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

All right. Good morning, everybody. Thank you for attending today's day 2 of the Barclays TMT Global Tech Conference. My name is Pete Newton. I'm subbing in for Ryan MacWilliams today as he and his wife, [ Gracie ], welcome their first baby. So if you see him, say congrats, wish them good luck and hope he's getting a little bit of sleep. With that, we have Five9 here today and their management team of CEO, Mike Burkland; CFO, Barry Zwarenstein; and President, Dan Burkland. Thanks for being here today, guys. Thank you, and before we kick off, I think, Barry had the safe harbor statement.

Thanks, Pete. So before we start, remind you that we'll make forward-looking statements today during the discussions about future events, trends, expectations, projections and beliefs that may affect the industry and the company's product developments, AI and automation and potential growth drivers. Such statements are predictions, cannot be unduly relied upon by investors, actual events and results may differ materially from what Five9 undertakes -- and Five9 undertakes no obligation to update the information. And finally, please refer to our filings with the Securities and Exchange Commission for further details.

All right. So I think just to first start off, Mike, just to address the elephant in the room. I think we all saw the news headlines and the Five9 press release a few days ago. But I'd love to hear your thoughts regarding the recent market speculation of M&A rumors.

Yes. Let me just say this, Pete, we have a general policy at Five9 not to comment on rumors and speculation. And in that press release, we felt it was necessary to clarify 2 things. One, we were approached and 2, that we're not pursuing a transaction. And that's it.

Okay. Cut and dry, I like it. I do have to ask how do you think about generative AI capabilities and how that could make contact center deployments more key strategic part of enterprises moving forward?

Dan, you want to take that?

Yes. If you look at generative AI, it's all the talk, right? And we, as a company have launched 8 different AI modules as part of our solutions. And this is introducing and embedding AI into the entire customer experience, that whole journey. So when you're reaching out as a consumer to a brand, we can apply AI at the front end to help with intelligent routing, with caller ID, with authentication, a lot of things that agents spend time doing. We can help during the interaction with a human agent in assisting the agent, listening to the call, transcribing it, applying NLU, fetching information specific to that given client, feed it back. The generative AI models and what it allows us to do is really hit the ground running and be able to bring those applications to market much quicker and with much higher success rate because we're leveraging the latest and greatest engines. We oftentimes get the questions and then we can do a lot of post-call follow-up, too. We get a lot of questions about, well, who's going to win that race, which AI LLMs and engines are you going to leverage in the future? We don't know. And the beauty is we have -- we're engine agnostic as we like to refer to it. So we can embed the latest and greatest, and many of them have areas where they have much better effectiveness and they lead in a particular use case. So we oftentimes will have multiple engines contributing to a single interaction. The other thing is, as enterprises evolve, they will start to adopt standards and they'll start to say, well, our preferred AI engine or our preferred NLU model or LLM, is X. And therefore, we want to be able to work with that client and not say, "Oh, well, that's not the one we work with, therefore, we're out." So most of them will have a standard and then they'll have backups for specific purposes. So this gives us the ability to be very flexible and work with customers and in the future, work with whatever engines do ultimately end up being the strongest and best of breed.

That's very helpful color. I think just diving a little deeper on AI there. We really enjoyed the AI event we did with you all in June. So thank you for that. What's customer feedback been to Five9's AI products? And is there a certain feature or functionality they're looking for right now?

Yes, I'll start, Dan, feel free to chime in. But Pete, we talked about it on our last earnings call. I mean the reaction has been excellent. We're finally moving away from kind of this hype cycle, if you will, into really implementing AI solutions for our customers. We talked on our last earnings call about 250 active AI deployments in motion right now in our installed base, in our customer base. And that's -- I think that's a really good metric to kind of indicate and to help people understand that this is real. Customers are adopting it, they're deploying it. Yes, it's early days, but again, the value add from this generative AI technology is significant. And as you all have heard us say, we're in the business of providing a platform for interaction management, customer interaction management, whether that's with a human agent in a blended sense or in a fully automated sense. And again, most of our customers, almost all of them see a continuum, if you will, in terms of AI technology helping across the customer journey, whether or not it's assisting the agent or actually being fully contained in an IVA, for example.

Okay. Dan, anything you want to add?

Yes, just to comment, and we've said it before, the traction we're getting, we mentioned our $1 million-plus ARR customers we're getting an attach rate of about 80%, meaning they're putting in 1 or more of those 8 modules. And the beauty here is they're starting small because they're not sure the effectiveness or how much impact it's going to have on the business. So they put it in, they're embracing it, and then it's a question of how it expands and grows as a greater percentage of their business, which will then result in having it become more of a meaningful part of our revenue and return. So we always look at it as -- and it's been the cycle of "Oh my gosh, is this going to be a positive or a negative to Five9 as automation takes place." For us, it's a big positive. It increases our TAM tremendously. It actually, the more automation we bring into the fold, the more revenue from that customer it is to Five9. So as Mike mentioned, we have software that we've had for years that helps the agent do their job effectively. And as we put more and more automation into that mix, again, to help the agent or to even augment or take place of that agent for a self-service app, the more automation we can deliver to that customer and help them run their business with the more revenue it generates for us. So we're a big beneficiary. We hope the automation attach rate continues to be high and that the adoption rate continues to increase.

Do your valuations for deals that include AI take longer? Is there a latency there? Or is it kind of a traditional deal you just tack onto it?

There's a slight nuance there. When we're introducing and the customer is actually going to implement the AI, often, it's brand new for them, right? If we're just replacing like-for-like, move to the cloud, we can get through the security gauntlet, if you will, and through IT and get all the approvals necessary. When you are dealing with AI and you're taking customers' data and oftentimes bouncing it off of third-party solutions and their engines, there's concern about making sure that, that entity is protecting the confidentiality of that data. And so there's usually additional conversations that we have with legal and IT and security and compliance. But -- so there's a few extra meetings in there. It's not a huge meaningful increase to a sales cycle, but it can be longer than what it used to be.

I think it's a natural human tendency to be a little scared of big machines. It makes sense. Now on monetizing these AI features, how should we think about Five9's ability to do so? And then vary from your perspective, just looking at numbers thought, I know you provided a preliminary guide for next year. What's the AI implication there?

Yes. So as Dan mentioned, we have 8 products in our AI and automation portfolio today and growing. We're in the lab with multiple new products on top of that. We monetize each of these solutions somewhat differently, we've talked about for an IVA, it's double the ARPU, if you will, of a human agent. And a lot of the other solutions are priced on a either a per user basis, sometimes not, though. Sometimes things like AI Insights, this is really helping managers of contact centers and supervisors and those responsible operationally for the contact center have insight into all kinds of useful information such as clustering types of interactions and actually helping them understand what types of interactions are candidates for automation as an example. So again, those are priced differently than obviously an IVA would be priced. But we're monetizing all the solutions. And as Dan said, the more automation, the more use of AI that is infused into the contact center, the ARPU goes up for us. So we're in a really good position relative to that.

Okay. Very helpful.

With respect to 2024, we've given our preliminary outlook of 16% year-over-year growth. To those of you who know Five9, that's a familiar number. We've used it virtually every single year, excepting for one, a special case. And in order to understand that and to talk about the other part of your question, which is the AI implications of that, you need to do what you traditionally do when you understand Five9 revenue, you've got to break it into 2 component parts, the net new and the installed base. In terms of the net new, the business is very strong. There's both a push and a pull. The push is the fact that the on-premise vendors have stopped developing. Now Genesys is part of that equation as well. It was -- they were the last one that we're developing of anything of consequence on-prem. And now we have a situation where enterprises are saying we've got this mission-critical system. And something's got to be happening because it's going to be -- it's becoming obsolete. And then the pull is the AI and automation side of it, which you can do much more clearly in the cloud. So that -- park that in terms of the net new side of it. On the installed base side, that has been subdued growth because of the fact that we have our third biggest vertical, which is our consumer vertical and also our most seasonally volatile has been somewhat weaker and we can go into that separately. The way to think about the 16% in terms of numbers, is to think about the following. We, through the second quarter of 2022, would say, every single quarter, you should expect the dollar-based retention rate to decline somewhat. And that was driven by the fact of what we just talked about, the consumer. Differently and significantly in Q3, we said differently. We said, the dollar-based retention rate of 110% will either stay flat or go down very slightly. And secondly, will that reach a positive inflection in 2024. So why am I telling you all of this? We gave guidance of $909 million for 2023. Just for ease of arithmetic and also communication, just as assume it's 110% dollar-based retention rate. That gives you $91 million towards $145 million needed to reach the 16% sliding point for 2024. And the balance of $54 million, we've got the majority -- yes, the majority of that in terms of the backlog, which we have high visibility and then also the new orders that Dan and the team are accustomed to bringing in to get us that full $54 million. So that's how we look at it.

That's a very helpful breakdown the $145 million and $91 million remainder for the quarter. That makes sense. You have to ask. So thinking about how these larger deals layer in, I mean, you recently -- Five9 has called out some pretty impressive wins, so very nicely done on that side. How should we think about that dynamic as a part of the net retention? Or is that a separate new deals or the new to contribute to the $54 million?

There are new deals. That's part of it. But that's as far as the breakout of what I just gave you. But they do -- once they've been in the base for a year, then they contribute to the dollar-based retention rate. And in fact, are somewhat helpful, both in the third and fourth quarter with the health care company. Yes, I'll leave it at that.

Okay. And then how should we think about the ramp process? I know you kind of give a general update of on track, but maybe just remind investors when you expect?

So looking at the ramp for the large -- and I want to make a distinction here, the deals that we've talked about these large ones, the health care conglomerate and the parcel delivery service, we consider those the whales or the mega deals as we speak about them. They're largely right on track. The FedEx had actually launched all the Americas during 2021. They contracted with us in March of 2021 and said can you get us up and running fully greater than 10,000 seats for the holiday season, and we did. It was in our interest to do so as well and they were thrilled and that was their peak season, their peak year. If you look at their traffic and the number of airplanes they flew and the number of parcels they delivered, it was an all-time record. It went down in '22 from '21. So that one, right on track. We've rolled out Europe and Asia as a result following the Americas. And then the health care conglomerate went from a standstill of 0 to our second largest revenue-producing customer at the end of Q3, and they'll continue to ramp throughout Q4 and then throughout 2024 as well. So that -- thing I want to caution is it's easy to get excited and go look at the shiny object of those 2 big mega deals. A, there's fewer of them, far fewer of them. For every -- we talk about those as folding into the revenue equation. But more importantly, we'll call them dolphins, those $1 million to $5 million ARR customers. For every one of those big mega deals, there's about 10 dolphins. And the beauty of the dolphins is very predictable. Their ramp schedules typically, they start to ramp in average about 4 months to go live there for seats and then they ramp up another 4 to 6 months after that. So they -- we have much more predictability into the base, and they impact revenue much quicker after the bookings. So we look at our quarterly bookings, and those are the -- that's kind of the bread and butter of the business and the key area that we're seeing the most expansion and the most revenue contribution.

That's very helpful color, Dan.

And if I could just jump in for one second to build on what Dan just said, just to put a cherry on the top to make it really quantifiable. In Q3 2023, the year-upon-year revenue growth from the bread and butter, the dolphin as not to mix metaphors over there towards the contribution from the parcel -- from FedEx and from a health care company.

I do want to ask Mike, from your perspective, it's really neat to see Five9 branch upmarket and win these whales. What has been customer feedback on the deciding determining factor to go with Five9 in those larger deals?

Yes. We talk often about kind of why we win. There's so many -- there's really multiple reasons. But at the highest level, it's the platform we're delivering the end-to-end platform including scalability, reliability, security, feature functionality, AI and automation. We're leading the way in AI and automation. But it's also our people. A lot of these large enterprises are navigating what we consider and they consider open heart surgery. Contact center is the front door to these large brands. It is mission-critical, obviously. They're coming off of these legacy on-prem solutions that they've been on for years and years and migrating to the cloud. You have to have the right team of people, not just the right platform. This is Software-as-a-Service and the as-a-Service part is our implementation, our professional services team as well as our partners that are now doing implementations. That's so critical. And we win a lot of our business not just because of our platform, but also because of the people that we bring to the table, whether it's our PS team or the partners that we're bringing to the table. And at the highest level, that is kind of why we win so much. Our win rates are north of 75% against our key cloud competitors. It's still, at the large enterprise part of this market, a 3-horse race for the most part. There are some -- there's some noise around the edges, so to speak, from a lot of potential entrants into this market. But I can tell you right now the barriers to entry to get into contact center in the cloud are significant. We've seen this movie so many times, year in and year out over the last 16 years I've been here. We've had multiple and you know the companies that have tried to bust into this space with lots of resources and they just can't. It's very difficult to do what we do. There are significant barriers. So relative to that, again, it's a 3-horse race. We're winning more than our fair share. And again, it comes down to platform and people.

This very resonates well. I mean we run these channel checks each quarter. And one of the main things that stands out, people say, there's a lot of contact center companies that say they support you, but Five9 is really one that puts the white gloves on and make it happen. So it's...

Yes. And there's been recent surveys that you've probably seen out there of the channel in terms of who the best CCaaS providers are, and we're #1 in so many of the categories and there's a reason for that.

Good to hear. And so I think, Barry, kind of FY '24 guide looks business as usual. I'd say the 4Q guide may have come slightly below investor expectations. And I'd love to give you a chance to kind of highlight the dynamics of what you're seeing and what went into that guidance.

Yes. Thanks, Pete. And frankly, with respect to the new logo side of the business, strong and getting stronger in Q4, the -- it's the installed base that gave us pause. The way we track this is we have our numbers internally and we can see it pretty clearly unfolding throughout the quarter. And for communications, though, with the Street, so you have an objective, quantifiable, explicit, independent metric. We share with you the JPMorgan Chase debit and credit card spending on discretionary items. And the numbers in the quarters went 5, 3, 1. These are nominal year-over-year growth rates. Nominal, I stress that because by September, we were actually talking about negative transactions, real volume, which matters to us as the Five9 -- as a software, as a contact center vendor because you need to have the transactions that mirror the agents that mirror the seats that we license. So we looked at this data and there's an active debate and everybody's got their opinion that's just how fine or troubled the consumer is. But we would disturb by these numbers. We're also noting the fact that credit card delinquencies were at a 20-year high, automobile loan delinquencies were at a 20-year high. There was a surveys showing that people were spending less and we decided that this was not an environment to get cocky and start saying we're going to just go through that. So we brought it down. And frankly, we're feeling pretty comfortable with the fact that we did do that. The numbers that we're seeing, for example, from the Bureau of Labor statistics, and I'll end with this, the Bureau of Labor statistics saying that the hiring in October for the November-December season this year, was below what it was even versus prior year October 2022, which is not that strong at all. So that's why we did what we did.

And just to add to that, the reason this data is so important is that consumer behavior of them purchasing from the companies, the brands that we serve. So we're serving is directly correlated -- the traffic going into their contact centers is directly correlated and proportionate to the amount of units, if you will, that they sell to those consumers. So there's a percentage of every consumer purchase that results in a call going back into the contact center. I got the wrong size. You shipped it to the wrong place. Where is it? How do I return it? Who pays for shipping? All the -- how do I put this in, how do I install it? Whatever the questions are, it's directly correlated. The more they sell, the more volume they're going to get into their contact centers. So when we look at the consumer discretionary data points, it's very easy for us to predict our customer volume is going to go up or down this month based on that. And so that's why this is an important metric.

Okay. So credit card data is a pretty directionally accurate proxy.

Oh, absolutely. It's almost eerie to see how month-by-month it mirrors it.

Okay. That's helpful. So I think, Dan, then another point, you talked about the dolphin deals. How has inbounds been on like opportunities you're seeing at-bats for Dolphin deals? And then also, if you could just touch on the inbound call volumes, were you seeing any trends there?

Yes. The top of the funnel is very healthy, as Barry alluded to earlier, we get our leads from a variety of sources. Our brand and our reputation is having moved up market and moved globally is better than it's ever been. We also have an increase in the channel and the ecosystem. So when we talk about partners, it spans not just our routes to market, and we work with referral partners, bars, the big global SIs that all are building business practices around AI and automation and contact center and customer experience. And then we've got a whole variety of different consultants that also refer business our way. So we have a much broader reach and we get much more access to more and more deals. That's feeding the top of the funnel. And as Barry mentioned earlier also, when you look at the legacy on-prem vendors, they're pushing folks off of the platform, saying it's either end of life or end of support or end of development, which is causing them to have to start a process to move on. However, some of them, even 2, 3 years ago, when we had all the criteria that Mike described earlier, they said, "Well, that's great. So you're going to move me to the cloud like-for-like? Do I really want to go through this massive disruption in my enterprise for a couple of years in order to make that transition?" And sometimes it was like, "No, we'll wait another year and we've got this asset here that was a CapEx, it's depreciated and off our books and pennies on the dollar. We'll get another year or 2 out of it." Now the pull factor that Barry alluded to is the AI and automation, they're realizing, "A-ha. It's not like-for-like. We now have a platform that can give us great ROI with these new applications." The only way to get them is to get to the cloud. And so that's -- so we got push and a pull factor. And so we're seeing funnel, net new business is healthy, very healthy. And we're only seeing that headwind affect really that installed base call volume, if you will.

That's very helpful color. So I think, Mike, to kind of put a bow on AI. The AI is very -- you probably talked about it a lot recently. I think from what concern investors had 6 months ago is, obviously, AI could potentially take contact center agents. What was your comment, like your reaction and thoughts would be like to that 6 months later?

Yes. I mean where the rubber hits the road is with our customers. We have so many large enterprise customers, I talk to them all the time. We talk to them all the time and they have no plans to reduce their agent force. That is a theoretical argument. Now again, are they going to automate a small percentage of interactions? Yes, over time. It's going to take a long time for that to happen. None of them are anticipating dramatic decreases in their agent count, most are forecasting flat to slightly down in the very long term as that automation kicks in. And again, as Dan said, we benefit from that automation from an ARPU increase per transaction, per interaction per brand. So it really, we're -- I wouldn't say we're completely indifferent. We're actually hoping for more automation because we do get a higher ARPU. But at the same time, it's an irrelevant issue, I guess, from our perspective as our business is concerned.

And if I could just jump in, in a lighter vein. The narrative flipped starting at 2:00 p.m. June the third, Pacific Data Savings side. When we were fortunate enough to have -- Hi Ryan. Ryan come out and help us make a really excellent seminar, which that really marked the turning point in our estimation.

Well, I'm very happy we can do that. And I think the customer panel on that was very helpful, too, for investors to hear from firsthand. So Mike, we've talked about growth perspectives for Five9. We talked about AI, but what is your attitude and mindset towards balancing growth and profitability in kind of a tougher macro environment?

Yes, we've always been pretty disciplined as a company, right? We've been balanced growth as we call it, top line growth, consistent durable top line growth but also bottom line profitability. And having been here 16 years now, we've always kind of had that philosophy, even as a private company, but since we've been public in 2014, that's always been our approach. Don't misunderstand this, though, we're making investments. We're investing because this TAM, this market opportunity has never been better. And I talked about it on the earnings call, this -- we're at an inflection point in contact center, CX cloud adoption. And it's being driven by a lot of the things Dan already said, but we've never been in a market this good for large enterprises to move to the cloud for their CX and contact center and that market is massive and it's underpenetrated. We're talking like 10% cloud today, 90% still on-premise. This is a multiyear opportunity, and we're going to continue to invest in it. So this is not about maximizing profitability. It's about balanced growth and investing strategically in this great market opportunity.

I think that's a good segue into just Mike and Dan, what opportunities are you seeing presently off of those traditionally on-prem vendors? And what are customers saying -- besides AI, like what is accelerating? Is there anything else accelerating that cloud ship?

Yes. Just naturally, the systems become more easily administered and more easily changed and tailored. And the reason that's important is, as the business evolves and as the activity changes that comes into their contact centers, it's much easier for companies now to turn the dials and make it and tailor it to the end customers' requirements so they can truly deliver a personalized service. So when you think about how do you do that, and what do you leverage in order to twist those? It's the data. We now have more data at our disposal. Not only do we have the large language models or AI stuff that can interpret and understand what's being asked, but then the key is, what do you go fetch and give back to either the agent to deliver the ultimate answer to the customer or to self-serve and deliver it in text-to-speech to the customer. The key is having access to all the customer data. And that's where we find it much easier now to integrate with the tools that we have. And these are tools you don't really talk about every day in and day out, but there are tools that allow us to then integrate, in some cases, to dozens of back-end systems. Because when a customer gets either on the phone with an agent or gets into the IVA and they ask a completely open-ended question, we want to make sure that we can go find the answer very quickly and easily and get it back to them with a resolution. That happens much quicker. And that's something that in the legacy systems, you just didn't have access to. The human agents would have to go hunt through the billing system or the ERP system or the inventory system to find out where something is or how to answer the customer's inquiry. And now we have data lakes of data coming from all different sources into one repository. So we can apply our technology to go into that repository and find the answer much quicker.

Totally makes sense. I remember seeing the charts of the June event, in your slide deck, and it's the back-end integrations required for one phone call blew my mind. I know we're almost at time, but Mike, I want to give you the floor. Heading into round 2, year 2 of CEO, what's got you excited about 2024 and what's on the horizon for Five9?

Yes. As I said earlier, we believe that this market is inflecting. It's never been a better time for us in the market that we're in. And so we're really enthusiastic about that. I would just say this. I mean, Barry talked about it. There are 2 real growth vectors for our business financially. It's net new logos being added and it's expansion from our installed base. Macro hasn't impacted the expansion of our installed base. The net new business has never been healthier. It's going to continue to be healthy, in my opinion, for many, many years. If this macro turns, when it turns, look out.

Okay. Well, Mike, Barry and Dan, thanks for joining us today. All investors, thanks for coming. Enjoy the rest of the day, too.

Thanks, everyone. Thanks, Pete.