We continue to see similar trends in terms of deal scrutiny, back-end loaded. So the quarter from a direct perspective was fairly back-end loaded. As a reminder, the online segment of the business is typically pretty linear throughout the quarter. I think the only thing that got a little worse from Q2 to Q3 was actually FX, as you saw in Asia Pac that had – that was a fairly significant headwind for us, whereas Asia Pac would have at least been flat year-over-year, if not for that impact.

Ryan MacWilliams: Thanks guys.

Operator: Moving on to Meta Marshall with Morgan Stanley.

Meta Marshall: Great. Thanks. Maybe just a question on kind of what feedback you’re getting on the AI companion and that’s a pretty big jump in kind of customers using it. So just what features are they really liking — and is it kind of helping with some of the free-to-pay conversion that you guys were hoping for? Thanks.

Eric Yuan: Yes. It’s a great question. I think we are very, very proud of our team’s progress since it launched the Zoom AI Companion, as I mentioned earlier, right, a lot of accounts enabled that. Remember, this is no additional cost to paying customers, a lot of features — one feature of that is like take a meeting summary, for example. Amazingly, it’s very accurate and really save the meeting host a lot of time. And also, our federated AI approach really contributed to that success because we do not count on a single AI model and in terms of latency, accuracy and also the response, the speed and so on and so forth, I think, really helped our AI combining. Again, and for the online producers and also its additional cost. For sure, for free users, they do not — they cannot enjoy this combining, for sure, it’s a daily health for those who free to approve for online operate.

So anyway, so we keep innovating on AI company. We have high confidence. That’s a true differentiation compared to any other AI features, functionalities offered by some of our competitors.

Meta Marshall: Great. Thanks so much.

Eric Yuan: Thank you.

Operator: Our next question on Kasthuri Rangan with Goldman Sachs.

Kasthuri Rangan: Hi. Thank you very much. Happy to see the results, and happy Thanksgiving. I just had one question, if I could restrict myself to one. The SMB online churn 3% I don’t know it came down from 3.1%. Any initiatives that you are undertaking that could bring that number even down more significantly I would resume that, that would have big implications for your growth rate and margins, which are already quite good. Thank you so much.

Kelly Steckelberg: Well, Wendy and her team are always working on initiatives. But I think what Eric was just mentioning about AI is probably really going to be a key differentiator and a retention — retention tool in the future because as a reminder, all of the AI companion features come included for our three — sorry, for our paid users. So we’re seeing it not only help with conversion, but we really believe that for the long term, it will help with retention as well. And cash, I’ve gotten this question many times, and I would say like, this is the lowest we’ve ever seen, but also our platform is so much better. It’s infinitely better than where it was on a pre-pandemic basis for our online users. And so I think we will — this is how we’re modeling it at this level. But I think over time, you should continue to see retention just continue to improve.

Kasthuri Rangan: Thank you so much.

Eric Yuan: Let me add on to what Kelly said, also the happy Thanksgiving to you as well. So more and more customers realize, wow, Zoom even for online users, it’s not only for Zoom Meeting. A lot of other features, right? And I take a Zoom Team chatter for example, this is a great position and it had a solution. It’s part of offering, even for free users as well, right? For the paid user for sure, a lot of other features, the more they spend time on Zoom platform, really as well. This is pretty powerful, not only just for meetings but the entire platform.

Kasthuri Rangan: Got it. Thanks so much, Eric and Kelly.

Eric Yuan: Yeah.

Operator: Wells Fargo is Michael Turrin. Please go ahead with your question.

Michael Turrin: Hey, great. Thanks. Nice to see everyone. I guess as a complement to Kash’s question, you’re showing stabilization here on some of the major metrics, the enterprise expand metric took a step down to 105%. And so just wondering what it takes for that metric to similarly show stabilization as given in Q1 renewal cohort and kind of walking through that. Anything on the product side for us to consider or just any other commentary there is helpful. Thank you.

Kelly Steckelberg: Well, as a reminder, it’s a trailing 12-month metric. So as we’ve worsely seen our growth rates come down this year that’s following behind it. But absolutely, we believe that AI Companion in general as well as the success that we are seeing in Zoom Phone, in Zoom Contact Center, Zoom Virtual Agent, all of those will be key contributors to seeing that metric start to reaccelerate again as we see our growth rate starting to decelerate as well.