RingCentral, Inc. (RNG) Earnings Call Transcript & Summary

All right, everyone, good morning. We're going to get started. My name is Brian Peterson. I'm the application software analyst here at Raymond James. Very happy to have the team from RingCentral here. We're going to have a fireside chat. We'll make this interactive. So if you guys want to raise your hand, ask any questions, we'll keep this pretty informal. But maybe let's get started.

Certainly, it's great to have you guys here. But you joined the company this year, maybe start out with your perspective and what you've learned about RingCentral so far this year? Any insights that you'd share for investors that you would think would be interesting.

Sure, absolutely. And firstly, thank you for having us. We love coming to New York at Christmas time, so it's the perfect time of the year to be here. And yes, I did get some shopping in. So you're right, I'm coming up on 6 months at RingCentral, and it has been an incredible journey just even in 6 months in terms of just ramping up and really seeing the value creation opportunity that exists there. And I think the first time we met, you asked me, why did you join? And a big part of the reason I joined is RingCentral is in a very unique subset of the SaaS market, where you have this leading product, Gartner Magic Quadrant, top right, again, just came out. But also this incredible visionary founder and operating at scale. So we are a $2 billion ARR business and profitable and becoming more profitable by the day. And I just saw this opportunity to join the company that is leading in every respect with an incredible team, a new team in many ways. So you've met Mo, our President and COO; and Vaibhav, our Deputy CFO. And there's this real belief that now that we have hit $2 billion of revenue and really started to scale, there's a huge amount of profitability and free cash flow that we can drive at this stage of the business. So I'd say that has been a very, very big focus for me. And then the other thing that's really hit me is just the quality of our product and how innovation runs in our DNA. And Vlad, our founder, he is a product guy. He spends a lot of his time on product. And one of the things that I love and even if you look at sort of some of the efficiency measures we're driving right now, one of the things that we were very careful not to touch was really R&D and innovation because that is so intrinsic to who we are, and it's why we have the industry-leading gross margins we have today and fiercely protect. So that's what I'd say initial observation, Brian.

So -- all right. So it was going to impact the product stuff a little bit later. But maybe talk about that now. You mentioned that the Gartner Magic Quadrant. What do you see as kind of the biggest product differentiators versus some of your competitors?

Yes. So a couple of things I would point to. And Vlad always talks about trust, innovation, partnership. And I think the trust element is a very big one. So we have the Five 9s reliability, and that's been for several years now. No one else comes close to that. And when I speak to our customers, that's one of the first things that they bring up. And a lot of our customers are B2B, B2C. And you never want to be in a situation with a customer where you draw up a call or drop a line because that's a lost business. So really, that trust is -- and reliability is incredibly important. And again, it's partly why we are so fiercely focused on maintaining that quality of our product. The other thing I would say is geographic reach. We're in 100 countries today. Our partnerships help with that. And if we have a customer that is starting off just in North America, but wants to branch out, wants to be in Europe and other places, we're one of the only UCaaS companies that can really serve very, very broadly. And again, that's partly thanks to our partnerships. And then I would say our features and functionality, and that goes back to quality as well, and we're adding features all the time. So most recently, it's AI and analytics. But our customers are constantly asking us to innovate in that way. And then lastly, the integrations and our integrations with our partners but also with the application ecosystem. So with the likes of Salesforce and HubSpot and Microsoft Teams, I think there is no one on the UCaaS side that compares to RingCentral in that way.

Yes. No, I just want to -- I just think that you guys integrating it in business processes is kind of overlooked, I think, and sometimes when investors kind of want to look at this. But I did want to make sure we got the macro question, and I think that's very topical for investors listening in...

Really, macro is topical?

Yes. One of my -- maybe, I don't know. But I'd love to know kind of what you've seen over the course of the year, maybe pockets of strength, pockets of weakness and how that's really kind of reflected? And maybe what you guys are trying to do in terms of growth and margins in that kind of current macro environment?

Sure. So macro, we talked to in our Q3 call, which was on November 9. And at the time, and I was quite deliberate in my remarks, when we guided at that time, we said that we were guiding based on what we were seeing in the market at that time. And what I would say today sitting here is we have not seen any significant or meaningful change to when we guided. So we still feel very, very comfortable with those numbers. That being said, in Q3, we did see a slight deterioration on Q2. I think part of the -- what was happening there was in Q2, it was the start. It was only 1 month of the quarter where we were really beginning to see a slight change in the way, particularly our larger upmarket enterprise customers were behaving. And those trends, which we called out a little bit in Q2 and then much more so in Q3 were things like longer sales cycles. It increased layers of approvals, and that's something that we're even implementing at RingCentral. And you'd be surprised how many approvals I'm getting now. So Vaibhav and I are having just spent a lot more time approving things at the moment, but that does change people's behavior because people are a little bit less likely to ask for things. So that -- we saw that trend, the layers of approvals. On the other hand, or on the other side of that, we still see extremely strong end-user demand. And pipeline, leads, win rates, all strong and stable. And so I very much feel like this macro, and I've been through a few cycles in my career. It is a temporary thing. And what I would say is that we're ensuring that we continue to invest through this cycle. And we're lucky at RingCentral that some of the efficiency measures we're taking are allowing us to invest in areas and to go after where we see the greatest opportunity.

Sorry, I was going to say maybe to impact that. I know that was a key narrative on the third quarter call as well, just some of the efficiency where were some of those implemented? And how do we think about maybe the balance between margin expansion and growth going forward?

Yes. Yes. Great question. And I've said my top priority as the CFO in RingCentral is to drive efficient growth. And that was -- I said that on my first conference call, that was before kind of macro was really part of the -- or the soup du jour, which it clearly is today. So a couple of things that I would say there. One is as a natural evolution of a company -- of a SaaS company that's at $2 billion revenue run rate, we are operating at scale. So there are inherent benefits to being at that scale. You don't need 25% bigger HR department or 25% bigger finance department or there are all sorts of scale benefits that as we continue to grow, and we have continued to grow at a very, very healthy clip, we don't -- the incremental dollar of growth doesn't come at the same. It comes at a much better overall margin. The second point on efficiency is, look, I think if you consider where the entire world was a year ago and where people saw likely growth would be, and this is not RingCentral specific, but like across the board, we had probably hired for a profile that has ended up being slightly different than all of us anticipated. And as a result of that, there was probably a little bit of that, and there was. And it's never an easy decision. And believe me, it was very, very difficult and particularly for our founder, Vlad. It's the first time RingCentral has ever really had to do an exercise like this, but we did make the extremely difficult decision to cut 10% of our full-time workforce. We announced that with our last quarter. But we were very thoughtful and really surgical about where we made those cuts. And it wasn't a peanut butter approach. And all of us on the leadership team felt very strongly about that. And I led in my opening remarks just now saying that one of the things I love about RingCentral and what differentiates us is our product and our ability to innovate. And it is why we have the gross margins we have today, which are well above 82%. So what we did is there were certain areas that we were insisted on preserving, and R&D and innovation was one of those. And then most of the savings or efficiencies came from the sales and marketing side. But we were very careful not to touch the frontline sales motion. So anything that was customer-facing. Instead, we touched a lot of this around where there was some duplication. And on the marketing side, we've decided to build ourselves or organize ourselves around the center of excellence. Whereas before, we had some silos where you had a different person doing the same job, but in a slightly different go-to-market motion. Now we're building around the center of excellence. Procurement's another huge area that we've double-clicked on and we are consolidating vendors and just finding savings. We're being maniacal, leaving no stone unturned. And as a result, we were able to increase our OP margin guidance again and also guide to at least a 350-basis point improvement in operating margin for next year, for 2023 on 2022.

That was going to be my next question actually. Just remind us on that but...

No. And we feel very, very confident about that.

No, that's great. So another debate I have often with investors is around pricing. And it's kind of interesting that you guys have given the disclosure on ARPU now and the debates still kind of persist. So what would you say to investors that have these pricing concerns? And you give the metrics, but the debate still seems to be out there.

Yes. And I can take that. And thanks, Brian, for hosting us. Good to see so many people in person after a long time. So yes, the pricing question has come up over the last kind of several quarters, and I think we've been very deliberate in providing additional color, commentary disclosures in our scripts, in our investor decks around pricing. So the trends that we are seeing on pricing is that overall pricing is holding fairly steady for us at or above $30 at the blended level, and that's how we look at it from a company perspective. Look, we are a multiproduct company now, so the blended ARPU is a metric we look at, and it's holding fairly steady. Now when you peel the onion, there's a couple of parts there. When you look at the segmentation from a customer standpoint, clearly, SMBs has a higher pricing compared to enterprises because there's always the volume playoff, the more you buy, the better pricing you get. So pricing in SMB is better than in the upmarket segment. So that's one dynamic. The second dynamic is as we become multiproduct, we are seeing a pull-through from CCaaS on UCaaS, and that helps with pricing as well. And somebody was asking us the question yesterday of what happens when you peel the CCaaS part. So even when we peel the CCaaS part out, our pricing has held fairly steady, and it's nowhere in the single digits as some people have kind of said or written about before.

I mean what do you think about the competition narrative there? I mean, obviously, you guys are leading with product functionality that's evident in the pricing. I mean has anything changed from a competitive perspective in terms of people that you may bump into -- in the market?

Yes. I mean, look, competition has evolved. I mean, competition was always there, is there and will continue to exist, right? We were never in a market where we were the only player. So I think there's a few points. Point number one is it's a large market. Multiple players will coexist. And I think multiple players are winning seats. We announced a key milestone of 5 million seats in Q2, making us the largest UCaaS pure-play provider. So that's data point number one. And it's been validated by players like synergy and a recent survey said that in terms of market share based on seats, we are doubled than our nearest competitor, the second and the third competitor. So that's a validation. So look, it's a large market, multiple players will win, but we are holding our own in terms of growth rates in the seats that we are adding. And the reason why we win is some of the factors that Sonalee outlined, which is leading with a best-in-class cloud voice product. We also integrated -- we have an integrated MVP solution, which is our USP. And when you add a contact center solution on top of it, it becomes a really, really powerful solution. And that, coupled with the geographic reach, Five 9s reliability, security and privacy features is helping us win in the marketplace.

And you mentioned the 5 million seats. The cloud opportunity is still really significant, right? I think people kind of miss that sometimes in terms of that potential upgrade cycle. What are some of the catalysts or things that you're trying to do to really drive that cloud migration for a lot of these on-premise customers.

Yes. So I think the 3 points there. One is, again, it comes back to this large opportunity wherein there are millions of on-prem seats that are looking for a path to the cloud. Our fundamental belief is that those seats will move to the cloud. It's a matter of when and not if. So that's part number one. Part number two is we save customers' money, and we are part of the business transformation journey, particularly in this environment that customers are going through. So as an example, in our recent earnings release, we provided an example of a Fortune 500 company, wherein we came in and replaced the disparate solutions that they had. So they had an on-prem solution. They had a cloud solution for messaging and video. And what happens in that process is customers are paying for an IT department. They're paying for people. They are paying for multiple carriers. And they're frankly paying for an interest -- for a lot of infrastructure costs and paying multiple vendors. So by replacing them -- by replacing the legacy solution with RingCentral's cloud solution allows them to, a, replace the outdated hardware in the equipment, come on the cloud infrastructure with the latest and the greatest technology and in the process that our TCO savings of at least 30% to 40%. So that's, I think, point number two is just we are saving customers' money. And number three is it comes back to having an integrated message video phone coupled with the CCaaS solution that, again, is helping kind of customers consolidate on a solution as opposed to having multiple solutions.

So it's sort of interesting, I guess, in a current kind of choppier macro. And I get the approvals taking a little bit longer, but if you're improving a business process, TCO savings, in some ways, does the choppier macro maybe help? Is it a catalyst? Or I don't know, I guess, you can take those sides of that argument. I'm curious to get your thoughts on that.

Yes. So we definitely see it that way. And we are even thinking about our future advertising campaigns and things like that. I think the value proposition about we save you money is an important one. And I can say that just as the CFO sitting here today. When I look at the procurement exercise that we're doing right now, we are looking for any and every opportunity to be more efficient about what we do. So yes, we do think that, that will ultimately be a driver. However, I think in the current environment, as I said, we are still seeing some of that -- we're still seeing those trends that we outlined to you in Q3, those longer sales cycles and lower initial deployments. What we're not seeing is any slowdown in terms of leads and interest in our product. So it's really about getting through this current period when I guess there's a little bit of a -- we're deep in our annual planning process right now, which is why we haven't guided on revenue yet. We typically don't at this point in the cycle or at this point of our planning. But I think as companies like us go through their planning cycle, they will prioritize areas that will allow them to save money.

So maybe just pivoting a little bit on the partner channel. I mean that's been a big part of the growth story and the go-to-market efforts. I love to get an update on some of the key partnerships as you've trended through this year. Where do a lot of those stand?

Sure. So a couple of quarters ago, we gave a disclosure around the number of seats we have with partners, which were 500,000. Obviously, that number is higher today. We haven't given a specific update. But if you think about the major partnerships we've announced, so Avaya and Mitel. Avaya is clearly the lion's share of those 500,000 seats because they are, by far, our most strategic partner. We announced that partnership in 2019. Mitel is coming along well. Both Avaya and Mitel saw higher seat growth in Q3 than Q2 and higher seat growth in Q2 than Q1. So commercially, and I'll talk to Avaya separately. I think you might have a separate question on that. But commercially, what we're seeing is actually an improvement on the prior quarter. On Mitel specifically, Mitel contributed to several of our greater than $1 million TCV deals last quarter. So that relationship is going very well. On the GSP side, we were very excited to announce Charter just after our earnings. So that's one that we think big things can come from. And then Vodafone is another one. And a lot of our international expansion, which we see as a big opportunity. International today is only 10% of our revenues. We think Vodafone can be a big driver there. However, when we launched Vodafone, some -- there were some regulatory changes in Europe around GDPR, and that took time for us to invest and get the product to where it needs to be in order for that partnership to really start ramping. So what I would say is that the partnerships and our go-to-market strategy is one of the things that makes us unique and allows us to really exploit and capture the full opportunity we see ahead of us.

And I'd love to -- and I'll do have a follow-up on Avaya. But I'd love to understand as you think about the evolution of that channel, how big of a catalyst is that to expand internationally, right? If that's earlier days in terms of the cloud penetration, like how vital is that partnership channel in terms of scaling those efforts internationally?

Yes. So I think extremely important is what I would say. And we're always adding partnerships like the Charter one is a fairly new one. But when you think about where we are today, 90% of our business really is, well, North America and Canada, 10% international. And if you think about some of our partnerships like Vodafone and Deutsche Telekom, they have massive footprints in Europe where we have literally just scratched the surface. Our largest presence in Europe right now is the U.K., but it still has a huge amount of runway. And if you look at some of the third-party data around UCaaS and the UCaaS market, international is a very, very big growth opportunity. And one, again, what I said earlier about when you're driving efficiency, it also allows you to think about where it frees up investment dollars and it allows you to think about where you want to invest in the future. And international will be an area for us and...

Frees up investment...

And we see tremendous opportunity.

Right. So on Avaya, there's been a lot of news out there. I'd love to get your thoughts on the specific with that partnership and maybe how that's trended. I know you mentioned the commercial side, but just there's some concern about their financial viability. And how would that impact RingCentral and various scenarios?

Yes, sure. Of course, that's a natural question. And we're following the Avaya situation the same way that you are mostly through the press and media and then some analyst research. Of course, we hope that they remain a going concern. We're rooting for them definitely. But whatever happens in terms of the Avaya capital structure and ownership situation, Avaya's customers will still exist, and they will still need a place to go and we at RingCentral are the logical destination for those customers. And as you correctly pointed out, on a commercial -- from a commercial point of view, we saw a significant amount of seats transfer. I don't think we disclosed the exact number, but it was a higher number than Q2. And their going concern warning came out after our Q2 print. So even post that morning, the seats continue to transfer. And we are set up in a way, and we have the integrations. We are the only UCaaS provider with the endpoint integrations with Avaya. So anybody -- if anybody else wanted to get into that opportunity, it would take them investment and time. So we, again, feel really well positioned whatever happens with Avaya. And of course, we would prefer for them to stay a going concern as an independent company.

No, that makes sense. So one of the things you guys mentioned was just on the CCaaS and the adoption there. I think that's been kind of a strong point this year. Maybe highlight, has the demand for the integrated UCaaS versus CCaaS changed at all? And I know your partnership has gone very, very well. Is there any thoughts to owning your seats, that's a debate with investors, do you need to own that? Or the partnership is great. How do you think about that longer-term CCaaS for now?

Yes. So CCaaS has been a key growth driver for us, growing at a fairly healthy pace. And it stems from the fact that, there were some surveys and studies done, which showed that for CIOs and buyers, they like to consolidate the UCaaS and the CCaaS buying with a singular vendor, and I think there was a number of around 60%. So I think we are seeing that pattern kind of flow through in the UCaaS and the CCaaS space as well, wherein one data point we see is in our larger deals, the million-dollar TCV deals that we've had, that is about a 50% to 60% attach rate for contact center. So there is a pull-through from contact center when we go in with a UCaaS solution. So I think we are definitely seeing that trend. Point number two is, look, today, we have a partnership with NICE. We entered the partnership a long time ago. I think we've had very deep integrations over a period of time. So that from a customer standpoint, we are providing a seamless solution. So the partnerships working really, really well. And point number three is, yes, I mean there's always a build versus a buy kind of a decision that you go through when you don't own a piece of the technology. But so far, the integrations are going well. And as a management team, we'll continue to evaluate our options going forward.

I'll open it up to the audience if there's any questions.

Merger opportunities, acquisition opportunities in the U.S.?

Yes. So a couple of points I'd say there. Capital allocation is something that we think about constantly as a management team. And I think about it in 3 buckets. One is the organic investments that we make in R&D, which I think I led with saying that, that's extremely important. And I actually personally sitting here, when you asked me what excites you about RingCentral? Or why did you join RingCentral? Like I see a huge value creation opportunity, and that's organically. There is a tremendous runway ahead of us. So there's the R&D and organic investments. Then there's -- we have a current authorization of $100 million for share buybacks, of which we used to have about $50 million at the time we reported our Q3, we continue to see significant value in our own shares. And then thirdly, there is M&A and the inorganic potential paths. And what I would say is that we would always be open to anything that creates a significant value for our shareholders, but we weigh it against the other uses of our cash. And no one's asked this question, but I'm going to go ahead and bring it up. But we also have this convertible. It's not due for a very, very long time, March 2025. It's only becomes current in March 2024. But that is another area that we weigh up in terms of uses of cash and capital. And what I would say there is if you think about the guidance that we've given and that I reiterated today and about what -- how much our financial profile will change? And the financial strength of RingCentral, if you go out a year or two, we feel very, very confident and comfortable about having flexibility around addressing our convert. And I specifically put that into the prepared remarks of our Q3 conference call because we very much feel like we're on the front foot, and we're building a financial plan and financial guardrails to ensure that capital allocation is an area where we'll have a lot of flexibility to be able to reward our shareholders.

I think we have one more.

You preemptively answered my question on convertible.

All right. I think we'll stop it there. Thank you guys.

Thank you.

Thank you. Thanks for having us.