Okta, Inc. (OKTA) Earnings Call Transcript & Summary

Hello, everyone. And thank you for joining us for our first ever virtual growth stock conference. My name is Jonathan Ho, and I'm the research analyst here at William Blair & Company that covers Okta. I'm required to inform you that a complete list of research disclosures for potential conflicts of interest is available at our website at www.williamblair.com. With us today is Bill Losch, the CFO of Okta. And with that, Bill, thank you so much for joining us today. I do want to see if you could give us a quick overview of Okta, just given that some of us may be a little bit less familiar with the story, and we just love to have the opportunity to maybe level set the audience.

Yes. Thanks. Thanks, Jonathan. Appreciate the time. Appreciate you all tuning in, so to speak, to listen to me today. So yes, to give kind of an overview of Okta, I think one of the things to kind of step back and think about is the fact that what identity and the role that identity plays in today's world compared to kind of the old world of -- where most on-prem -- most software was on-prem, most of it was controlled by the firewall, most of it were accessed by devices that were controlled by the company. That's the old world. And what Okta did when we started 11 years ago, was really start to build identity for the cloud, with the understanding and the belief by both Todd and Freddy, our co-founders that the world was moving to the cloud. They both come from Salesforce and they saw what they believed was the fundamental value and significantly more value of having a separate and independent identity platform for companies that were wanting to connect to the cloud. And so that was really how it was germinated, how it started, certainly originally, through fairly basic single sign-on. But this notion of the platform was something that they had thought about from the beginning. And the reason that's so important in where we are today is when companies are looking to move to the cloud, fundamentally, what they're trying to do is access what they believe are the best-of-breed in applications of technology. So it's this kind of shift from I am comfortable being a vendor-centric technology stack, meaning I'm an SAP shop, or I'm an Oracle shop, or I'm a Microsoft shop, to I want to be able to access best-of-breed applications, whatever they may be or best-of-breed technologies. And the most efficient way to do that, because you need to have the identity capabilities to be able to connect to those technologies, connect to those technologies outside of the firewall, connect to those technologies in a way that's scalable, in a way that's done very securely, is -- the best way to do that is to actually be connected to a separate and distinct identity platform, which is what Okta is. And so what we've been able to do over the last several years is really take that platform, continue to enhance the functionality of the platform but more importantly, be able to integrate with now over 6,500 applications and technologies, and that depth and breadth of those connections and those integrations is really what provides a tremendous amount of value to our customers from the standpoint that they have access to best-of-breed technologies. They can make changes as to what they want to connect to for different use cases. And then as we've built out more in their products and functionality beyond single sign-on, such as policy management through our life cycle management processes, multifactor authentication, so enhanced security, and things that we've done like that in addition to some newer products, which we can talk about, is really -- just enhance the features and functionality and the capabilities. But fundamentally, it's the connection to that separate platform that companies want, because they can get all the benefits of one integrated platform, all the data that runs through our platform and that data allows us to build better products for them, and to be able to do it in a scalable way. And in a world where, from a security standpoint, you're no longer protected, let's say, as much as you used to be from the firewalls or the perimeter of the firewalls, because you're allowing your users to go and use technologies outside of your firewall, use devices that they own and not controlled by the company, it's essential that -- or basically authenticating who the person is that's trying to access something and make sure that they can have that access is essential in this world. So identity has become more of that perimeter of security. The other thing that's evolved over the last few years is initially, you can look at our first 1,000 customers, they were all customers that we -- were buying us to use for their employees, so what we call workforce identity. What's evolved from that is we're still growing that business significantly. But we also have now customer identity, which is our customers using Okta for their identity service for applications or portals that they're building for their connections with their customers. And as the world moves more and more digital, that's becoming more and more important and a bigger part of our business. So the -- and what's great for companies to the extent that they want to use both workforce and customer -- or use us for both workforce and customer identity, is we're one platform. So it's all off of one platform, all the features and functionality from this one platform can service those 2 very big markets. And that provides a lot of value to our customers in being able to do that.

Great. Thank you for that overview. One of the things that I wanted to maybe start out with, and this is kind of an unavoidable topic at this conference is how to think about COVID-19. Can you maybe give us a sense of what your customers are seeing and some of the behavioral shifts that are out there, and specific to maybe deal closure rates and delays and that sort of thing?

Yes, sure, sure. So when we -- our first quarter ended April. And so in our quarter that we just completed, we certainly saw the impacts of COVID kind of halfway through the quarter, beginning in the halfway of the quarter, specifically in April. And what we saw were both puts and takes. And what I mean by that is we saw situations where given the companies -- when they're moving to the cloud or using Okta to move to the cloud, fundamentally, what they're doing is allowing their customer -- their employees to connect to technologies, connect to applications and do it from wherever they are, from whatever device. Well the reality is what was happening with COVID is suddenly, many companies, all companies had to have all their workforce work remotely. So the need for that, need to be able to do those type of connections to provide their company or their employees that capability, in some cases, became so enhanced that it actually pulled forward some business for us or pulled even some folks that were never even in the pipeline forward to us, because they were trying to triage situations where they needed to suddenly deal with how do I keep all my workforce being as productive as possible when they all have to work remotely. So we saw some -- especially on the workforce side, we saw some benefits from that. Now conversely, what we also saw was some headwinds from the standpoint that those companies that specific -- primarily those companies that are in more of those impacted industries, because of what's happening in the economic environment, we did see deals getting pushed out a bit. We did see closure rates not as quick as we'd historically seen. So in the first quarter, we really saw some puts and takes there. I think as we look forward through the rest of the year, and we talked about this on our earnings call back on May 28, our anticipation is because there does seem to be, I think, a prevailing view that the economy is going to be in a challenging world, there's going to be a lot of weakness in the macroeconomic environment for the next few quarters that we're probably going to see some of those same dynamics and potentially more headwinds just because of the economic situation with our customers. And those headwinds being more pushing deals out or closing not as quickly. The reality is we're still seeing very strong pipeline. So it shows us that there's still a lot of strong interest in Okta. It's just the dynamics of the macro may make it a little choppy in the next few quarters.

That makes a ton of sense. Only about 12% of your business is exposed to impacted industries, but you also have a pretty significant SMB customer base as well. Can you talk a little bit about how that segment of the market's been responding? And are you seeing any sort of reductions in seeds or churn come out of that SMB part?

Yes. Yes. I mean, we do have a meaningful percentage of business in SMB. Now having said that, the large majority of our business is enterprise. But to your specific question on SMB, interestingly, when we saw the results of the first quarter, the results of the first quarter were such that from a gross retention standpoint, we were pretty consistent in Q1 for SMB with prior quarters. So we didn't see that impact yet in the first quarter. On enterprise, we actually saw an uptick positively in gross retention. Now having said that, we do think that especially with those companies that are in the more vulnerable industries, especially with small and medium-sized business, we probably -- we think there's risk that we will see companies as they come up for renewal in the next few quarters, potentially downsizing on seats, potentially downsizing overall dollars just because of the environment that they're dealing with. The good thing about our contract structure is because we have long-term contracts, meaning our average contract length is 2 to 3 years. And contractually, customers can't adjust to downward seats during the contract. That does protect us a little bit. So -- because they're longer-term contracts. But obviously, when they come up for renewal, there is that risk, and we do think that risk could happen as we play out the rest of the year.

Well that makes a ton of sense, and that's super helpful. When we think about cost containment initiatives that you've taken, like how do you sort of balance the need between your continuing to hire on the sales side and potentially impacting future growth, if you're not able to hire at similar rates?

Yes. I mean, we had taken the approach, and we took it fairly quickly, that we wanted to adjust accordingly to be cognizant of what was happening in the macro environment. So we did moderate the growth of our headcount, as you said -- our headcount growth, as you said. But we continued to make sure we're focused on some key areas and continuing to hire in some key areas, such as go-to-market and such as innovation. And on the go-to-market side, we are tilting a little more from a growth standpoint and hiring toward those customer-facing heads that are more on the customer success side, more in the customer satisfaction side because we think it's really important both for this process and then going forward -- or this environment and then going forward, that our primary focus, which has always been on customer satisfaction and success continues and that we're helping customers through this situation with, obviously, the belief that, that's going to continue to make them want and work with Okta going forward. I think that as we think about it from a capacity standpoint, the reality is that when we build our sales plans for the year, historically, again, because I was saying earlier, we're predominantly enterprise and large enterprise. We do tend to hire kind of earlier, so to speak, so folks can get up and ramped. So we feel very good about where we sit as far as being able to -- we have sufficient resources for our goals as far as sales goals and things like that. But we're also cognizant of wanting to make sure that we're continuing to build in the right places to make sure we have that capacity going forward.

Absolutely. Absolutely. I mean, if we maybe take a step back, when we think about this COVID environment, what are maybe some of the broader implications exiting COVID that maybe persist, particularly around digital transformation and consumer engagement? And can you talk about maybe how Okta can conserve those markets with some of the products that you offer today?

Yes. I mean, I think for us, what we're seeing is when I talk about how we see a very strong pipe -- we still continue to see a strong pipeline. We saw actually an uptick in our pipeline at the top end of the funnel, post Oktane because we were able to reach 3x as many folks as we typically would reach in a live event, because we did it virtually. That pipeline indicates to us that there is a tremendous amount of interest in Okta, and it's, we think, also an indication. The reason is because companies, now having, to some extent, been forced into allowing their employees to work remotely, for one. Also, more companies are seeing that more consumers are accessing things digitally online, because they have to. We think those things are really going to accelerate some of the trends that have historically benefited us as a company and have really driven the growth that we've seen. And those tailwinds are companies, we think, if anything, are going to accelerate their movement to the cloud. And if anything, accelerate how they improve their interaction with their customers online. And the other thing is, as they're doing that, they obviously want things to be secure. And as more of them realize that in order to do that, you have to really operate in what is called the Zero Trust framework of security, that's going to enhance what we do also or going to enhance the demand for what we do also. So we think a lot of the things we've historically been doing and planning to do and the product innovation we've been doing and continue to do is all the right things and all -- kind of has always fit into this overall belief that those tailwinds would continue and continue to strengthen. And if anything, we think coming out of this, they may accelerate, which is beneficial -- we think will be beneficial for our long-term prospects.

Got it. Got it. I mean, when I think specifically about digital transformation projects, and I wanted to dig into that theme a little bit more. Just given that, based on the work from home dynamic, it seems like there's a lot of emergency buying or pull forward demand to maybe get capacity. But what does the time frame look like for these digital transformation projects that maybe require a little bit more thought and investment?

Yes. I mean, I think you've also got puts and takes there. So certainly, there are companies in situations right now where they're triaging, so to speak, especially in the vulnerable industries. And the pull forwards that we have seen, as we talked about, were more triage related pull forwards of “I've got to get my employees somehow to be somewhat productive or as productive as they were before COVID, and they're all working remotely. So come on, Okta, please help me with that." Now having said that, the other trend we're seeing is -- from a digital transformation standpoint is that more things are happening online. I mean, e-commerce has increased significantly during the COVID period because folks can't physically or haven't been able to, until fairly recently, physically been able to go into shops and stuff like that. And so we think that, although those projects may, from a budgetary standpoint, not have the highest priority for companies, the reality is that they realize that if they don't start to move faster online, their competitors will, and that will put them not only in a disadvantage in the short term, but in the long-term also. So we actually think that we may see, even during this period, over the next few quarters, of a lot of instability, so to speak, or uncertainty that we may actually see some deals from a digital transformation side pulled forward for those reasons.

Makes a ton of sense. I mean, I think every industry and every business is now maybe permanently changed from this COVID impact. And one thing that you guys talked about was the ability to now implement a flex work program. And I just wanted to get a little bit more detail about what that entails? And maybe what some of the margin implications are that come from being able to go with the full flex work type of program?

Sure, sure. So we had actually implemented a, what we call dynamic work, is the phrase we use for it. We had actually started to implement that type of -- that strategy, almost over a year ago at this point. And really, what it was, was a fundamental recognition that if we wanted to be competitive or frankly, be very competitive when it came to attracting talent and retaining talent, that one of the things that made sense to us was put ourselves in a position where employees and potential employees could see that they can work flexibly. And what we mean by that is they could work remotely or they could come into the office or they could not have to do one or the other all the time, they could do both in a given week. Because we thought that it was a great way to reach out to where the talent is, so to speak, instead of hiring talent just around San Francisco or Chicago or the major cities. And so as a result of that, there was a lot of stuff that we've already put in place to be able to do that from a technology standpoint, certainly using Okta, but other technologies to be able to have people work remotely. Putting a lot of programs as far as how to onboard, how to think about, how you scale that way. So we were really -- I wouldn't -- we certainly didn't anticipate we'd have to have all of our employees working remotely at any one time, but we were a lot well prepared for that. So when we think about how we thought about that from a budget going forward standpoint, when we think about the longer-term model that we've talked about, we talked about it last Investor Day, where in the growth and profitability estimates that we gave for that -- or not estimates, those goals or outlook for it, we factored a lot of that in. I think that the one thing that's still somewhat variable in our thinking, and I think this is true for everyone, is there is always going to be an element of live, meaning it's an enterprise sale. So there's a lot you can do virtually. But at some point, it's ideal to have those live meetings. So that requires some travel. We have to think about -- we went completely virtual with Oktane. Is that the right way to go? Or should we start to balance going forward with live and virtual aspects of Oktane? So the balance between all virtual and live is still something we're trying to sort through. So it's -- I think that there will be a -- the balance there. So it doesn't mean like we're not going to travel anymore, we're not going to have live events anymore. I think there'll be some balance when things come back into view.

Makes a ton of sense. One of the themes that's been showing a lot more -- showing up a lot more is Okta becoming a standard for the customers. And I just want to understand maybe how that unfolds in sort of real-world deals, do they sort of come in and buy everything that they need in the initial purchase or more and more so upfront? Or is there sort of a gradual retirement of other vendors and you're able to replace piece by piece?

Yes. I mean, it does vary depending on the customer. But I would say that specifically in the areas of large enterprise, and those customers have very, in some cases, very complex, but generally more complex environments, meaning even though they want to move to the cloud, they have a lot of on-prem. They're going to be operating in a hybrid world for a long time. Our motion has historically and still is, that we go in and we don't go in with the immediate attention -- or intention of telling the customer you should rip and replace all your on-prem stuff or your on-prem identity service. Because basically, what we want to do is first, get them up and running and successful with what they're trying to do on the cloud side. But because we've done more and more over the last few years in enhancing our ability to obviously continue to move in the cloud, which is the biggest strategy, but -- or the main direction we want to help them go, but also making sure we can address as many use cases as possible in their hybrid environment. So we've done things like partnerships. We did -- we announced last year, we rolled out a product called Okta Access Gateway that helps us -- helps them connect from a single sign-on standpoint back to on prem, through Okta. Those things that allow them, we think, to more and more over time, migrate more of that workload, so to speak, on us versus those on-prem legacy providers. But it's not the initial intention to rip and replace them, but we do think that over time and have seen this in certain customers, once they've been with us for a while, they do either downsize their spend on those on prem -- on those legacy on-prem providers or they actually do end up ripping and replacing them.

Got it. Got it. And then maybe taking a look at net retention rates, those have definitely been impressive, trending upwards. I guess, it's a little bit counterintuitive that over time, you would see retention go up. So can you maybe talk about or rank order some of the bigger drivers that are just sitting behind the net retention and driving the strength there?

Yes, sure, sure. So I mean, we've always believed and have demonstrated that when we get into a customer, get them successful with an initial deployment of whatever products or a number of seats they're using, that we have big expansion opportunities because more products, we're continuing to innovate in our features and functionality, which allows us to provide more premium versions of our products. There's potential for more seats. And frankly, there's a big cross-sell potential between maybe they're a workforce customer and then they become a customer -- identity customer or vice versa. So those are big opportunities. I think what we saw in the last quarter, where we saw the uptick by a couple of points in net retention rate specifically, was probably a little bit attributable to the fact that kind of getting things through the sales cycle were maybe a little easier on the upsell side than the net new logo side, even though we had a significant amount of net new logos last quarter, because of the COVID, because of just the process of getting it through companies that were challenged, because they were dealing with having to work remotely and things like that. But the other thing that's been strong for us through the end of the first quarter is the gross retention rate. That stayed very strong and actually upticked a little for enterprise. So we think that, that base of gross retention has always been a big strength for us. Now as I've said before, we will see fluctuations within a range on net retention rate because the headwinds that can come to net retention are in some ways, positive because it could be with large enterprise, because we still are going after a lot of opportunity to land more and more large enterprise new customers is because they tend to have a little bit larger of an initial deal size. That puts some pressure, so to speak, from a headwind standpoint on the base you're having to expand off of. But we also think as we look at those large enterprise customers in the long run, that's the right thing to do because the expansion opportunities for those customers are even greater.

Got it. Got it. And I did want to make sure that we covered sort of the platform strategy for Okta. So one quick question there, like does it make sense for -- and are you seeing customers show an increasing interest to buy more solutions from a single provider? Or are you still seeing kind of this desire for best-of-breed and point solutions that they have to integrate?

Yes. I mean, I think that we still see primarily that customers, more and more, want best-of-breed applications, both best-of-breed applications and also to be able to connect to the public cloud that they want to connect to, whether it's Google or Azure or AWS. And having that flexibility is really important to them. And I think what they see with us is because we're an identity platform that can connect all of those different technologies and connect to all those different public clouds. We can be that central hub that they can use to get all the value out of all those connections from the fact that all that data and information runs through us to allow us to build better products for them. But also, it gives them the flexibility to make changes if they decide, best-of-breed for them, it may be different depending on their circumstances or their use cases. So it's -- best-of-breed is what they want, but having like one kind of control pane -- or control plane like is really what Okta is for them, is essential and because we're a separate and distinct identity platform, that's where they see the real value from us, in being able to pull all of that together.

Absolutely, absolutely. Just one last question on my side. One of the most often questions that I get is how Okta's solution is different from Microsoft's, and historically, you guys have talked about being able to do deeper integrations. Is there maybe an easy to understand or a simple example of how -- maybe you have a workflow or integration that's different than maybe what one of the larger cloud providers can offer?

Yes. I think there are a number of examples. And I think, like you said, generally, the differentiator is that because we're independent and because we can do deeper integrations to any best-of-breed application or cloud, that differentiates us from Microsoft, who will connect to other applications that are non-Microsoft, but they're not going to put as much effort in making that a deep integration, especially in situations where it might be competitive to them, like if it's the G-Suite for Google or AWS cloud or something like that. Specifically, one good example is there was a recent announcement we made at Oktane about what we call Workflows, which is really taking what has historically been our life cycle management of doing deep policy management and operation in those policies for provisioning, deprovisioning employees and expanding that to where now it's automated for a lot of the things IT historically has had to do. Meaning, if you get provisioned now through Workflows, you can set up where it can like automate, that you automatically have a Slack channel or you automatically are part of a group e-mail or you're automatically able to access a group folders and Box and things like that. And to be able to do that, not only on the cloud, but to do that across on-prem because we integrate on an on-prem with the legacy providers on-prem. That's not something Microsoft can do. And so when they do, I think, what's called their Power Automate for Microsoft, it's limited compared to the breadth of what we can do for Workflows. And so that's just an example of because of the deeper integrations we have with so many different technologies, including on-prem, we can do it in a much more efficient, comprehensive way, faster way and it takes a lot of the burden off the IT organization. So that would be one example I would give.

Thank you, Bill. Unfortunately, we've come to the end of our allotted time. So I just want to thank you for spending the time to come to our conference and to give this great presentation and overview of the business. Hope the audience enjoys the rest of our conference and we'll catch up again soon. Take care.

Thanks, Jonathan. I appreciate it. Thank you, everybody.

Bye-bye.