Five9, Inc. (FIVN) Earnings Call Transcript & Summary

Thanks, everyone, for joining us. My name is Sterling Auty, software technology analyst here at JPMorgan. Very happy to have with us the management team from Five9. We have both Rowan Trollope, who is CEO; and Barry Zwarenstein, who is CFO. Before we get started, two items: First, if you'd like to ask a question during our session, click on the Q&A button either at the bottom of your screen or the top right depending on your device. Enter in your question, and I'll include it as part of our session. And the second item, I'm going to turn the screen over to Barry for safe harbor statement. Barry?

Thank you, Sterling. Before we start, I want to remind you that during our discussion today, we will make forward-looking statements concerning events and trends that may affect our industry or the company and its projections concerning future operations. Of course, actual results may be materially different. I refer you to our most recent 10-Q and 10-K filings with the SEC to look at factors that could cause such results to differ. Thank you.

All right. Great. With that, Rowan, I think we're coming up or we're at kind of the 2-year mark in your tenure. What -- taking a step back, what do you think the biggest changes that you've seen in the business under your tenure has been so far?

Yes. Actually, just crossed 2 years, so thanks for commenting on that. Over the last 2 years, I think we've seen an acceleration of the awareness and acceptance of cloud. We've passed now the evangelization phase, and I think, especially most recently with COVID, what we've seen is that acceleration, that trend to continue even faster. For the last 2 years, Sterling, my focus and priority has been on consistent and disciplined execution. We're in an incredible market, and that market is going to go faster or slower depending on what happens in the world. But it really comes down to Five9's execution. And so it's a pretty boring story over the last 2 years of just keeping on doing all the things that we're known so well for. And it may seem boring on the outside, but it's kind of like looking at a duck with the legs going underneath. Making that smooth, consistent performance takes a lot of work underneath the covers. And that's what Barry and I and the whole team do at Five9.

So for those that are in attendance that are new to the Five9 story, what are the markets that you participate in? And where is Five9 positioned?

Sure. So from a customer perspective, we're a horizontal platform. We serve essentially all industries and all business types. We're a Contact Center as a Service, so just anybody who's new to this story, when you call a business or you message a business or you e-mail a business or you chat with a business, any way that you engage with a company, Five9 is -- can power that engagement. And we're a sort of next-generation web-based platform as opposed to the legacy systems which tended to be hardware-based PBXs. We're a modern web-based contact center and communications platform. Our customers, again, range every business type in every industry. We have -- 80% of our business is selling to the enterprise and 20% is to what we call commercial or small-medium business. And that's where, look, the growth is really in the Enterprise segment of our business. And our primary value proposition is we just make it easier and more flexible, more cost-effective to deploy a contact center for your employees to -- for your business to engage with your customers. That's what we do.

So what are the biggest demand drivers in your business at this point?

Really, the fundamental demand driver is this is not -- contact centers are not really optional for most companies. And they're -- most of them, 85%, 90% of businesses in the world today and millions and millions of agents around the world are sitting on legacy on-premises PBXs. And so as those systems age out and can no longer be upgraded, those customers are saying, "Gosh, isn't there something in the -- hey, I've heard about this cloud thing. Isn't that something that I should be looking at?" And enter Five9 into the picture.

Why haven't we seen more of those on-prem systems move into the cloud before now?

The -- I think in part because where we were seeing initially, the initial wave of SaaS adoption and acceptance came really with Salesforce as sort of the first most notable company that drove the SaaS story. And for that first decade of transformation in business, there was the sort of questions that were -- where the fire of these questions was fueled by the on-premises' incumbents saying, "No, no, no. Cloud is not ready. You can't move your customer data into the cloud. You shouldn't leverage the cloud. It's not reliable." Well, the first decade put all those questions to bed. And as we ended the first wave of those transformations, you saw essentially Salesforce as being the poster child to sort of really accelerate and drive that market. We're now in the second wave of B2B SaaS transformation, which is the real-time technology. So think Zoom, Ring, Five9, meetings, unified communications and now contact center. And what's happened in the last, say, 5 years, maybe 10 years, but mostly 5 years, is that the infrastructure required to deliver those real-time services is now robust enough. It's now widely deployed enough where businesses have the kind of reliable Internet connections that you need in order to deliver these services. So you no longer have to have those systems on-premises. You can now use your Internet connection and consume those services from the cloud. So that's what's driving the second wave of B2B SaaS in this real-time, the real-time technologies. We're a part of that. And so if the -- in the first decade, the questions were about should you put your customer data in the cloud? Is it safe? Is it secure? Those got answered. In the second wave, it was, can our -- can the Internet support this real-time traffic video communications, voice communications? Is it safe to do that? The answer is now unequivocally, yes, evidenced by the fact that we're doing this meeting using Voice over IP in our -- probably, all our home Internet connections. So I think there shouldn't be any more question at this point that the cloud is really the go-to answer for contact centers for the future.

So if that's the case, why don't all companies just flip the switch and move to the cloud over the next 12 months?

Well, contact center systems are complex. They're heavily embedded into the workflow of your business and your business processes. And so they're not the kind of thing that you can sort of switch out overnight. They typically take -- our typical deployment takes 3 to 6 months. We have -- but what we also see is customers don't want to necessarily switch off of their existing on-premises investments when they still have maintenance periods left or where they made upfront capital investments that they're still sweating off their balance sheets onto their P&L. So they're not going to make those moves until they have to often. What tends to accelerate it is when they have a business priority around digital transformation and where the CEO or the Head of Customer Service or one of the business leaders says, we've got to transform our customer service experience. I understand we've got 2 or 3 years left on our contract, but we need to pull that in and move to the cloud. And so that's what accelerates it. But there's a natural upgrade cycle that we largely still follow where businesses say, "well, we still have a few years left. We'll sweat it out. When we have to make a decision, we will."

How long do these on-premise systems last? Or how long are these maintenance contracts typically?

Well, they start with 3 years, but typically 5 and often, the life of these systems is 7 years. So you'll see people will put in a hardware infrastructure with all the necessary communications gear and switches and session border controllers and all that rigmarole. And those systems and architectures we see lasting on average of 5 to 7 years. And so that's why we think about a transition period of around a decade to sort of work through all of those legacy systems as they all transition to the cloud.

So we're living through what appears to be a massive digital transformation catalyst named COVID. What are you seeing in terms of that driving an acceleration of the adoption?

We -- it's early days. Gosh, what are we -- it seems like it's been 8 years, but it's been 8 weeks since all this sort of happened. We've seen customers that were already in our pipeline already considering cloud move faster than they would have otherwise moved. We've deployed customers in as little as 24 -- actually in several hours, in some cases, but even scaled contact centers with thousands of agents. We've been able to stand up in 24 to 48 hours. And so customers are starting to hear that, and they're starting to say, "Wow, like this doesn't have to be a 6-month project. If I need to get my agents working from home really fast, I can move to the cloud. And I can do that." So we've actually seen a bunch of customers do that and accelerate their consideration of cloud. So I think that we're going to see that continue. I think that the -- that we've probably accelerated at least in people's minds this idea that, hey, we could see a different way to work. We could move forward onto more modern platforms. And certainly, you're seeing it because everyone is now working on Zoom or using home-based systems. All of our agents transitioned to work from home. And on the cloud, that was very, very easy. So I'll give you one example of a very large enterprise who has one division using Five9 and another division with thousands of agents not using Five9 on-premises, and they talk to each other about how are you transitioning your agents to work from home? And the cloud team that was on Five9 were like, "well, it was a nonevent. Our agents went home, and they just logged into their web browsers on their home PCs. It was not -- it was a nonevent." Whereas for the group that was on-premises was like, "oh, my gosh. We had planning and deploying VPNs and infrastructure and all kinds of other stuff that was really, really painful." And so I think people are realizing now that if you want to have business continuity, if you want to leverage the ability to have your agents working from home, you really need to be moving to the cloud. It's much easier. It's much simpler. It's much more reliable. And so I think that's going to accelerate the adoption of cloud technologies.

So you partially answered the next question which is for the on-premise customers that could not roll out or chose not to roll out a cloud solution during COVID, how were they able to move their agents to a work-from-home environment?

It's certainly possible. So it's just more complex. So if you didn't already have a network environment that was configured appropriately on-premises to handle agents outside of your network connecting into your back-end infrastructure, then it -- some large customers had that infrastructure already set up. Many didn't. So for those who had it already set up, they were able to send their agents home, albeit with more complexity than cloud. And the complexity comes in the form of, well, the agent has to log in over a VPN. The enterprise has to manage those VPN connections, make sure that they have the right level of service and bandwidth and so on and so forth. The enterprise has to make sure that they've got all the right edge-based servers in their DMZ to accept those inbound requests from agent desktops and so on. In a worst-case scenario on-premises, it's very difficult. If you never built out your infrastructure to accommodate a work-from-home scenario, which many companies didn't, you would have agents using hard phones. And so that becomes an additional challenge to take a hard phone and move it home so that you would have to switch them on to a soft client for your on-premises for your agents. And that's a transformation. So there was a lot more heavy lifting required for customers using on-premises systems. The cloud is really built for this. It's literally, you log into the web browser and you're done, and nothing really for a corporate IT team to do to enable that kind of a setup. So the differences are stark between on-prem and cloud. You can do it on prem. Very hard. A lot of heavy lifting. Hard and expensive to maintain. Easy, fast, reliable on the cloud.

So you mentioned the typical deployment time, 3 to 6 months. But in this environment, you've been able to compress it and do 24 to 48 hours. How are you able to do that?

Yes. Well, it's probably not a fair comparison because a typical 6-month deployment involves transitioning all of the systems that a customer has. So take a typical enterprise with 1,000 contact center agents, for example. You're going to have a very robust IVR with a lot of business rules built into it and many queues from many agents. The deployments that we did in 24, 48 hours were really dramatically simplified versions of that. But the point that I'm making in illustrating that we were able to do it is that the basic act of standing up an agent, connecting a hotline or 1-800 number or a messaging channel or an e-mail in box to a whole bunch of agents working from home, that's actually relatively easy. It's the business process transformation that takes longer, usually. So for the cases where we did 24, 48 hours, those were things like New York City Health Care Relief Hotlines, where you just needed to have agents instantly stood up to be able to handle. Another one was PPP. We stood up thousands of agents for the Payroll Protection Plan hotlines, and those did not require a huge transformation of existing systems. These were brand-new systems that were set up. So that's the difference.

All right. Let's pull Barry into it. So Barry, with some of these systems, they sound to me like temporary systems that are kind of COVID reaction. What's the risk that we see, revenue headwinds as we open the economy and "go back to normal?"

Yes. So Sterling, there is clearly a large portion of the incremental COVID orders that are temporary. But there's equally at the same time -- and we've booked them as 6-month or whatever time frame is applicable in a particular case. But at the same time, there is a lot of incremental COVID business driven in different sectors, not in some of the direct sector that is directly affected by this, hotels, restaurants or whatever. Excluding that in the rest of the business, we're seeing pretty strong orders.

So in terms of the hard-hit industries, when I think about travel, I think about large contact centers. When I think about hospitality, a lot -- been on hold what seems like forever waiting for a customer service agent. How big a portion of your revenue comes from those hard-hit industries? And what have you experienced? And what have you kind of factored into your outlook?

Yes. So let me start by talking about 3 buckets within our business. And when we first take on a company, we make our best efforts to identify them. And obviously, we get pretty close on the enterprise. In terms of the part that is directly hit, it's about 15% of the total, and that's in the travel and consumer discretionary. There's another 50% that is made -- that is in our top 3 industries: financials, health care and business services. Now when you say financials, you see some of the very strong headwinds in the stock market around the financial -- around the banks and so on. But this is more insurance companies or making loans to smaller businesses or helping out with professional finances and so on. And so those are the 3 that drive the 50% that is doing fine overall considering the environment. And then there's -- the final 15% -- or excuse me, there's another 15% that is in food delivery, communications, technology, education and so on. And those are actually doing quite well. And then the balance is just particularly in the middle with nothing strong either way.

So you talked about less than 20% of your revenue is not enterprise. So I think you used the 50-seat delineation. In that segment of the business, what are some of the trends that you're seeing? Again, what have you baked in, in terms of churn assumptions, et cetera, into your outlook? And how has usage changed in that group?

Yes. So 19% of our business is indeed in what we call the commercial sector. And initially, we were extremely concerned about that given the somewhat typically more financially for carrier-specific situation. And we did get a fair number of cancellations or reductions or churn in general. But it's actually, to our surprise, held up pretty well after the initial strong set of churn or reductions. And so it's maybe a reflection of the pretty broad base in the entire economy. And these things range from basically every single part of the U.S. and every single conceivable different type of business. So I can't give you any direct insight as to why that is. We are busy still analyzing it, but it's held up pretty well. I'd also add that we have in this particular area a truly excellent leadership. And it's extremely well managed, and that's certainly a factor in there as well.

That's great to hear. A couple of questions are coming in from the audience. I wanted to kind of transfer over and talk a bit about the competitive landscape. Who do you see as your primary competition in kind of day-to-day in terms of the RFPs? Who do you see most?

Yes. Number one is inContact. And it's really like number 1, 2, 3, 4 are inContact. It's a two-horse race in this industry. We've said previously, it's a duopoly. If there's a third competitor, it's Genesys. But inContact is the real pure-play cloud vendor that we run into the most, NICE inContact.

What about any of the next-generation vendors? There's -- I often get questions over what's Twilio doing in the space? Vonage had made an acquisition of a CCaaS vendor not too long ago as well as even Amazon has a solution. Where would those kind of new entrants play in the market?

Well, they really fit into 2 buckets. The first category is, so to say, let's call them subscale, pure-play CCaaS vendors. And you mentioned one of them, NewVoiceMedia. These are -- they're not in the Gartner Magic Quadrant. Typically, they are subscale, and we don't really see them very much. Again, we are playing largely in the large enterprise and in the enterprise space. And the companies that have really made progress there are inContact, NICE inContact, and we're beginning to see Genesys. The other bucket, as you mentioned, is Amazon and Twilio. And they're really playing in a different market, so we don't see them almost at all. And what the market that they're playing is they're building a software development platform for enterprises to build their own contact centers. And that's a very different market, and it's unproven. They have some -- a few high-profile wins, typically in the tech sector where there are tech heavy companies that have engineering teams that can build their own contact centers using those primitive APIs that they provide. So they are just getting started really, even though I think Amazon has been in the market for a couple, 2, 3 years. We haven't really seen the impact that -- of a Twilio and Amazon in the segment that we play in. And I think probably, as long as they continue to be providing developer-based platforms, which is what Amazon and Twilio are known for, that's going to fundamentally be a different segment of the market and probably much more towards the mega scale contact centers where you'll have the resources and the desire to design and build your own contact center.

So when you look at the competition versus the core, who you see day in, day out, the inContact, maybe the Genesys of the world, what are the advantages or disadvantages? What are the key points that are -- customers are making their decisions on? And why -- so in other words, why do you win when you win? And when you lose, why do you lose?

Yes. Number one is -- and it's in our name, is reliability. Contact center buyers tend to be very conservative and rightly so. They can get fired if the system that they chose doesn't work, if they made the wrong choice. And so they look for that reliable vendor who's going to deliver what they say they're going to deliver. And that's where Five9 is known to shine. Just in last quarter, Q1, we had our highest -- the highest reliability quarter we've ever had as a company. And so it's that kind of reliability that customers look for. Our name is Five9, 99.999% availability. It's all about delivering that reliable cloud experience. So that's number one. Number two is what happens after you make the sale and how do you treat the customer. And here, it's like we're a very classic company in the sense that we focus a lot on customer service of our own customers. We deliver something that we call -- we have a strategy that we call HyperCare, and it's how we treat our customers from the moment you sign up with Five9. The only thing we do is cloud-based call centers, contact centers. The only thing we do is -- so we have a -- and it's all direct with Five9. So there's no intermediaries or third parties. We engage directly with our customers. We have, I think, the best professional services organization in the world. We -- typically, when we sign customers up, we sign up to their objectives. So we'll ask them, when do you need to be live? And then we put our skin in the game and making sure that they actually get live by that date. So we do everything that we can to have that work. Our Net Promoter Score is just as -- are really off the charts when it comes to how we treat our customers and how we engage with them. So the concept of this, like HyperCare, like treating the customer well from customer success to professional services, to technical account managers, it's how we surround the core technology with the people and the process that actually makes a difference for Five9 and our customers. And if you just talk to our partners or our customers, that's what they will typically tell you is the differentiator between Five9 and everyone else.

When you look at a situation like inContact as a competitor, how often are you actually competing against a situation where it's RingCentral, which resells inContact into the market. How often are you competing against that type of situation versus direct with inContact?

Yes. So there are really -- I'm glad you raised that point because it's important to point out there are 2 distinct buying motions in our market. The first buying motion is a customer service transformation, typically. And that is led by the line of business. So you have a head of customer service who says, "We got to do a better job. Our competitors are running circles around us. Customers are upset that they can't get a hold of us. We need to support these new digital channels, et cetera." And that then typically leads down a path of the line of business as the driver and IT following. And that often folds into a broader digital transformation initiative. So that's buying motion number one. Buying motion number two is IT refreshing the communications platform. And one part of that existing communications platform refresh is your contact center that's typically attached to your PBX. And so that's where you'll see the RingCentral's of the world as, hey, our phone system is out of date. We need to get a new phone system. Where should we go? Let's go to the cloud. Let's go to RingCentral. And then the follow-on to that is, oh, what about our contact center? That's going to come with it. And so you'll see Ring and inContact really engaging there. We're -- we primarily sell on the first buying motion, the digital transformation wave and the line of business buyer, which is -- so they're both valid, and we participate in both but primarily on digital transformation. On the UC side, we've started to fire our partnerships, frankly, to go after more of that and participate in more of that refresh cycle. With AT&T, our partnership there, they are a RingCentral reseller or they OEM RingCentral. Now they're going to be OEM-ing Five9. So now it's going to be that offer in the market with AT&T cloud contact center. In addition, you've got our partnership with Zoom, who have launched a phone-based offer. And Eric Yuan and I have struck up a very productive partnership between our 2 companies. So we're helping Zoom to make progress in the phone space. So we're starting to unlock that UC selling or buying motion. And I think that's going to be upside for the company.

So earlier in the conference, we had the CEO of RingCentral discussing that very openly. I'm a little surprised how open he's talking about that they're developing out their full-blown CCaaS capabilities. So that way, they'll end up owning UCaaS video collaboration and CCaaS. Do you think that, that direction where a single entity owning all those capabilities is the ultimate direction that the market needs to go? Or do we still have the predominance that takes more of a best-of-breed approach to it?

Well, I think that regardless of what Ring do, you're going to -- and what -- I didn't see Vlad's presentation, but it certainly makes sense what he is saying in the sense that, hey, there's a UC buying motion. It's people that are upgrading phones, and they need to have contact centers to go with it. And so the second point on that, why contact center would be interesting to them is that the UC part of the sale is mostly commodity. It's low value. Just think about it as a knowledge worker, how important is a desk phone to you? And I mean you've transitioned to work from home, Sterling, as we all have. And I got to be honest, there's no desk phone in sight. So that part of the transition to work from home, and frankly, just the transition to the cloud desk phones and -- individual telephony is not that important. Contact center, on the other hand, is absolutely critical and becoming more critical. So -- and then the third leg of the stool is meetings, which, as we've all seen, critical and becoming more critical. So the -- of the 3 legs of the stool in the collaboration space, UC is a big space, but it's the least strategic for businesses. Meetings and contact center are much more strategic. So if I'm in Vlad's shoes, I totally agree with him. Yes, of course, he wants to make sure he can deliver best-in-class solution across all 3 of those. Now that doesn't change the fact that the digital transformation wave and the buying motion around, hey, let's go transform our customer service experience, that's going to continue. And really, in that world, it's not important. In fact, it's a -- our customers tell us that they're not interested at all in integration with their back-end UC system in most cases. Because that's a different part of the business, and they don't want to be slowed down by an IT upgrade -- infrastructure upgrade. They just want to move to the cloud so they get a stand-alone contact center solution that meets their needs. So I think both of these are going to continue. I think that for those customers who ultimately do go to a Zoom or a Ring, they're going to be looking for AT&T as a -- for example, they're going to be looking for a solution that works really well together regardless of who it comes from. And so we do, do integrations with Ring. We've got our deep integrations with Zoom. At the end of the day, I believe the longer-term outcome here is customers want the best offer in each of these spaces, not necessarily the offer that's all built by one vendor as long as those come together and could be integrated tightly together.

A follow-up question from the audience on integration is how often are -- how many of your -- whether it's new customers or existing customers are coming to you looking for those exposed APIs to be able to provide integration into existing internal or external systems.

It's a big trend. And as I mentioned before, a 6-month deployment, you're -- our platform out of the box is never going to solve every business process that every customer has since we serve essentially every industry and all kinds of businesses. So we've got a surface area of about 450 APIs that are there today. And customers almost always are using those APIs in -- to greater or lesser degree to create a really embedded experience for customers. We also just announced in Q4 and we have completed the acquisition now of Whendu, which is a no-code integration platform. So what we had been seeing with our customers was, hey, it's great that you've got 450 APIs. I don't have any developers. What I really want is to be able to put my business analysts onto this so that they can configure your system in these custom and unique ways. That's what Whendu is all about. It's now being embedded into the core of Five9. It's a no-code, drag-and-drop integration platform that's dedicated to the contact center, and it's something that we uniquely have in this category at this point. No -- none of our other competitors, inContact and Genesys, none of them have anything like this. So we're starting to see that get traction with our customers. And it's actually exceeding our plans that we had laid out at the time of the acquisition. So exciting times.

What are the benefits of improving gross margins? Years ago, you installed or innovated your own least-cost routing capabilities. Where is kind of traffic patterns today? So do you have a couple of primary carriers that you rely on? Or how much of this is Voice over IP? So in other words, also, what's left in terms of the benefit?

Yes. It's a big part of the benefit of what we deliver to our customers is we make all of that transparent. We have 18 carriers, and we've got relationships all over the world in many, many countries. So we make this process very easy for customers. And I think that's a big part of the value proposition here is you don't have to go and establish a relationship with a service provider and deal with one company to do your telephony and then a different company to do your software. We put all of that together and make it super seamless for our customers. So it's a huge part of our value prop. And nobody -- I mean, it will be very hard for any company in the world to replicate the kind of scale we have on the telco side. We've got over 5 billion minutes a year running through our platform. So the ability to have 18 different telcos and to shift traffic between them is a real big differentiator for our customers.

Excellent. With that, Rowan, Barry, thank you so much for joining us. We really appreciate it. Stay safe, stay healthy, and thanks again, guys.

Thank you very much.