Dropbox, Inc. (DBX) Earnings Call Transcript & Summary

Hi, everyone. My name is Josh Baer, software analyst at Morgan Stanley. And we have the pleasure of having the Co-Founder and CEO of Dropbox, Drew Houston here today. We do have some disclosures. For important disclosures, please see www.morganstanley.com/researchdisclosures. If you have any questions, please ask your sales representatives, something like that, off the top of my head.

Drew, thank you very much for being here. I was hoping you could walk through and help us understand your original vision for Dropbox and how it's evolved from when you founded the company to today?

Sure. So hey, everyone. I started Dropbox because I kept forgetting my thumb drive is the sort of the short version. And then more broadly, just had all these struggles with like all my stuff is on these different computers or in different places or in my e-mail. And I had to spend so much effort like keeping track of all of it. And so I'm like, all right, instead of myself being in 10 places, could I just have a magic folder that takes care of everything. And then, my co-founder and I launched it and it just took off beyond our wildest dreams. And then, since then, I mean, the business has reached a multiple billion dollar ARR scale. We do a lot more for our customers, which I'm sure we'll talk more about, but moving from the syncing and sharing files to e-signature and all kinds of other workflows around content. And one thing that I -- as far as the vision for the future, I think kind of ironically, there's a lot of the same struggles I had just coming out of college, taking care of my files or just taking care of my stuff. We have, again, today and what used to be 100 icons on my desktop are now 100 tabs in my browser, and I'm like declaring -- like Chrome will crash every week or 2 and then I got to start over again. But -- so many of us have stuff in different -- all these different clouds, right? Might have something in Dropbox, but also in Google or OneDrive or -- and then now the whole, every new SaaS company or every new Figma table is another thing, another crack for your stuff to fall into. And so there's opportunities like that hidden in plain site. It's very strange to be in a world where it's easier to search all of human knowledge with the Google search, then to search even my company's knowledge are increasingly even my stuff, right? Because you're just like how often do we find ourselves like looking at anything like I know someone shared this with me like 2 days ago. I can't remember the name of it. Was it an e-mail, was it Slack? So it's a big opportunity for Dropbox to evolve from syncing files to organizing all your cloud content. So that includes things like universal search. But what would look like to have a one home screen for your content where you had a PowerPoint you just said it would show up there, but also the Airtable or the Google Doc. So we think there's a huge opportunity here for us.

Great. And Drew, you mentioned Google and Microsoft OneDrive. How would you say Dropbox is positioned from a competitive perspective? Why do customers ultimately choose Dropbox over some of those larger vendors?

Sure. I mean what we hear most often is people use Dropbox because it just works. And they love the design, simplicity, the reliability, a lot of factors like that. I'd say compared to the other Microsoft or Google or the platform companies, what our customers appreciate is that we're platform agnostic. So Dropbox works just as well on any operating system or with any kind of content, and we don't try to force you into one suite or one walled garden. And then more broadly, we don't -- when it comes like organizing all your stuff or all your cloud information, no one is solving this problem, right? Microsoft is not, OneDrive won't solve this for you, Google won't. And so -- and then we also see -- we've seen a lot of uptake among the creator type audience because initially, even we had a question, like are we a consumer company, are we an enterprise company? And what we found is that there's this -- our sweet spot is really with this creator and which is sort of in between, where -- these are folks who -- anyone who creates content. And so whether that's a creative professional or increasingly, you think about the creator economy. All these people are creating content, the yoga instructor who moved from in-person classes and then had lockdown and then had to shift to virtual classes and needs to distribute content via driver, just make -- share videos with Dropbox. These people have been some of our most passionate customers and they choose Dropbox over OneDrive or Google Drive because we handle creative assets really well. We handle video really well. These large files need things to be reliable. And then with, again, smaller competitors, our scale is a huge advantage, right? So several hundred million registered users, 550 billion pieces of content on Dropbox. And so we're well positioned to keep expanding beyond files into the cloud.

Great. With that focus or that sweet spot on the creator economy just wanted to ask you about the outlook for creators and freelance economy looking ahead and how important that is for you?

Well, it's really -- I mean, it's [ heartening ] to watch. I mean we've seen usage of videos and PDFs explode on the platform. Our customers have asked us for a lot of new things. So I mean that yoga instructor example. And one of the things that as we thought about how we best leverage all the content in Dropbox? I mean, just storing and syncing and sharing things is just the beginning, right? People want to sign documents. They want to be able to share in more rich ways. They want to be able to monetize their content. They want to be able to produce videos and they want to be able to do more on mobile. So when you think about these creators what we're seeing in the market and what we're observing is that there's creative professionals who have always loved Dropbox and that we've always been strong with them. But there's this -- there's -- in order of magnitude more people who are kind of casual creators or otherwise make a living out of creating content. And so beyond the yoga instructor, this would be people who are podcasters or on social media or writers, like these are all people who would be in the creator economy. So we've seen -- and then they're a great audience for us because they care about their tools. They're like selling their time, right? Someone who's creating content, it's time consuming. So anything you could do to be more efficient. Creators obsess over their tools. They're very -- and they're willing to pay for quality. So they're not just defaulting to whatever their IT says that they can use off and their freelancers or in very small organizations. And so that's been a strength for us because self-serve or people are picking best-of-breed. They self-serve product. Everything we do with product-led growth has a lot of leverage there. And they're viral. So content creators share and they share with a lot of different kinds of networks, so their clients, their audiences, each other. So the self-serve viral motion has been at the heart of a lot of our efficiency.

Great. I wanted to ask one on kind of COVID and where we are at this point in the pandemic, more related to DocSend and HelloSign, which I'm assuming saw an acceleration during COVID. So what's the demand like for those products today and looking ahead?

Yes, they're still some of our fastest-growing businesses. And as you pointed out, the beginning of the pandemic, there was a pretty rapid shift from pen and paper workflows to needing to move to e-signature and similarly with sharing in a virtual world, especially when you can't meet in person and you need to fund raise for your company, having things like DocSend is a big boon. I mean more broadly, I think the most significant thing about the pandemic is that it took us through this one-way door where previously, we were working primarily in offices, and now we're all working primarily in screens. And that will continue to be true even as things reopen. And so our digital environments matter a lot, right? And it will matter a lot more than the physical space that we're in. In an environment where it's like really hard to find everything and there are all these pain points and the experience around being on Zoom for 10 hours in a row is really exhausting. Like we're kind of in this like early forced, like early forced beta test of what remote work could be. So it's really exciting for us because we're like, this is -- as the world has shifted to remote and hybrid work, there's all kinds of ways for Dropbox to improve that experience and all kinds of new pain points that our customers have and new ways that we can help and grow.

Great. I want to dig into a bunch of different growth areas and then also hit on profitability. But maybe to keep at high level, you've reached $2.2 billion in ARR. You've demonstrated really strong discipline around profitability. And on the last earnings call, you increased your 2024 targets. So what's the right way from a high level to look at growth and profitability from here?

Yes. I mean we've always sought to have a balance. I mean, I think even upstream of growth and profitability, like we just -- we think it's important to have great fundamentals. I'm reading Bezos or Warren Buffett's shareholder letters, like I think it's good to have a lemonade stand that makes money. And so we've always had a balance. And I mean we've made a lot of progress. I mean, obviously, I think our -- when I started the company, I didn't think we'd be anything near $1 billion and the ARR is in multiple billions. But over the last few years, we've made a ton of progress in terms of improving our fundamentals and expanding operating margins by like almost 20 points in the last 2 years. And so this gives us a lot of optionality and especially an advantage as there's been -- as the market turns as there's been a correction. Having that kind of discipline and focusing on operational excellence, I think, is going to pay dividends because now things like M&A become more efficient and affordable. I mean there's all kinds of benefits to it. But we're also reinvesting a lot of that in future growth. And so when you think about what it takes to move to evolve Dropbox beyond syncing files to like organizing all of your cloud content, that's a big technical lift. And there's a lot of fundamental engineering challenges we have to solve. So at this point, we manage the business more -- as more of a portfolio. So we have our core business, which is really at scale. It's very profitable. We have HelloSign and DocSend, which is some of our growth stage businesses. And so they'll be driving an increasing share of growth over time. And then we have our early-stage bets. I talked about Dropbox shop, which is about monetizing content and there are others, replays about video production, captures about video communication in the hybrid environment. So we manage it as a -- so the core business will be like very focused on profit, but then there will be -- the other parts are more focused on growth, but we manage at the corporate level to a balance.

Great. Could you dig into some of those other areas of investment to kind of evolve from file sync and share, maybe touch on automation, security, anything else as far as key investment areas?

Sure. Yes. I mean even in our core business, there's still a lot of headroom and opportunity and you think about the pandemic and how the nature of work has changed, that's had huge implications for things like security, as you mentioned. So like what does it mean to keep your environment safe or your laptop safe, or your data safe, when you're not even going into an office, right? So the shape of that has completely changed. And so we see our customers looking for new solutions for, how do I keep my information safe, how do I know where things are going? Ransomware, phishing, these are all much bigger issues for everyone, but particularly for small businesses and our target customers. So we see a lot of increased demand for security in our core business and then with whole renaissance of machine learning and automation and our focus on workflow, then, folks want all kinds of new ways to organize and tag their content and be able to automate a lot of the manual labor associated with managing large content repositories. So those are just a couple of examples in the core business from what -- from -- and also with our focus on creators, what they need from Dropbox continues to increase. And then in our growth stage portfolio, so HelloSign DocSend, these document workflows, we see an opportunity to make the experience more seamless end-to-end. So when you're saving a contract to sending it out for signature, getting feedback on it -- iterating on it, getting feedback on it, then sending out for signature and then saving it back in Dropbox. Like we have coverage now over that whole life cycle. And so there's a lot more we can do to integrate those products and make it so that -- to better introduce things like HelloSign to our 700 million registered users. So we're in the -- and just building out our multiproduct engine overall. So there's big investments there. And then on the core transformation around organizing all your cloud content. We bought a company called Command E. It's a universal search company last year, and so we're excited to get that rolled out more broadly. And that's great because instead of having 10 different search boxes for all the different sites you use, you have one. And so there's a lot of investments we're making there. And also just thinking about what's -- how does hybrid -- how do you work remotely in a more efficient way? So how do you organize a project, right? How do you organize your content around projects? How do you help creators with all these different creative workflows? So these are all big areas of investment where we'll be sharing more over the coming quarters.

Great. Drew, like all these investments and innovation, thinking more features, more value for customers. So with that in mind, how should we think about pricing and packaging from here?

Yes. Well, so we have a lot more tools in our kit these days. So if you think about all the -- we have a much bigger portfolio of products than we did a few years ago. And so pricing and packaging are an increasingly large lever for us. I mean in the past, we've had a lot of success with -- we -- philosophically, we approach it with first, create more value and then find ways to better monetize it through pricing changes or packaging. And so we've had historical success. I mean, we'll always continue that flywheel of improving the experience and then adjusting our pricing and -- or driving adoption of our higher-tier plans. But what we're seeing -- what we've been doing in the last year or so is creating new bundles. So Dropbox Professional plus HelloSign Bundle, Dropbox Professional plus DocSend bundle, we just rolled out. And this is really important because we have this huge base of free users, and these offer a lot of new ways to better monetize them. So as we have more products in the portfolio, we have more shots on goal to get you to adopt them. And as we -- and then we can take advantage of bundling as we have multiple products and then we're experimenting with new business models. So you think about Dropbox shop, monetizing digital content when you think about the creator economy, when you think about even NFTs, things like that. Our customers are looking for new ways to monetize digital content, that's more of a transaction business model in addition to a subscription. So yes, we're getting a lot more sophisticated about how we drive monetization.

Got it. Is there anything else to add around -- like I think you have 700 million free users. Is there any -- is that kind of the strategy around monetization of those free users or anything to add?

Well, I think, we certainly have -- or I think organized and cloud content is a big opportunity, right? So we've had a ton of success in our core business. We've -- like there's -- we've reached a huge percentage of the planet that need Dropbox. And there are a lot of people that need to sync files, but there's even more people that just need their stuff taken care of. And so we see this as we evolve to handling all of your stuff, not just your files. We think that makes the TAM a lot bigger and then that has virtuous -- there is a virtual cycle there as we have more content in Dropbox and there are more workflows that we handle as HelloSign and DocSend become a much larger -- if there's a much larger -- as there's a much larger portfolio of products then these things all reinforce the flywheel of having more users, more content, delivering more value for customers, monetizing that better. We're improving each of the links in the chain.

Great. I want to ask you a couple on M&A. But first, I guess, if -- well, you've made some acquisitions, could you give an update on how those businesses are doing and how they fit into your strategy?

Yes. I mean HelloSign and DocSend are some of our fastest-growing businesses. They continue to do really well. I mean I think we're still in the relatively early innings of e-signature even after the pandemic and the pull forward there. And then DocSend has been doing phenomenally well. I mean they've been exceeding internal plans, outperforming every quarter since we acquired them. So what we're focused on is really -- so they've been growing well organically, but we think the big opportunity is introducing them better to our base. And so we've done some of the basics there of aligning our brands, making clear that DocSend is a Dropbox product. I mean one of the biggest limiting factors is that our customers don't even realize all -- the breadth of things that we can do for them. And so connecting our customers to products that are relevant to them, we're still in the early innings of that. And then as the market corrects and as you -- a year ago, we would be looking at companies that might be interesting, but might have like $5 million in ARR, but literally $1 billion valuation. So I think if that kind of comes down, then we can allocate more capital towards M&A and it can become a lot more efficient. And I think this is going to be one of those things where our focus on fundamentals and profitability is really going to pay dividends in the future.

Got it. So it sounds like the combination of strong execution with the acquisitions that you've made, plus your free cash flow generation, balance sheet plus pullback in valuations. Is there a shift in the M&A philosophy potential to be more aggressive with M&A?

Yes. I mean absolutely. I mean I think we've always had a philosophy around like let's look at the different workflows around content. We're very interested in adding to the portfolio and finding the next HelloSign and DocSend. But as valuations have come down like we can get a lot better return on our investments there. So I think we'll be shifting more in that direction.

Got it. And could you sort of discuss the other elements of capital allocation besides investment in M&A, focus on returning cash to shareholders? What's your view there?

Yes. I mean we think there's a lot of opportunity in front of us and we're buyers of our stock in a big way. I think that the -- we -- there's a lot of different places that we can invest. And so we invest in organic product development, so a very healthy investment there. We talked about M&A. And then buying back our stock, I mean, we've got -- we generated several hundred million of free cash flow every year, and we think that there's a lot of opportunity in front of us that maybe that isn't reflected in where we are today. And so we're big buyers of our stock and then me personally, I'm a big -- I'm the largest shareholder, I am a believer. So where we put the incremental dollar is going to change based on the environment. And so as the market corrects, we're going to put a lot more towards M&A, but we think there's a lot of great places to put capital.

Great. Let me pause there and see if there's any questions in the audience.

As you guys shift more towards this vision of organizing all the content across sync and share but other cloud repositories or sources of data, does that shift the focus more towards enterprise or more towards consumer or somewhere between that creator economy? Where do you think the target customer is, for that vision?

I think, well, so we -- the bull's-eye is really going to be the creator that I talked about, and not creator, this isn't like an Instagram influencer, but anyone who's day revolves around consuming and creating content, which -- so in a loose definition of that, like we all -- all of our jobs revolve around content in both files and cloud content. So -- but we've been relatively stronger in SMB and mid-market compared to like pure consumer or the high end of the enterprise. That said, we have customers literally of all shapes and sizes. And the part of the power of our model is that it's a self-serve viral model where we can acquire customers of any size really cheaply and efficiently and at scale. So I mean, we all have -- but it's a universal need, right? Every person, every knowledge worker, every company needs to have their information organized or needs access to their information. None of us enjoy all these little paper cuts of like, where is my stuff? Where is that thing I was just looking at it. The information overload that we're experiencing and just the fact that we have like 10 search boxes, 10 inboxes, get another one every year. I think those are universal needs. I mean, depending on the specific use case, it might be skewed to more large organizations or be more consumer, but we have these problems in our personal lives. We have them in our professional lives. I think it will be pretty similar to the way we evolved in the beginning, which is really -- what will be at the heart of it is -- what would primarily drive our growth is a self-serve viral model and playing to our strengths in product-led growth.

In -- you guys have a lot of unpaid customers and a comparatively smaller base of paid customers. In the e-signature, there's a big competitor, DocuSign. Have you ever thought about putting in a big sales force on your HelloSign to get into the corporate base as well?

Well, I think HelloSign really aligns to Dropbox's strength. And I think one thing that we've shown in our core business is that we can profitably acquire huge numbers of business. So we have 600,000 paying business accounts, which is a big number by any stretch, but for businesses, that's way more than you could ever reach with the sales team, for example. So -- and because the growth is viral, we land through people with free accounts and then expand virally from there, our cost to acquire a customer is a lot lower. And you can see our spend on sales and marketing is half of what it might be -- or half compared to like enterprise-only comps. And so now that said, like absolutely, we have a lot of enterprise customers in our core business. They are great candidates. They also buy HelloSign, yet absolutely will have -- we drive HelloSign through a sales team, and we'll absolutely go after incremental revenue, but I think our strength is really the fact that we can go after this. We can go after the SMBs and these larger set of customers that companies like DocuSign can't, if they're just covering them with the sales team.

Great. I wanted to ask one, obviously, there's the war and crisis in Ukraine, and that's on the top of mind of many. With that said, does Dropbox have exposure or any impact from that crisis?

Sure. I mean, I think, we're all -- I mean it's been devastating to watch. And we certainly have -- I mean, our top priority has been taking care of our customers in Ukraine and those affected. And fortunately, we don't have employees or physical operations in any other countries. So it's relatively simpler on that front. But making sure that folks who are affected -- or folks in Ukraine who are affected that they can continue using -- that they've relieved -- that they're not worried about paying for their Dropbox subscription, things like that. So really for customers, we've been focused on things like that. I mean overall exposure is -- or our total business in Russia and Ukraine is single-digit millions in ARR. So it's relatively contained. But we're more broadly, I mean, what we've been focused on is also just like how can we help, right? And so on the humanitarian front, we've been encouraging our employees to give and support the situation, doubling or matching. I've given a bunch of -- or I've made some gifts personally to help the situation there. So we're certainly watching it closely.

Thank you. So you have a virtual first strategy, and it is a competitive market for talent, especially for engineers. So wondering sort of how that evolution in Dropbox's culture has impacted your ability to find and retain talent?

Yes. Well, I mean, before COVID, we were set up like a lot of tech companies is like big reliance on the tech hubs in San Francisco or Seattle or New York. And that's changed a lot. We leaned -- when we went into lockdown, it's pretty clear that there is a big opportunity to think differently about how we organize ourselves. And so obviously, with being remote, you can work from anywhere, and that's unlocked massive new pools of talent for us. So it's been a boon for recruiting. It's like doubled our number of applicants per role. Like we're much more spread out. And we've -- it's going to be interesting to watch all these different hybrid models. I mean, we have a model we call Virtual First, where the primary orientation is you work from home, but then we've changed our offices into convening spaces or collaborative spaces. And so the in-person experience is really important. I don't think there's a substitute for that. So we're not remote only. But our model is pretty different from what I think a lot of what sort of is called the default compromise of hybrid, like come in 2, 3, 4 days a week, which is easy to understand, but the challenge is like you don't -- there's a real risk of getting kind of the worst of both worlds where you neither get the flexibility of the remote experience. And then if you come to the office and it's half empty or whatever, then you lose out on the community and sort of -- or if everybody is in on the same days, but the office is empty 80% of the time, then utilization is -- so there's a bunch of issues like that. But I think we've -- it's been pretty stunning, the degree to which people have like just moved out of commuting distance of where they were before. And when teams are not co-located or people can't actually go in the office together, then what you risk is then people going -- they're commuting in the office, but then one person on the team isn't there because they've moved away. And so you're back on Zoom, right? So you're in the car for a couple of hours to be back on Zoom, but without like your snacks or your dog. So the world is going to run a lot of experiments over the next few months and a few years. But we've benefited a lot from choosing our Virtual First model early. It's resonated with a lot -- it's unpacked a lot of new pools of talent for us.

Perfect. Drew, looks like we're out of time. Really appreciate it.