RingCentral Q4 2023 Earnings Call Transcript

Quartr
Provided by Quartr
February 6, 2024

There are 14 speakers on the call.

Operator

Good day, and thank you for standing by. Welcome to the Freshworks 4th Quarter and Full Year 2023 Conference Call. At this time, all participants are in a listen only mode. After the speakers' presentation, there will be a question and answer session. Please be advised That today's conference is being recorded.

Operator

I would now like to turn the conference over to your speaker for today, Joon VP of Investor Relations. Please go ahead.

Speaker 1

Thank you. Good afternoon and welcome to Freshworks' 4th Quarter and Full Year 2023 Earnings Conference Call. Joining me today are Girish Mathurbootham, Freshworks' Chief Executive Officer Dennis Woodside, Freshworks' President and Tyler Slope, Freshworks' Chief Financial Officer. The primary purpose of today's call is to provide you with information regarding our Q4 and full year 2023 performance and our financial outlook for our Q1 and full year 2024. Some of our discussion and responses to your questions may contain forward looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Speaker 1

These forward looking statements are based on Freshworks' current expectations and estimates about its business and industry, including our financial outlook, macroeconomic uncertainties, management's beliefs and certain other assumptions made by the company, all of which are subject to change. These statements are subject to risks, uncertainties and assumptions that could cause actual results to differ materially from those projected in the forward looking statements. Such risks include, but are not limited to, our ability to sustain our growth, to innovate, to reach our long term revenue goals, to meet customer demand, and to control costs and improve operating efficiency. For a discussion of additional material risks and other important factors that could affect our results, Please refer to today's earnings release, our Form 10 Q from the quarter ended March 31, 2023, and our other periodic filings with the SEC. Freshworks assumes no obligation to update any forward looking statements in order to reflect events or circumstances that may arise after the date of this call, except as required by law.

Speaker 1

During the course of today's call, we will refer to certain non GAAP financial measures. Reconciliations between GAAP and non GAAP financial measures for historical periods are included in our earnings release, which is available on our Investor Relations website at ir.freshworks.com. I encourage you to visit our Investor Relations site to access Our earnings release, supplemental earnings slides, periodic SEC reports, a replay of today's call or to learn more about Freshworks. And with that, let me turn it over to Girish.

Speaker 2

Thank you, June, and welcome everyone to Freshworks earnings call covering our Q4 and full year of 2023. A year ago, we laid out our growth strategies to focus on product innovation, winning in enterprise, landing and expanding to drive revenue growth and improving our operating efficiency. Over the course of 2023, We launched the Freshworks customer service suite and a range of AI capabilities like Freddie Self-service, Copilot and Insights, All in pursuit of our mission to power businesses with AI enabled software that helps customers optimize their work and boost productivity. We landed or expanded the big brands like Big Lots, S&P Global, Phila, Cineworld, Forbes, LA Dodgers, New Core, Giant Eagle and Johnsonville sausage. We significantly improved our operating efficiency and inflected our financial model.

Speaker 2

We went from using cash for operations in 2022 to generating $78,000,000 of free cash flow in 2023. Turning to the quarter, I would like to thank the entire Freshworks team for delivering a strong Q4 As we outperformed across our key business metrics, our revenue exceeded the high end of our financial estimates coming in at $160,100,000 for the quarter. We outperformed our non GAAP operating margin and delivered a record amount of free cash flow generating $28,600,000 in Q4. For the full year 2023, We finished with revenue of $596,400,000 and free cash flow margin of 13%. During today's call, I want to highlight 3 of our key differentiators and how they helped finish out the year with a strong Q4.

Speaker 2

The first is the power of our Neo platform, which underpins our product portfolio, giving us the ability to serve enterprise buyers and cross sell into more departments with multiple products. 2nd is our AI innovations which are already helping customers achieve concrete productivity improvements. And third is our talented product development team in India that drives our innovation velocity and brings products to customers faster. Our Neo platform is a critical component of our success and provides all the services that power our product analytics and FIDI AI, offers extensibility and interoperability for our customers through marketplace apps and offers a unified customer data model across our products. The development and launch of Customer Service Suite illustrates the power of our platform.

Speaker 2

Customer Service Suite combines 3 distinct Freshworks product capabilities, generative AI bots, conversational messaging and ticketing in one integrated solution to meet the many needs of our customers. For example, ClickFunnels, a provider of sales, marketing, e commerce and analytics tools replaced their previous support solution With our customer service suite, the long developer times required to make even the smallest change forced the funnel marketing company to search for a more robust and agile solution. ClickFunnels chose CSS because of our integrated offering that is powered by AI capabilities, resulting in improved resolution rates. According to a Forrester Total Economic Impact report published in Q4, Freshworks CSS customer surveyed could achieve over a 200% return on investment over 3 years. Our platform also helps us with rapid adoption of new technologies into all of our products.

Speaker 2

For example, we built generative AI capabilities across our products in just a few months. We started with Freddie Self-service through bots and later introduce Freddie CoPilot, built for Freshchat first and then extended to Freshdesk and Freshservice. We are excited about the AI opportunity and potential monetization as Copilot became generally available recently and we plan to launch Freddie Insights later this year. With Freddie CoPilot capabilities in the hands of our customers, we are encouraged by the early results. Several power user customers realize approximately 50% reduction in the resolution times for their customer service agents with the help of Freddie Copilot.

Speaker 2

As customers grow, many of them will use acquisitions as a part of their growth strategy. And when they do, They have a choice to either cobble together inherited disparate software solutions or pick 1 unified solution that works for all like Freshworks. For example, Fraser's Group in the UK, a retail customer that has grown over 4 decades and completed several acquisitions. It now represents 70 store brands including sportswear, games, homeware, fashion and beauty. After they chose Freshdesk in 2022 to consolidate 16 customer support systems into 1, the company saved over $1,000,000 in software licensing costs.

Speaker 2

Then in recent months, Fresher's group added our AI powered bot and can now deflect More than a quarter of their customer interactions from human agents, saving more time and money for the company. For our partners, we are seeing them utilize Ready Copilot for developers to significantly accelerate the app development cycle. In Q4, one partner, Connectify, went from publishing 4 apps per month to building an average of 7 per month, A productivity improvement of 75% with the help of CoPilot for developers. With the introduction of Chad GPT-four last year, Every company had the chance to reimagine its use of the latest AI technology. 1 of our strategic advantages in this moment was our access to high quality talent in India.

Speaker 2

Our product and engineering teams were able to quickly innovate on our product roadmap. In 2023, this included integrating generative AI into our platform to leverage the latest large language model. This year, we plan to continue to advance our AI features across our products and platform. In CS, we expect to migrate more customers to our integrated customer service suite, which is designed to improve agent productivity. In Freshservice, we plan to enhance ESM, ITOM and verticalized offerings to fuel up market growth and expansion across departments.

Speaker 2

And we plan to make significant updates to our sales and marketing products to drive more inbound demand and cross sell opportunities. Let me now turn it over to Dennis to share what we are seeing in the marketplace, how larger customers are driving our business growth and how companies are expanding the use of our products.

Speaker 3

Thank you, Gee, and congratulations to the team for our strong finish to 2023. Gee talked about our enterprise grade platform, AI capabilities and the strategic advantage of our India teams. Now let me spend some time talking about how these played out for us in our go to market success. Macroeconomic pressures and a greater emphasis on fast time to value are leading enterprise companies to choose a smaller number of platform solutions to build their businesses. We believe Freshworks is well positioned to continue taking advantage of this trend.

Speaker 3

In 2023, we continued our progress in winning upmarket. In Q4, we closed the year by adding 229 more customers contributing more than $50,000 in ARR. This represents the highest number of quarterly ads for this customer cohort ever. We also closed a record number of new deals over $1,000 in both IT and CS segments contributing to our strong quarter. These include a U.

Speaker 3

S. Based footwear and apparel company operating in over 120 countries and a leading wholesaler to millions of restaurants, hotels and catering firms. As Gee said, we win with large businesses because of the power of our NEO platform underpinning our multi product offerings. This enables us to rapidly rollout new technologies like AI, all at a third the cost of larger competitors. Customers across a variety of industries are quickly realizing the benefits.

Speaker 3

In the CPG sector, Tata Consumer Products is a prime example of our enterprise customers leveraging improved automation workflows. As one of India's leading food and beverage companies, they are the world's 2nd largest tea manufacturer and operate Starbucks in India. Their legacy ITSM solution provided no control over admin configuration, making it difficult to create automation workflows. At the same time, the company faced an overwhelming volume of email and phone calls. Since adopting Freshservice, Email queries have fallen by 21% in 5 months.

Speaker 3

In addition, Tata Consumer Products is one of the highest users of Freddie CoPilot. For Industrials, Kloeckner and Company supplies more than 90,000 customers worldwide with steel and metal products. The company is also digitizing and largely automating its supply and service chain. They needed to find a new self service tool that's easy to use, fast and a trustworthy daily assistant. Freshservice beat the competition, helping them optimize budget and repurpose funds for other IT initiatives.

Speaker 3

Shifting to expansion, we have several paths to grow our business with existing customers. These include agent seat additions, product cross sells, addition upsells and enhanced pricing. Our recent introductions of AI capabilities, including bot sessions and copilot add ons offer additional opportunities across our 67,100 customers. Digging into our Q4 numbers, we're pleased that our net dollar retention increased 1 percentage point quarter over quarter to 107% on a constant currency basis. We closed several large expansion deals in Q4 as growth expansion improved from the prior quarter and reversed declining trends from earlier in the year.

Speaker 3

We also continued to improve our dollar based churn incrementally from the prior quarter. Lastly, our multi product adoption increased to 26% of our customer base. For example, we saw higher adoption for fresh service for business teams as accounts grew more than 50% quarter over quarter, ending the year with more than 1,000 customers. One of these customers is Brunel University London, a college highly recognized for its research. They serve up to 18,000 students more than 2,500 staff across the academic year.

Speaker 3

Already a fresh service customer, they saw an opportunity to improve and provide a more consistent service experience to departments beyond IT. These include health and safety, campus service, The Student Center and Student Welfare. By adding business agent licenses and workspaces, they reduced the average ticket resolution time from a previous backlog of several weeks to around 4 hours and achieve over 85% positive customer feedback. We're also seeing expansion from early Freshdesk adopters to the newer Freshworks customer service suite. For example, Canadian based Carlton 1 made the switch and has since achieved a 2 hour first response SLA.

Speaker 3

They are resolving over 1,000 tickets daily and landing a 60% first contact resolution rate through AI and bots. And finally, Freshworks interoperable products give us a natural expansion path across solutions. For example, Agito, a mid market travel management company in the U. K. First bought Freshdesk.

Speaker 3

This was to replace an on premise customer support solution that couldn't deliver unified analytics and limited collaboration across teams. Later they added fresh caller and fresh chat to unified support channels and more recently in Q4 they rolled out fresh sales to generate more qualified leads. In addition to our powerful platform and multiple expansion pads, what we believe makes Freshworks unique is our Go to market motions, which include both inbound, product led growth and field sales. Our inbound business is primarily marketing led, while our field business is sales led. As our company matures, we have hired 2 proven leaders across these distinct go to market motions that can help us scale.

Speaker 3

In Q4, Mika Yamamoto joined us in the new role of Chief Customer and Marketing Officer to drive greater inbound activity, including responsibility for our customer support, SMB and commercial sales. Under her leadership, this team will drive inbound product led growth motion. Our field sales team will be led by Abe Smith, who I'm excited to announce has joined as our Chief of Global Field Operations This week, he's a sales executive with nearly 25 years of global experience at Zoom, Oracle and Cisco and will lead our talented field team to scale the business. With these changes in the organization, Pradeep Rathinam, our CRO will be departing Freshworks at the end of this month. Patti stepped up to lead and stabilize our go to market teams during a transition period and delivered a strong Q4 to finish out the year.

Speaker 3

After joining us in 2020 through an acquisition, Patti made countless contributions, first as our Chief Customer Officer and later as CRO. We thank him and wish him all the best in his future endeavors. Now over to Tyler to go through the Q4 and full year financials and talk about how we're driving efficiency.

Speaker 4

Thanks, Dennis, and thanks again to everyone for joining us. As I reflect on Q4 and 2023, I was really pleased with our ability to adapt to a changing macroeconomic environment to deliver durable revenue growth, while also improving our operating efficiency throughout the year. Specifically, we continued our product innovation cycles injecting generative AI capabilities into our offerings. We retooled our go to market approach to more efficiently serve our diverse customer base. We brought on new leaders and team members to help drive additional growth.

Speaker 4

At the same time, we significantly improved our full year non GAAP operating and free cash flow margins by 12 percentage points and 16 percentage points respectively compared to the prior year. For our call today, I'll cover the Q4 and full year 2023 financial results, provide background on the key metrics and close with our forward looking commentary and expectations for Q1 and the full year 2024. I'll include constant currency comparisons for certain metrics to provide a better view of our business trends. As a reminder, Most of our discussion will be focused on non GAAP financial results, which exclude the impact of stock based compensation expenses and other adjustments. Starting with the income statement.

Speaker 4

Q4 revenue grew 20% year over year to $160,100,000 Adjusting for constant currency, revenue growth was 19% as we saw the positive impacts from currency rates for the euro and pound against the U. S. Dollar over the past year. Similar to prior quarters, ITSM continued to drive the majority of our growth in Q4. In addition, We were encouraged to see an improvement in our CS expansion activity quarter over quarter.

Speaker 4

Looking at our margins, Non GAAP gross margin remained flat compared to Q3 at 84% as we are efficiently scaling the business. Similarly, For the full year 2023, we achieved strong non GAAP gross margins of 84%, which represents 150 basis point improvement from the prior year. Turning to our operating metrics. We have 2 key business metrics, net dollar retention and customers contributing more than $5,000 in ARR. Net dollar retention was 108% in the quarter, which includes a 1 percentage point benefit from FX and came in ahead of our previous estimates of 105%.

Speaker 4

In Q4, we saw improvements in both gross expansion and churn rates quarter over quarter. The higher expansion rate was mainly driven by strong execution from our field teams closing a number of large deals with existing customers. This was despite the overall macro demand continuing to feel pressure in Q4. Looking forward, we are planning for Q1 net dollar retention of 106 Moving to our other key business metric of number of customers contributing more than $5,000 in ARR. This metric grew 14% year over year on an as reported and constant currency basis to 20,261 customers in the quarter and now represents 89% of our ARR.

Speaker 4

For our larger customer cohort contributing more than $50,000 in ARR, We saw strong growth in this cohort of 31% year over year to 2,497 customers and it now represents 48% of our ARR. Adjusting for constant currency, this cohort grew at 30%. As Jin and Dennis mentioned earlier, we're excited about our ongoing success winning upmarket deals. For total customers, we added over 500 net customers and ended the quarter with over 67,100 customers. The lower net adds in the quarter was primarily impacted by higher logo churn from smaller customers in the customer service segment, But we continue to see improvement in ARPA as we focus on attracting higher yielding, more profitable customers.

Speaker 4

Moving to calculated billings, balance sheet and cash items. Calculated billings grew 22% year over year to $180,400,000 and 20% on a constant currency basis. Factors including timing duration of contracts created a slight benefit of 2% to these growth numbers. Looking ahead to Q1 2024, our preliminary estimate for calculated billings growth is 16%. For the full year 2024, we expect calculated billings growth to be similar to our expected annual revenue growth rate of 18% to 19%.

Speaker 4

During the quarter, we generated $28,600,000 in free cash flow. And for the full year, we generated $78,000,000 in free cash flow. This annual figure was nearly $70,000,000 above our initial estimates we provided at the start of the year as we realized efficiencies throughout the year. This improvement was driven by lower than expected headcount costs, improvements on our infrastructure spend and consolidation of vendor spend resulting in both Ongoing efficiencies as well as some one time benefits. For the full year 2024, we expect to generate approximately $110,000,000 of free cash flow with approximately $26,000,000 of that in Q1.

Speaker 4

We ended Q4 maintaining a similar balance to Q3 for cash, cash equivalents and marketable securities with $1,190,000,000 We continue to net settle vested equity amounts using $16,000,000 during the quarter $68,000,000 for the full year 2023. This activity is reflected in our financing activities and is excluded from free cash flow. Since our IPO in 20 21, we have used approximately $239,000,000 in net settlement of vested equity. As we look forward to Q1, we plan to continue net settling invested equity amounts resulting in Q1 cash usage of approximately $21,000,000 using current stock price levels. For the full year, we expect to use approximately $80,000,000 to net settle vested equity amounts.

Speaker 4

Turning to our share count for Q4. We had approximately 326,000,000 shares outstanding on a fully diluted basis as of December 31, 2023, representing share growth of less than 1% from the prior year. The fully diluted calculation consists of approximately 297,000,000 shares outstanding, $27,000,000 related to unvested RSUs and PRCs and 2,000,000 shares related to outstanding options. Let me now provide our forward looking estimates. For the Q1 of 2024, we expect Revenue to be in the range of $162,500,000 to $164,500,000 growing 18% to 19% year over year.

Speaker 4

Non GAAP income from operations to be in the range of $12,500,000 to $14,500,000 and non GAAP net income per share to be in the range of $0.07 to $0.08 assuming weighted average shares outstanding of approximately 305,000,000 shares. For the full year 2024, we expect revenue to be in the range of $703,500,000 to $711,500,000 growing 18% to 19% year over year. Non GAAP income from operations to be in the range of $52,000,000 to $60,000,000 And non GAAP net income per share to be in the range of $0.29 to $0.31 assuming weighted average shares outstanding of approximately 306,100,000 shares. We want to provide our best view of the business as we see it today. And as part of that, I want to call out a couple of assumptions in our financial model.

Speaker 4

First, our forward looking estimates are based on FX rates as of February 2, 2024. So any future currency moves are not factored in. 2nd, we have seasonality in our business with expenses is typically stepping up in Q2 as our annual merit increases come into effect. As a result, we anticipate non GAAP Operating income to be approximately $6,000,000 in Q2, dollars 15,000,000 in Q3 and the remainder coming in Q4 to add up to the full year amount. Let me close by saying, I'm pleased with all that we accomplished in 2023.

Speaker 4

We continued our rapid pace of innovation and enhanced our go to market efforts, all while making meaningful improvements to our operational efficiency. As we look to 2024, we are focused on our growth initiatives and we're excited for the many opportunities ahead. And with that, let's take your questions. Operator?

Operator

Thank The first question that we have today is coming from Scott Berg of Needham. Your line is open.

Speaker 5

Hi, everyone. Really nice quarter on the sales side. Thanks for taking my questions here.

Speaker 6

I got a couple.

Speaker 1

Gee, I wanted to start

Speaker 5

with what you're seeing on some of the AI front with some of the functionality that you have in beta. I think one of the concerns amongst investors in enterprise software is the more prevalent these technologies become, the more they have a chance to eat at seats in a seat based model like what Freshworks is. And you had commented that in one of your beta customers 50% improvement in resolution timeframe. How do you think about the use or the impact of AI in of what your business looks like going forward. Is it just going to be a module that adds maybe some ARPU uplift for customers?

Speaker 5

Or is there some seed opportunity maybe on the positive or less side that might be impacted as well?

Speaker 2

Yes. Thanks for the question, Scott. So let me start off by saying Right from the very early days, even before AI, one of the goals for Like for Freshworks and in particular and for most technology vendors in customer service or employee services, how can we help businesses Drive more automation. Think about IVR driving automation in the call center and things like that, right. So from 2018, we have been helping customers in the Freshdesk, Freshchat business to drive more automation and that's always a business driver.

Speaker 2

So what we have with GenAI and Freddie Self-service and bots is the opportunity to bring a natural language conversational automation of customer service And some of the largest B2C companies are using our pretty AI today for Customer Service Automation. So we actually believe in this and it will actually help us Help Freshworks be a beneficiary in driving better automation and along with a seamless transfer to a live agent when When the actual customer query goes beyond a simple automatable question. So I think overall, You have to look at it as how do we use how do businesses use automation as the first line of defense and then seamlessly hand over to a human and then handle all the complex workflows. We think we have the best omnichannel customer service product in the industry today and we will be a big beneficiary of that.

Speaker 5

Got it. Helpful. And then from a follow-up, Dennis, you mentioned you have a new field sales leader starting. You've obviously helped enact a number of changes to the organization since you came. But with this individual, are there a

Speaker 6

lot of moving parts that

Speaker 5

are going to be occurring here In terms of what your go to market strategy looks like in 2024s, is this going to be more of an opportunity to make some subtle adjustments? Thank you.

Speaker 2

Well, I would

Speaker 3

say this is more of an opportunity to make subtle adjustments. We announced in Q4 that we made a change to separate our inbound business from our field business. That's to create more focus on both that SMB Primarily inbound business from field. Field, we've done quite well over the last year. We have some opportunity in that SMB inbound business.

Speaker 3

And that's why we brought Meek in. I think today's announcement with Abe is really the next step in creating focus on those two businesses as distinct. It's very different going out negotiating big deals with large industrial customers and on the other hand managing a funnel that's generating thousands of leads every single week. So we want to bring focus to both of those businesses and that's why we made the change.

Speaker 7

Very helpful. Thank you and congrats again on the next quarter.

Speaker 3

Thank you.

Operator

Thank you. One moment for the next question. And our next question is coming from Penjal Bora of JPMorgan, your line is open.

Speaker 8

Great. Thank you for the question. Good to hear about the improvement in the CX expansion side. I wanted to ask you if you can go a little bit deeper. Are you seeing seats starts to grow and kind of accelerate there?

Speaker 8

Or is it is that expansion characteristic largely driven by the customer service suite or maybe the pricing changes around bots?

Speaker 4

Hey, Benjamin, this is Tyler. We actually In the quarter, we had strong expansion. We called out CX. It's a mix of all of the above, but we did have seat expansion specifically on that mid market enterprise, which is driving a lot of it. Some of it was pull forward early renewals from Q1 with expansion, which I always see is a good sign that they're coming to a customer coming up in renewal and they're going to actually increase their ARR and renew early with us.

Speaker 4

And so that was encouraging. It's CX has seen pressure on agents for a couple of years. We've been calling that out. And so we thought it was really good quarter of execution on that side.

Speaker 8

Understood. Tyler, another one for you. The guidance, can you maybe unpack some of the assumptions in the guidance? What are you thinking from a Net retention perspective for the whole year on a logo perspective, are you thinking about macro to be kind of the same? What should we think about from a pricing leverage point of view in that guidance?

Speaker 8

Anything you can add will help.

Speaker 4

Yes. So I'll take that in a couple of different pieces. On guidance, you mentioned net dollar retention. We've been calling 105 And we really did think it was going to hit 105 in Q4 and we had called that earlier in the year. And kind of coming into Q2, Q3, one of the reasons that we get down to 1 to 5 because we're doing really, really well on churn.

Speaker 4

In hitting our number for Q4, it was really a combination of churn still getting better as well as expansion kicking in a little bit. And now we're saying, hey, we're going to be at 106 in Q1. And we do think that's going to be the number. But Previously, we thought we'd stabilize at 105 and now we think we're going to stabilize at 106 and it really is just a reflection of the health of the customer base. On the other Areas of guidance on revenue, we are it's our best estimate based on what we see today and that kind of 18%, 19% growth.

Speaker 4

And then billings for the year, we expect to actually track that. We did call out that Q1 just the way that Renewals are kind of falling and also I just mentioned that we had some early renewals into Q4 that pulled some billings from Q1 into Q4 That number is going to be a little bit calculated down as we expect to be a little bit lower in Q1, but really it's just around timing. And for the year, we actually expect it to track revenue for the full year 2018 to 2019.

Speaker 8

Understood. Thank you so much.

Operator

Thank you. One moment for the next question. And our next question will be coming from Elizabeth Porter of Morgan Stanley. Your line is open.

Speaker 9

Great. Thank you so much. First, I just wanted to ask on the AI monetization impacts. You have some of the usage based revenue from bots coming in and the Co pilot seat add ons. And I believe for the insights you mentioned is coming later this year.

Speaker 9

So what kind of attach or penetration rates are you assuming? Or is this More of an upside driver to guidance? Thanks.

Speaker 3

So thanks for the question. So first of all, I think in terms of adoption so far, we've thousands of customers that have adopted into the beta programs for Freddie Self Serve for Insights and for CoPilot. And not only have they opted in, but the usage rates amongst those customers is quite high. So we track things like active usage and so forth. We recently put those programs into GA.

Speaker 3

So you can purchase insights Sorry, you can purchase Copilot and self serve today on our website. If you're a new customer and then we're moving all the beta customers in to pay programs over the next month or so. So we'll start to see the monetization flow through. But for now, we're very much focused on adoption. We're very much focused on the value that those products are providing to our customers.

Speaker 3

That's a good leading indicator for us. In terms of how we're thinking about it for the full year, we haven't baked in meaningful upside to the year from AI because we wanted to see how things play out before putting anything into our number.

Speaker 9

Great. And then just as a follow-up, wanted to hit on margin. You had some really impressive expansion over the last year. Looking ahead, guidance implies more minimal expansion despite still some of that solid top line growth. So first, just how should we think about the leverage in any incremental areas of investment in fiscal 2024?

Speaker 9

And then second, should we just be thinking more about some back end loaded linearity to hit your fiscal 2026 targets? Thanks.

Speaker 4

Yes. So thanks Elizabeth. This is Tyler. We did make some huge improvements last year. Some of those improvements were kind of one time.

Speaker 4

And I think we've been pretty consistent. I don't kind of expect the same kind of stair step improvement coming into fiscal 2024 here. We are still very, very focused on efficiency, but we also think that there's some areas to invest. On the R and D side, it really is continue to invest in innovation and we think that's a big advantage that we have. And on the sales and marketing side, we are going to continue to lean in where we see Specifically in field and in hiring there where we see appropriate.

Speaker 4

So we have built in some areas of investment, but while also focusing on driving margin, we're driving more dollars to the bottom line and driving more cash.

Speaker 9

Great. Thank you.

Operator

Thank you. One moment for the next question. And our next question will be coming from Brent Breslin of Piper Sandler. Your line is open.

Speaker 10

Hi, guys. This is Hannah Rudolf on for Brent today. Thanks for taking my questions. It's really encouraging to see that record 50 ks net adds this past quarter. I guess what do you attribute that to?

Speaker 10

I imagine a lot of it ITSM, but some of it was probably driven by that new CS suite as well. So wondering if you could just talk about the dynamics you witnessed in that cohort?

Speaker 3

Yes, you're correct. A lot of it's driven by ITSM, but we're seeing some promising results for CSS. 1 of the Companies that I talked about in the prepared remarks, Carleton 1, that's a new CSS customer, they're a loyalty company up in Canada. Kloeckner, one of the larger steel companies in Europe, that's a new ITSM customer. Auto, also another customer we talked about earlier, that's another ITSM customer.

Speaker 3

I think it's not just something that we've done in the last quarter, but the investment that we've made in the product over the last couple of years where we've built out an enterprise grade ITSM suite added on ITAM and then more recently ESM with fresh service for business teams that really has driven growth of that product. And then with CSS, our customers have a best in class fully integrated product that Covers both conversational and traditional ticketing enhanced by AI. And that's something that really is unique in the marketplace where if I'm an agent in a single pane of glass, I can ingest and see comments from my customer coming in through WhatsApp, coming in through SMS or email or phone and respond. And that has had a lot of positive acceptance in the market so far.

Speaker 10

Great, super helpful. And then Dennis, what do you feel still needs to be done to continue to execute on this upmarket motion that you're On right now and is it just execution or is there more that you still need to do?

Speaker 3

We're going to be making a meaningful investment in partners and partnerships. We announced a couple of weeks ago in a partnership with AWS where they're bringing us into new deals. We're working with them on deals. 1 of our largest deals with a large Carrelmaker this year was assisted by AWS. We our customers are able to retire AWS Commitments in terms of credits that they've committed to spend over multiple years by buying our software.

Speaker 3

So that makes the buying process Much easier for them and for us. It speeds the time to sail. So that's an example of a large partner that we think can help us accelerate growth over time. I think just also getting better and better at execution. We had our best quarter ever in North America.

Speaker 3

Not Surprisingly, about 6 months ago, we brought in Will Anastas, who's leading our North America sales efforts. So we're seeing the benefit of some of the big hires that we've made in the last year as well. And we think that will continue with Abe coming in. Abe is a tried and true field general and I think he's going to up our game even more as we go to market.

Speaker 10

Great to hear. Thank you so much.

Operator

Thank you. One moment for the next question. And our next question is going to be coming from Brian Peterson of Raymond James.

Speaker 3

So I wanted to follow-up on the seat dynamics You've also mentioned that overall CPLCS has been under pressure for

Speaker 4

a little bit. Do you think we're through that in a broader suite Brian, this is Tyler. You're breaking up a little bit, but I think you're asking about kind of seat degradation or just expansion pressure, and whether it's over or not. Now, we actually we saw really good expansion in Q4. And we you're right that we've been talking about kind of agent addition Having kind of lower amounts over the last, call it, year and a half, that has not recovered from what it was several years ago.

Speaker 4

And we don't expected to actually recover right away. There was good signs in Q4, but we're not planning on that just coming back. Because at the same time also SMB did see some pressure and continue to see pressure. And that's one of the reasons for the lower Net adds is at a very long tail of SMB, specifically CX. We saw some logo churn there.

Speaker 4

In general, what we've talking about is focus on figuring out how to expand with our customer base outside of seat addition. If seat addition and agent addition comes back to the levels it was a couple of years ago, that'd be fantastic. But we are very focused on introducing new products, introducing new feature functionality, moving customers up the addition stack and things like that, as well as getting them to use more across other divisions. And so that's what our focus is right now. It's not all the way back, but we did have a good expansion quarter.

Speaker 4

That's good to hear. If you need

Speaker 3

a follow-up Just on the field build teams, any update on how you're thinking about the pace of incremental hiring in 2024? And any comments that you could make on both the

Speaker 4

Q1? Thanks, guys. I think you're asking about the pace of hiring in field is what I heard. We have been hiring in the field and specifically in areas that we think there's opportunity and we think there's areas to definitely lean in. We're going to continue to do that.

Speaker 4

Our regional leaders are in place and have been for a while. So Abe's coming in and he's taking that over and he's going to work through and part of the plan is to continue to hire and build up quota capacity because we think there's big opportunity there.

Speaker 6

Thanks, Carlos.

Operator

Thank you. One moment for the next question. And our next question is coming from Alex Zukin of Wolfe Research. Your line is open.

Speaker 11

Hey guys, thanks for taking

Speaker 3

the question and congrats on

Speaker 11

a solid quarter. Maybe just the first one, Dennis or Tyler, Can you maybe just talk about the macro exiting Q4 like entering the year? Has it changed? Has it gotten better? Is it different by geography in terms of what you're seeing?

Speaker 11

And to what extent do you feel like this was you guys executing meaningfully better versus the macro changing to the positive? And then I got a quick follow-up.

Speaker 3

Sure. So I think the trends we saw in Q4 were consistent with trends we saw earlier in the year and that is that in enterprise and mid market, we continue to see really solid traction. You see it in the 50 ks ad number. And part of that is because vendors are consolidating spend. They're looking for platforms that can do much more for them.

Speaker 3

They're looking to bring AI into their operations, their work close their help desks and we can do that. And they're excited about the AI roadmap and what we already have out there in beta and now in GA. So all those things help there. I think on SMB, SMB overall is a bit more challenged. I think what we're hearing from our customers market is under a little bit more pressure if you're a smaller business.

Speaker 3

There are also things we can do better and that's again going back to driving product led growth to the next level, aligning marketing more tightly with our SMB efforts, all those things we think will pay off for us. So we think SMB is potentially a source of upside for us going forward. But what we saw in Q4 was consistent with prior quarters where that was the part of the business that was not growing quite as quickly as what we saw in the larger customer cohort.

Speaker 11

Perfect. And then maybe just a follow-up for G. You've gotten the AI question a couple of times, but maybe just What are you seeing in terms of early adoption or learnings from either are you seeing more in SMB versus mid market enterprise or vice versa, faster versus slower? And what monetization motions because you have a number of different ones that you're doing in the field, which one of those are working the best early on and that you see potentially kind of getting escape velocity later in the year?

Speaker 2

Yes. So I would answer it in 2 parts. When you look at Freddie's self-service, that is seeing Like we are seeing success with larger B2C companies because B2C companies have like fewer use cases That are scaling across millions of customers, so it's ripe for automation. But if you look at our co pilot, that is seeing traction Because it's helping agents get more productive that we are seeing like excitement and adoption across thousands of customers Across customer sizes or segments SMBS to this mid market. So again, where will we get Escape Velocity?

Speaker 2

I am hopeful we'll get it In both, we will wait to see it's still early days and so we will continue to put our heads down and execute and deliver more value for our customers and get

Speaker 4

Perfect. Thank you, guys.

Speaker 2

Thank you.

Operator

Thank you. One moment for the next question. And our next question will be coming from Ryan McWilliams of Barclays. Your line is open.

Speaker 6

Hey, thanks for taking the question. And I definitely want to note you're focused on upmarket customers. So it makes sense that much smaller customers below 5 ks are turning in the customer service segment. But any reason why those customers are leaving now? Are they just looking for cheaper alternatives?

Speaker 6

Or is it some change in the competitive landscape?

Speaker 3

Yes. I wouldn't say that they're necessarily looking for cheaper alternatives. I think We have a natural there's natural churn as businesses frankly fail or Shrink and in SMB you see quite a bit of that. I think we also have had customers who come in and try the product line, it doesn't fit for whatever reason what they're looking for, maybe they're too small. So I wouldn't say there's any one competitor that we find those customers migrating to, if that's your question.

Speaker 6

Excellent. And then just for Tyler, pleased to see net retention come in better than expected.

Speaker 2

What are some of the things

Speaker 6

you would need to see, but to like call it troughs? And do you think for fresh to get back to 110% NRR, we would need to just see a step up in macro, that's like what we're waiting for here?

Speaker 4

Hey, Ryan. So I think in terms of a trough, Right now, we called 106 for Q1. We were previously calling 105. We do think 106 is kind of from what we can see today the low point now, where I think we'll hit it and then possibly stabilize from there. In getting it back up to 110, I think it's a combination of a couple of things.

Speaker 4

We're still going to make progress on churn that we had said, hey, when we went public, we're kind of low 20s, total kind of gross churn and now we're mid teens. I think we can continue to make subtle progress there, but it's going to be kind of like maybe 100 basis point, 200 basis point over a longer period of time. So it really is going to be up to the expansion motion. And we've got a lot of initiatives there that are in play. We kind of called out what some of those are.

Speaker 4

In our Investor Day, we actually called out 6 things that we're working on. The 6th one was kind of, hey, if macro comes back and that would be a no brainer. I think we would just get to ride that wave organically. We're not counting on that, and we don't expect that to happen overnight. And so we are very, very focused on other ways to grow with the customer base outside of that.

Speaker 4

And we do think that eventually we can bring it back up to 110 based on that, but it's going to take

Speaker 2

a little bit of time.

Speaker 6

That's great. Appreciate the color. Thanks guys.

Operator

Thank you. One moment for the next question. And our next question will be coming from Pat Walravens of JMP Securities, your line is open.

Speaker 3

Hi, this is Austin Cole on for Pat.

Speaker 6

Appreciate you guys taking the question. So I just wanted to kind of piggyback on the answer given to the incremental kind of operating efficiency guidance implied and looking at the flip side of that on the top line, with all the kind of unlocks that you guys are discussing and the better than expected expansion, improving churn. Why might it not be at this point prudent to say that this business can grow 20% next year? Thank you.

Speaker 4

Well, our guide is to a little bit below that. We do build up that guide based on what we see right now. And what we've said is we have a lot of initiatives in play and those specifically six things that we called out in our Investor Day that we said, hey, these are going to be upside to what is close to a 20% growth rate. But they have to play out, right? And these aren't things that are going to happen overnight.

Speaker 4

Kind of like the AI monetization that we talk about that we said Q4 is like hopefully we can come out in the middle of the year and give an update on what the early signs of monetization there are. I just We're very, very excited about the initiatives and what the longer term results could be from those, but they're just going to take some time to play out and thus we can't build them in yet.

Speaker 7

All right. Thanks a lot.

Operator

Thank you. One moment for the next question. Our next question will be coming from Brett Fowle of Jefferies. Your line is open.

Speaker 12

Tyler, everyone appreciates the margin you guys gave us last year, but a 50 basis point increase This year, I think many are scratching their heads. So just to push back a little bit, at your run rate at 600,000,000 I think everyone's questioning where all these investments are going. Is this 80% in the field, 20% of the product, 50% field, 50% product? How would you characterize that? Because the natural margin trajectory should be, in my view, a lot better.

Speaker 12

And again, respect what you gave us last year. So maybe it's just that's it. You just gave us a big margin bump and

Speaker 4

But just trying to

Speaker 12

think of it, trying to

Speaker 4

No, totally get it, Brent. If you look at last year, we do we did get some one time benefits, right? And so if you look at R and D stayed flat for the whole year, year over year compare. And then sales and marketing slightly higher, but really only $10,000,000 higher when you look at kind of 23% to 22%. And we had said, hey, don't expect that same type of efficiencies driving into next year.

Speaker 4

Especially as we kind of last year going into sales and marketing, we really reshuffled a lot of stuff at the beginning of the year and let things settle. And now we feel like they're settled and it's going to be time to lean in a little bit and make some investments. We don't want the impression that we're moving away from thinking about efficiency. We are very focused on getting to the rule of 40 by 2025, which we called out and specifically free cash flow margin and growth. And if you look at what we're guiding to, we're just under 16% free cash flow margin for the year and about 18%, 19% on revenue.

Speaker 4

And so I feel like that's a pretty good path of trajectory to get us to what we said we're going to be doing. And we're not going to lose sight of that and we're going to obviously be as efficient as possible while we're growing. But we do think that if we have the opportunity to grow a little faster, we're going to take that opportunity and we have to invest first to be able to do that.

Speaker 12

Okay. Thank you.

Operator

Thank you. One moment for the next question. And our next question will be coming from Tyler McGinnett of UBS. Your line is open.

Speaker 13

Yes. Hi. Thanks for taking my question. So if I look at the high end of FY 'twenty four revenue guide, it's only a point below the 4Q exit rev growth rate. So it implies some stability in top line growth.

Speaker 13

So Can you talk about what gives you comfort that this outlook still embeds a level of conservatism or any change in the guidance framework? I think even despite the pull forward, you're expecting billings growth to remain more stable too. So maybe you can just comment on what you're seeing in the macro or what your

Speaker 4

Hey, Taylor. This is Tyler. We on the guidance, I think we've tried to get to a cadence that you guys will recognize. We are guiding to what we see. And it's not like we're trying to be overly conservative.

Speaker 4

We are trying to call it as we see it and then we will obviously update that every single quarter. For the year, we do think in terms of the growth rate civilization, we do think we're at a point right now where okay. Expansion and things like that, we don't expect those rates to get worse. We just talked about net dollar retention that we thought it was going to be 105. We're actually calling 106 kind of the bottom now.

Speaker 4

And we think we have pretty good view of the business as it is in front of us. We Again, I'm going to point to some of the initiatives we're working on and how we're going to grow faster. We just need to let these things play out and we'll actually build those in as we start to see returns on them. It's just too early to be able to do that. But in general, we feel really good about the business and we're coming off a really good quarter and we're pretty positive.

Speaker 13

Great. Thanks so much.

Operator

Thank you. And the final question for today will be coming from David Hynes of Canaccord Genuity. Your line is open.

Speaker 7

Hey guys, thanks for taking

Speaker 12

the question. I'm going to Pile on

Speaker 7

with another AI question. I don't know if it's for Dennis or Gee. But look, the value prop, Customer examples you've given us, early adoption seems very apparent. For the folks that aren't moving forward yet, Is it a matter of organizational readiness? Are there price sensitivities in the market?

Speaker 7

I guess I'm particularly curious on the latter just given Some of the more advanced AI features are yet to come to market. How sensitive are buyers to price at this point? Any color there would be helpful.

Speaker 3

Yes. So this is Dennis.

Speaker 2

So, so

Speaker 3

far, as I said earlier, there's like thousands of customers have opted into the beta. So I think to one degree or another, all of our customers have some level of interest. Now some of those customers are going to be a little more cautious if They have become reliant on a human driven interaction or let's say they have a very high value customer on the other end and they prefer to have a human involved then they're going to be less likely to adopt Freddie Selzer, but they may adopt our CoPilot product. So I think it's just a matter of time before all of these opt into some trial of sort. And then it's question of whether or not they see value in the product.

Speaker 3

And if they do, that's when we get into a nice discussion about what is the What are the investments that they're going to be making in AI? Are they going to provision all their agents or some of their agents and how does that work? So that's a huge opportunity for us this year. And We're seeing with some of the resolution rates, the improvement in call quality and customer interaction Customer resolution, we're seeing a lot of value come from these AI products and customers are recognizing that value. So we're going to have to see how it all plays out.

Speaker 3

But I'm pretty optimistic that this is a huge opportunity for us that's going to really materialize over the course of the year.

Speaker 2

Yes. Okay. That's helpful color.

Speaker 7

And then Tyler, maybe a follow-up for you. I think it's been asked a couple of different ways. But you have this $1,000,000,000 target out there for $26,000,000 It implies some future acceleration in growth. Do we need to see the macro improve to hit that? Or do you think you can get there With the go to market enhancements, the enterprise push, AI, new products, all the stuff that you're doing today, can you get there in the current environment?

Speaker 4

Yes, our plan is to be able to get there in the current environment. That's not based on macro coming back.

Speaker 5

Perfect.

Speaker 7

All right, guys. Thank you.

Speaker 2

Thank you. Thanks. Thanks, everybody.

Operator

This concludes today's conference call. Everyone may disconnect.

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Earnings Conference Call
RingCentral Q4 2023
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