8x8, Inc. (EGHT) Earnings Call Transcript & Summary

Thank you, everyone, for being here today. I know we're wrapping things up Day 2 here at the Barclays TMT Conference. I'm Ryan Mac, SMID cap software analyst here at Barclays. With me today from 8x8 is Interim CEO, Sam Wilson. Sam, thanks for being here.

Thank you. First, thank you for having us. Thank you to Barclays for always being around for the last few years, and thanks.

This is a great way to end the conference. We can dive into some cloud communications trends. But look, some big news recently, Sam. Management change here at 8x8. We'll love just to hear at a high level, to start, just some more color on this transition and kind of what your thoughts on the path forward ahead for 8x8.

All right. Just for everybody's benefit, last Monday morning, we put out a press release. I became the interim CEO, and Dave Sipes stepped down as CEO. I just want to say this upfront and very clearly. Dave is an honorable man. I've heard some rumors around. I'd really like to put these to bed in a public forum. There is no malfeasance. There is no expense report issues or any of those other kind of things. There's none of that. It's -- the Board just decided that there was a change necessary and made that change. And I think it was just a difference of opinion on the future direction of the company.

Perfect. And as you think about the future direction for 8, we've seen different things around CCaaS, around like the channel program. A couple of years ago, there was like a white label program. But I guess like what are some options or what do you think about is like the best path forward from here?

That's a great question. Thanks for asking it. Look, I fundamentally believe that technology companies have to focus on technology. So the #1 thing that I would like to see us do is become much more of an innovation-focused company. We've had sort of this thing around sales and marketing and sales marketing efficiency, and we're going to spend money there. But one of the things I'm actually most proud of the CFO is when I took over, I think our R&D spending was around 9-and-change percent of revenue, it is now 15% of revenue. So we've become more profitable, profitable, cash flow positive, but we're actually spending money on R&D. And what I believe long term is great products allow for very efficient business models, right? It's easier to generate pipeline and demand when you've got a phenomenal product that people want. Okay. So if you take the premise that I want to be more of an innovation-focused company, where is the most white space where you can generate an economic return for that innovation? Definitely in the Contact Center, right? So one of our crown jewels of the company that we don't get all the respect for and it's not a criticism of you or Wall Street or anything, it's we have a great Contact Center product. And we've spent some money on it. And now we've got -- part of the reason we did the Fuze transaction a year ago was to get even more scrum teams working on it. And 75%, 80% of our R&D capacity is directed against our Contact Center. So I think we can generate a really good economic return by innovating on our Contact Center and really putting that out in the marketplace. And then now there's some time aspects to that, right? So it takes a little bit of time. When you do software development, it takes 4 -- it takes months to hire people or ramp them or switch them, and then it takes time to develop the product. And there's a sales cycle of selling it, right? So you got to -- like we got to manage all that. But I really, number one, want to be known for the innovation that we'll bring to the Contact Center, and I've got to think we've got some tremendous things in the pipeline that I'm really working hard with the team to accelerate. And the other thing is I'd like to deal with the balance sheet. I'm an old-school CFO. I'm, I guess, an old-school CEO. But I love tech companies that don't run with debt. And I think we can generate equity returns by just delevering our balance sheet. And I think that's fully -- ability to do that. If we do that, we're going to be more deliberately profitable, but we can deliver our balance sheet.

I think that was a good time to just pull the thread on Contact Center. I mean 8x8 has been around for a long time. And I think, when you say by the people that just think cloud voice, strong international growth, good enterprise scale, Contact Center is like an add-on or another piece that is part of the product portfolio. Like can you just talk about kind of your momentum there and maybe how large a piece of the business Contact Center is.

Yes. So we've never publicly disclosed the exact size of the Contact Center. We've given the breadcrumbs. So if you do some fast math, you're going to get a number between 20% and 30% of my ARR is Contact Center, and it's growing healthily. And -- but yes, we've been known as a UC company, right? 11 years Gartner Magic Quadrant for UC. We're in 57 countries for UC. We're in more global than any other of our competitors. We are historically known as a UC company. And you're right. Historically, we've been a -- would you like fries with that kind of -- to use a happy meal analogy, right? That's been our Contact Center. And it's a good contact center for its core market. And its core market is 50 to 1,500 seats concurrent agents kind of thing. I'm not trying to compete at United Airlines or Bank America or Barclays or something. Those are -- that's a different group of competitors. It's a good contact center in that market. I do think we need to innovate more on it. I think it's got a -- we did a new front end to it that's beautiful. We've done a number of upgrades and capabilities that's awesome. It's -- you can see it on our trust side. It's running at 100% uptime in the last few months. It used to run 5 9s. Now we're at like literally 100% uptime on it. We got a lot of, I think, good momentum behind it, but that's really where we need to innovate more.

And this is something that didn't come out 2 years ago. I mean, it's been around for a while. Channel partners know how to sell it. They're familiar with the products here, and it's probably a good fit for its market.

It does. It has a good fit for its market. The hesitancy in my voice is around the channel side. I think there's some opportunity. Historically, because we're known as a UC player, our channel is somewhat UC-centric. And I think that is an area that we need to do a more -- a little more diligent work on and bring some of those channel partners that have historically been a little bit more CC-centric over into the 8x8 fold. And it's -- when I meet with them, it's an easy transition. "Hey, you can sell UC along with your Contact Center sales, and your total revenue opportunity per customer is significantly larger when you want to do that." Yes, we would. And that's been -- but they didn't know us as a CC company here, right? That's the part I've got a bridge over time. And to me to do that is like we could go spend a lot of money doing billboards on 101 for all your local folks. I think that's not. The way you do it is you -- because this is a B2B sale, you do it through innovation. You launch feature functionality capabilities that really make the end customers stand up and go, "Now I want to talk to those guys."

That's a really good point, yes, you start changing the message and your outreach. And like I've actually kind of been interested in this because I've always viewed that like the enterprise level, yes, UC and CC now as kind of a different sale. But most of the existing on-prem UC and CC systems were sold together, actually smaller. And that still is -- people want to replace both of them in one shot. And 8x8, I always say, it's like there's not many companies that natively have both UC and CC. So like what's kind of like the differentiating value there of having the combined solutions?

So up until -- so 2018 is when we announced the Unified solution together. And for the first year or 2, it was small feature functionality capabilities, presence across, find the expert capabilities, those kinds of things. Today, it's really driven by the fact that we have new feature functionality. So things like conversational IQ, where we've taken traditional Contact Center-like features and moved them into the UC world. And I'll describe that in just a minute what that means. As an example, the receptionist, I think we call it agent workspace -- not agent workspace, front desk, the front-desk products, where we take a bunch of content center. So we've been really focused on taking basic contact center functionality and moving to UC. Why does it matter? Inside of corporations, especially even larger corporations, there's a large amount of informal contact centers, shadow contact center in cover, if you want, my accounts payable department or my accounts receivable department. These behave like contact centers. And so that is inside larger companies where we can get. Now my accounts receivable department, which is on the phone doing collections all day with customers, is running kind of a modified version of our UC product and it's kind of a hybrid between. And because we offer both, we can offer those capabilities to customers on a single platform from a single vendor with a lower total cost of ownership.

Yes. I actually talked about that a lot as like when I worked in the contact center, it was exactly what people imagined, right? It's like 100 people in a cubicle farm, but that's not customer service by and large, right? There's other use cases like -- that's a great example, front desk or if there's an example of like a loan officer, right? Like people don't walk into banks anymore and get loans. You call about it, right? And you would never consider that a contact center agent, but you can add both features there.

Right. And what you want is -- so this is where the concept of queuing and skills-based routing and attribution-based routing, right? So you're a Barclays high-net-worth client. You call in because you want a loan. You need that loaded to a loan officer. Loan officer is not in a contact center with a queue grabbing the next one, but you want the system to be able to grab it and say, "Okay. That's a high-net-worth individual. This is our high-net-worth groups. We need to route that call over here. They want a loan. And your loan officer in this group, who's available now. He's not available, he's not available. He's available to route the call over there. Two rings later, it's picked up, and you can close that loan on the spot before they go to the one of their other financial service providers. That's the kind of capabilities we'd like to give.

Yes, and maybe he takes 5 calls a day, and he's doing the rest of his work at the rest of the time using your UC solution. So trying to bridge the gap here, like you have a great partnership, Microsoft Teams, right? What do you think the Contact Center can add to that?

Well, so we were the first Microsoft Teams-certified contact center. So I think Microsoft Teams is a huge way. We are not trying to compete with Microsoft Teams. I bear hug -- I hug Microsoft as hard as I possibly can. We do -- we have, I think, the best direct routing integration of any of the players in the space. We're known for that because we invested very early in that. And so what we want to do is want to give -- if you're a Teams provider, we'll give you that feature functionality that stuff we just talked about if you're using Teams. But what happens if you have retail storefronts, what happens if you have employees who are not doing video and chat, but still need during your employees maybe you need to make sure they work hourly, the tellers at your bank or whatever the case may be. These are not going to be regular old video conferences. So you'd want to give them our regular product because that would save you a bunch of money. And then your contact center will give you feature functionality that allows it to bridge because we're on that team's platform to bridge into like contact center functionality. So we -- look, I think what -- I don't know, Microsoft 270 million MAUs, 290 million MAUs, somebody will know the number more accurate, we may -- really big number. We embrace that wholeheartedly.

And that's good -- like in for your voice product, right, where you can get into larger customers and then maybe up-sell from there. So it's like that was direct routing and then you have a much higher ASP add-on?

That's right. That's exactly right. And I would tell you, I'm utterly surprised. I don't know the exact number, but I would say that on Microsoft Teams deals -- so we need to ask a question about ARPU a lot with Microsoft Teams seats, and I get into the finer deals. But if I look at the deals themselves, almost all of them have Contact Center. So the strategy we are trying to follow with Teams, I'm not going to make a ton of money fighting on teams. I'm fighting operator connect, I'm fighting carriers. I'm fighting [indiscernible]. But I can make really good money if I can attach my Contact Center into that. It's really darn sticky, right? So for me, that's the milk in this analogy, and I'm going to sell a lot of frozen food on top of that. That's the Contact Center. That's where the margin comes from.

Yes, and that's happening now, like irrespective of macro, right?

That's right.

Okay. So kind of switching gears from like the product side and like the strategy side from 8x8, kind of like what kind of company do it to be from the financial side? Like max out top line growth or try to just run things more efficient in the profitability side, maybe do both? I guess, like what's your view there?

So over the next year or 2, I'm really focused on -- to me -- okay, growth and profitability are maybe 2 heads of a coin. We can just argue about that and argue extensively about that. But right now, I'm focused on innovation and profitability, not necessarily growth. I think I will grow faster in the future because I am -- I have tremendous amount of innovation I'm funding right now. And eventually, that will come into the marketplace. In the meantime, I want to generate -- and we've said this, in fiscal '24, in the second half of the year, we want to get to 10% operating margins, which are, I don't know, double of what we're at now and potentially even more going into '25 and use that money to delever the balance sheet, which then, I think, drives equity value in the shorter-term perspective. So the idea is, in the short term, forgive this word because majority of financial -- a little financial engineering around delevering and doing those things to drive equity value. And then we look out in the '24, '25 and '26 back to sort of straight innovation-driven growth.

And just on those operating margin targets, right, exiting the year 6.5%, 10% for fiscal '24. Can you just walk us through some of the...

We'll hit 10% in fiscal '24, not 4 '24.

Okay. Even better. There we go.

All right. So just to be clear. Yes, that -- we want to hit 10% plus in '24.

Okay. And so can you just walk us through some of the drivers for that improvement?

Yes, so we've been -- we should get continued gross margin improvement. So -- and then I want to bring down sales and marketing expenses, right? So I got -- I'm very fixated. I just got to 15% R&D spending. We'll keep 15% R&D. G&A for publicly traded company is kind of fixed. I mean, we'll get some leverage on it. This has more to do with Fuze and over time as like Fuze fully integrated. I can lead off 100, 200 basis points more G&A. But really, it's bringing down the sales and marketing spend. And that's what I meant about growth, right? So I am willing to tolerate slower growth in the short term for higher profitability because I philosophically believe that sales and marketing-driven growth isn't durable growth. And we can have this argument at the bar tonight if anybody wants to have it, but I believe innovation-driven growth is durable growth. Sales incentives and extra channel spiffs and lots of spending with Google AdWords and those kinds of things, it's not durable growth, in my mind.

So as you talk about the hopeful improvement in pace of innovation, right, investing in the Contact Center, that's where you're thinking some of the trade-offs can come from on the sales and marketing side?

Yes. Because I mean, if you think about it, right, if we can get to the point where we're not pushing our products into the place, but customers are pulling. So if we can be known as this innovation we're doing really cool stuff in the Contact Center. They're going to call us and say, "Where you come in and bid on our business."

That makes sense. And just as you think about like all things considered, from Fuze, there are CPaaS headwinds, right, like the organic growth profile of 8x8 in a healthy environment, do you have any thoughts around that?

Well, so we -- right now, I think organic, we're about 5.6% adjusted for Fuze. Just a disclaimer, I'll anniversary Fuze next quarter and then on the longer break it out because we're already migrating customers. So we've given the sort of organic growth rate throughout. Right now, I would say, at the current FX rates, plus/minus mid-single digits, if FX -- so FX has been a headwind for me. I got about 30% of our business international, mainly the U.K. British pound, just 20% of our business, roughly, though. So high single digits if FX goes a little bit -- stops becoming a headwind to me.

Yes. That makes sense. And just when it comes to the macro, right, we talked about it last quarter. But can you just remind investors kind of what your thought process is there and maybe like how that could change for next year?

So first off, I am an $800 million company, roughly. Like I'm a flee in this land of giants, right? So let's just be clear, Sam's impression of macro is driven by the same Wall Street Journal articles that you guys all read. I would tell you 2 things. Number one is I think customers buy our products for 4 key reasons. They're moving to a new building, so they're not going to move their on-prem system. They want to cut costs because cloud, telephony or cloud UCaaS or contact centers cheaper than on-prem. They want to do digital transformation or they're being end of life by their existing on-prem vendor. All right. So which of these are economically sensitive? Obviously, moving building is highly economically sensitive. End of life, I think, is more driven by the trials and tribulations of Avaya or Mitel or any of those players at any given time. Want to save money is kind of positively, sometimes negatively by the economics, like sometimes CFOs are willing to take a little risk and sometimes not. And digital transformation, interestingly enough, and I'll give an example of this in a second, is not very economically sensitive. Where we see it is, you may have a retail customer that historically has had stores, and they want to compete with Amazon now. And so they're moving -- a lot of them moving to the system, we go online and you place an order for a pair of tennis shoes and it says you want to pick up at your local store, yes. And you drive over, the person walks out and hands it to you, you driveway. So becoming common in California, I'm hoping it's common everywhere. What's interesting is that requires a whole new communication system. Those employees who are going to pull that inventory and hand it to you are not on an e-mail system. And so you've got to have a change in communication system that allows the order to be placed through the e-commerce portal to actually come down and drive an action in the local store. And so we're doing a lot of those types of projects. Those projects, I don't think, are super economically sensitive. They may be, but I don't think they are because that retail company is dealing with the existential crisis going with Amazon.

Yes, it's something you have to do for your business. When it comes to like any customer segment or regions that maybe like more acceptable or acceptable to the macro, any...

Well, I do -- 25% to 30% of my ARR is small business. That would be the most logical. We're not seeing major -- like I'm not seeing a big surge in credit card default rates or any of those kinds of things. I'm seeing a little bit here, a little bit there, nothing major. And look, I'm de-emphasizing my small business. It's my least investment category. So sometimes it's hard for me to tell with small business how much of it is us continuing to exit the spending in that segment versus how much of it is economic. But I'm not seeing -- I mean my churn rates are better like than a couple of years or so.

And just when it comes to the competitive segment, we've talked about Microsoft, Ring, Zoom coming in now. Where do you think 8x8 fits?

So first, I consider Microsoft a partner. I love those guys, hug them dearly. I see Ring in lots of deals. Historically, I think we see each other in almost all deals of any consequence. The place I don't see Ring very much is a Microsoft Teams deals. I generally see an operator connect partner. I don't really see Ring much in that space. Obviously, I never see Zoom in a Microsoft Teams deal. And Zoom, I don't look through my rival, great, I don't know. I just don't -- I don't see them as much as Wall Street ask about seeing them. And maybe that's I'm missing something. It might be some reason we're not getting a Venn diagram overlap, but Ring is a big -- primary competitor we see all time. Great rival, don't want to say anything bad about them other than fact that they don't have a Contact Center and I do, and I'm going to use against them at every possible point I can in the future.

So one thing in the fireside with that competitor was that they mentioned there was a number of people that during the pandemic, they re-signed with Avaya, just for lack of a better option for a multi-year period. And a lot of those new opportunities could potentially pop up next year, potentially some financial struggles with Avaya. Like do you think 8x8 could be well positioned to capture some of those seats?

Yes. I mean -- so look, I don't know the exact numbers and don't quote me too much on this. But I mean what Avaya has got, what, 70 million, 75 million UC seats. Cisco's got, what, 58 million seats. NEC has probably got 60 million seats. There's still lots of on-prem seats to go. And I am sure -- look, our #1 source of kind of customers is on on-prem seat. Does Ring take a customer from 8? Yes, you'll find one. Do I take a customer from Ring? Yes, you'll find one. That's not a vast majority of the business. The vast majority of our business is on-prem to cloud. And I'm -- I mean if you guys know the term Chapter 22, right, the second time you declare bankruptcy, Avaya goes Chapter 22, maybe that benefits us, maybe it doesn't. I don't give a lot of thought to it. Really, what I want to give a lot of thought to is a Contact Center, I think is there such tremendous opportunity there, and we have this crown jewel. And I'm not sure we've really done a great job of highlighting that crown jewel, putting at the forefront, becoming more of a Contact Center-led sale and will add in the UCaaS as needed.

Yes, you're really good. Starting with the Contact Center in a sale would be jewel for 8x8. Just when it comes to the question I asked on the earnings call, bringing it up again just because seat-based headwinds has been a big theme in this conference. With your multiyear contracts, where do you think you can be exposed to that? Or maybe why isn't that such a big deal for 8x8?

Well, I mean, I think the question you're sort of asking is, because of layoffs and everything else, do we expect a big step down. Look, I mean, customers come to me on a regular basis and say, "Hey, we've done a layoff. We have 20% too much shop where, for lack of a better word, right? Generally, I restructure those deals now. I believe in being a long-term good business partner with my customers. And so generally, what I'll do is I'll restructure those deals now, but I'll ask for a contract extension. So actually, I've -- give or take, when these situations go on, I actually see a little bit of the base. The contracts actually extend a little bit among my enterprise customers, because all we structure them now, take a little hit under 606 and extend it out. I don't know, I'm not -- look, the thing that's super interesting is if you go back in time, right, telecom was a defensive industry. And so I don't know. I'm not sure we're going to see this large step down economically or whatever because the thing every business in the world needs is they need an e-mail system, a website and a phone system. Those are 3 things you have to have to run the business. And so maybe if business bankruptcies surge, we'll see a little bit of a stuff, and enterprise companies aren't going out of business. It's on the margin a little bit here or there.

Yes, if you're shutting down your phone system, getting ready your phone number.

It's usually the last thing you're doing, right? I mean you're -- and it's -- usually, by the way, where I see this in credit card default. It's not like they call us and cancel. They just like -- you just disappear.

Yes, I mean even there in COVID, there were a number of businesses that were shut down and still replace their phones system, they buy 8x8 to get better ROI. So are you seeing that more inbound from folks?

I'm actually surprised during COVID. Like to me, COVID, one of the interesting things is -- and look, others have talked about how sales cycles are normal now, and I mean kind of go back deals. So what's interesting to me was how many of the traditional like retail, health care, et cetera, suddenly had to embrace a virtual online world. For retail, it was e-commerce; for health care, it was telemedicine, whatever there was that sort of embrace. And for regular businesses, it was a dispersion of the workforces. I mean, Barclays, I'm sure, is much less concentrated than it was 3 years ago, 4 years ago.

Yes, people come back in the office now, but I know you're saying like the flexible work is definitely here to stay. And I mean, we definitely highlighted this space back then. Just on the gross margins, a few financial questions to wrap up, improved the last few quarters. What do you think comes next there? And I guess, what kind of led to that improvement?

So 2.5 years ago when I became CFO, there was never really a program that fundamentally fixated on gross margins. And I believe gross margins is one of those things that it's just a never-ending series of blocking and tackling. And the telecom industry is a very -- because you have $100 million a year in carrier interconnect costs, it's a business that you just constantly want to RFP out as your business grows. So as our business grows, we should be RFP-ing out, and that should allow us get better unit economics and we pass that through to the customer and into the gross margin line. And so we're on a good cadence. Like a lot of the low-hanging fruit is out of there. So one of the big pieces I was able to do over the last 3 quarters was I brought in Fuze. I stepped up Fuze, but I also use Fuze volumes to get my gross margins better. And so some of that -- look, do I think I can get that 100, 200 basis points. Yes, I think I've got that on the board. I got to go figure out past that.

So just when it comes to your present cap position, can you talk about your recent convert raise and then your strategy there?

Sure. All right. So we had $500 million of convertible debt due in 2024 after we got Fuze fully integrated and everything taken care of and we got a shareholder vote done that we needed for increased number of shares, et cetera, we were able to refinance. And so through the first half of this calendar year, I met with a bunch of sovereign wealth funds and a bunch of the things, structured deal in August that I thought was a win-win-win. We took $250 million of convertible debt -- sorry, $200 million of convertible debt where we exchanged it. So we exchanged it and then subordinated it out to 2028. We took $250 million from Francisco Partners credit and term loans. So with the capital structure I have today, $90 million remaining 2024, but I'm net cash positive. So it's -- [ well, 2024 ], I have $130 million in cash plus the bank, $40 million, and it's -- I'm cash flow positive. So I can pay off by 2024s. And what I'll have is of $450 million of total debt. So I've delevered a little bit. About half fixed rate, half floating, half hard to pay off, half easy to pay off. What I mean by hard to payoff is when you want to go pay off convertible debt, it's actually hard. You have to go out and privately negotiate every single transaction. They all want a premium. It's a big argument constantly. My term loans, on the other hand, are just like a mortgage. If I send a dollar extra, they take it off the principal.

So just when it comes to outperforming expectations, Fuze definitely be, I guess, what we were saying here on the Barclays side. I guess what are the blocking and tackling things you did that made them integrate better than expected?

It's kind of difficult to say. Look, what we do with Fuze is, first off, it was an old-school transaction. If you go back to the days of Comcast, AT&T, Mable, SBC, Atlantic, all those companies, you acquired for customers. We acquired customers. So what did we do? First thing we did was we stop -- we did a layoff right away, and we drove them from money losing to profitable, kept all the engineering and then just integrated the back-office systems. Now 2 things happened. Number one, we've got to be a great price. So rule #1 when acquiring customers is don't overpay, right? Got them at a great price. We were able to more quickly realize gross margin improvements when we expected basically by playing hardball with our carrier interconnect partners. So I went out to all our -- all the Fuze partners, the Fuze suppliers and said a lot of overlap with ours. And I said, "Look, we're going to put the combined thing out to RFP when Fuze comes up in 6 months, 12 months or whatever." They're like, "Please don't do that." And I'm like, "Okay. Then you give me my pricing on Fuze's business today and I'll agree to extend the contract a year." No, don't. So we were able to step up the cost structure on Fuze -- or step down, I guess, the cost structure on Fuze very rapidly. And then, look, it's a good product. We bought a good product in Fuze because -- so that's been positive. Back-office integration has gone faster. The only thing we've slipped on a little bit is cross-selling. That's been the one minus item. I haven't done the revenue synergy as much rule of thumb for any future aspiring CFOs, always focus on cost synergies, 10x easier. Revenue synergies, always 10x harder than you think.

Let's just go back to your programs to kind of drive the Contact Center across the line message. So as we wrap up here for investors who are new to 8x8 and we're getting more inbounds on -- like tell me about the whole story, the Contact Center piece, what kind of message do you want to leave them with today?

We're going to be an innovation-focused company. We're going to delever our balance sheet. And I got to be careful how I say this, but I'll just be kind of blunt. I don't care about size. I don't care about scale. I don't care about growth rates. I care the most about efficiency. I believe efficiency is what makes super -- because, by the way, if you're super highly efficient, and it's easy to invest in the business to scale it. But you don't solve efficiency problems with scale.

Great place to end it. Guys, thanks so much for being here at the Barclays TMT Conference. Appreciate it.

Thank you.