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

Thanks, everybody, for joining. Good morning. I'm Will Power. I cover cloud software for Baird. It's my pleasure to introduce our next company, RingCentral. I'm sure many of you know, a leader in cloud phone, and has been embarking on a mission to continue to expand the platform capabilities. And I'm sure we're going to hear a lot more about that today. So I'm pleased to have Sonalee Parekh, who is the Chief Financial Officer. And we have Will Wong, who heads up Investor Relations. So again, thanks so much for being here. I guess maybe Sonalee just to help kind of level set. I know we have some generalists in the group, too. Maybe just a little bit of background on RingCentral and kind of your core target market. And we'll kind of jump into a fireside chat format.

Great. So firstly, Will, thank you so much for having us. Super happy to be here in 1 of my favorite cities. So RingCentral, who are we? As you say, we are a cloud communications company. And we are today about $2.5 billion of ARR, actually a little bit less than that, but close to $2.5 billion ARR. We are a leader in cloud phone, but we actually have a full collaboration suite. So message, video and phone. And as you correctly pointed out, we are now a multiproduct company. We also have a contact center as a service business as well as an AI platform called RingSense, which I hope you'll ask me about. And we are also an events platform. And you may ask me about an acquisition we made in events at the end of last year, but we are the #1 market share in terms of revenue market share for cloud telephony and excited to be here.

Awesome. Okay. That's great. So I guess you've been here about 2 years now.

My anniversary, yes. Literally.

So yes, I guess it'd be great if you could just talk about how the company has evolved over the last 2 years since you've been here, there have been a lot of changes operationally, financially. And then as you look over the next couple of years, kind of what are your key priorities for the company?

Yes, sure. So why don't I start off with sort of where we are today and then kind of look at where we've come from. So as I said, close $2.5 billion ARR. I think 1 of the things that I'm most proud of is that we've been able to maintain that double-digit ARR growth, whilst also becoming significantly more profitable and more free cash flow generative. So when I joined 2 years ago, our operating margins were 10.4% non-GAAP. This quarter, Q2 of '24, I'm guiding to 20.7% operating margin. So that's -- for those of you who are good at math, more than a 10% or 1,000 basis point improvement in operating margin. But we didn't stop at operating margin. On free cash flow, we also have come from generating 2 years ago, less than $100 million of free cash flow per year. This year, I have guided to $440 million to $445 million of unlevered adjusted free cash flow. So significant improvement there. But we've also become a multiproduct company. So I think whilst investing for growth and investing in innovation, we've been able to add significant products into our suite, which are actually big growth drivers for us as we look forward. And I'll talk more about the products. But then on the capital structure side, I think it's worth calling out as well that at the end of Q1, we were at 2.5x leverage coming from above 4x 2 years ago. And if you look at where I've guided this year and the trajectory, we will end this year at less at around 2x and change, net debt to EBITDA. And our convertible maturities, which 2 years ago, we're at about $1.65 billion, $1 billion in '25 and $650 million in '26. We've taken very big chunks out of those maturities. And we now have $161 million left on the '25 and loss of cash flow to be able to address those. But I think more importantly for me, the financial profile of the company today is 1 that can easily absorb and handle that quantum of debt as we look at various uses of our cash. And in terms of priorities going forward. So I think, one, continuing to drive efficient growth. So we're not done. We won't stop at 21% operating which is where we've guided this year. But secondly, it's really important that we continue to invest in product and technology. That is paramount to who we are. It runs through our company's DNA. And hopefully, you're seeing these prolific product announcements. We had 3 last year. So RingCX, which is our contact center solution, infused with AI. We also have RingSense and RingSense for Sales, which is our first AI product. And then finally, RingCentral Events, which was on the back of the Hopin acquisition. So for me, it's really important that balance both driving more profitability through the inherent operating leverage in the business, but also importantly driving growth.

Okay. That's a great rundown. Now I'm going to come back to some of the different products. Let me maybe higher level, it would be great to get your perspective on what you're the broader macro environment, particularly in light of some mixed signals from other software companies. Even just the last couple of weeks, as you look across your enterprise focus, but also you have SMB exposure as well. So it'd be great to kind of hear what you're going to see in real time in the marketplace with sales cycles, customers' willingness to spend, et cetera.

Absolutely. So you're right, we have a large enterprise business. So we have over $1 billion of ARR from enterprise today. And we were very pleased, and you heard me talk about this last quarter to see stability in that business. So that business has posted a 13% plus ARR growth for 4 consecutive quarters. So pleased -- really pleased to see that stability. On the SMB side, we did see some impact and continue to see some impact from the macro. But I think we fared better than many of our peers, certainly than our peers and many enterprise software companies. So we saw a slight detail there, but nothing like what you in the broader software space. And I think there, our SMB customers, and that's a very large business for us, and it's also our roots were in SMB. I think their customers are feeling the pinch and delaying some body decisions as a result of inflation staying stubbornly high. Rates not coming down as quickly as people might have expected. But we are mission-critical to our customers, particularly on that SMB side. And I think where we that mission-critical nature of our products, we do continue to win. And I think importantly for me, whilst we have seen some macro trends stabilize, the demand trends and end-user demand has continued to stay very strong in both SMB and in enterprise. And I see that through top of funnel. So I obviously look at our pipe. What we saw during this macro, which I feel like we're lapping 2 years of when we started seeing this. Somebody told me that it's called the COVID hangover. So the COVID hangover started about 2 years ago. And what we saw was the elongated sales cycles. And for a while, those trends were getting worst throughout 2023, but we saw a stabilization in that, at least at RingCentral in the last couple of quarters. But we also saw increased layers of approval, smaller initial deployment. And then something that you've heard me call out a lot on earnings calls the last few quarters is this challenging upsell environment. So whilst our acquisition, our new customers and new logos has been strong, it's that upsell, that sort of classic land-and-expand motion where we've seen challenge. And net retention is a big focus of mine. And when Vlad and I were looking at the business and then as we planned for this year, which was exactly about 1 year ago, it was really important for us to continue to invest in innovation and new products because we felt like the best way to address that upsell challenge was really through new products because we have this very large, sticky installed base, and we wanted more products to sell into them. And that's exactly what we're doing today.

So maybe just kind of coming back to enterprise. ARR growth of 13%. I mean I guess that's 1 of the big questions is trying to understand the sustainability of kind of a double-digit enterprise growth rate, I mean there's a big team out there, right? I mean there's still -- most of the phone seeds globally are sitting on on-premise platforms Avaya, Cisco, et cetera. So I mean, I guess, what gives you kind of the confidence? And what does that look like for kind of a sustainable enterprise growth rate over the next kind of few years? What are the kind of building blocks to that.

Yes. have my head of IR here, so I can't talk about guidance beyond what we've guided to. But what I would say, like what gives me the confidence. Look, early innings. And yes, it hasn't been as quick the move from PBX to the cloud, as we would have liked. I think certainly, the pandemic did cause a bit of a rush towards that transition. And there was probably some overbuying that took place, and we're now lapping that and on the other side of it. What gives me confidence is there still in the verticals where we play, you've heard me talk about these golden verticals where we truly have a right to win, and we see this over and over in our win rates and when we go to market. The verticals that I'm talking about are health care, retail, financial services, professional services, public sector. And if you look at just those golden verticals, there are 100 million seats out there, of which we believe penetration today is around 15%. So you see the magnitude of that opportunity. And it's not a question of if, it's a question of when. And I think during this current macro, there has been a degree of reprioritization of spend. And perhaps if you have a fully depreciated PBX phone, which I noticed at this hotel in the median room was in, they still are on PBX phones that we need to do a sales call here afterwards. But eventually, these phones are going to move to the cloud. And it doesn't go the other way around. Like you don't see cloud going back to on-prem. So we still feel really excited about the opportunity. And there's strong ROI in terms of making that move. So I think when we do see the macro -- what we're seeing in front of us right now, what I've guided on is a stable macro. But if we do see that macro lift, I think that there will be -- and I actually believe AI could be an accelerant here as well. I think we're going to see that pace of migration improve.

Yes. So I guess -- I mean, I guess, the big investor question of course, has been kind of competition, concerns on pricing forever. I know you've called out for a long time. The ARPU overall has been stable. I mean what do win rates look like versus, I don't know, Teams, Zoom, others in the market? I mean it sounds like those win rates in this particular, I guess, called golden of verticals is probably better. Most of those companies also pointed improving win rates. Has there been any changes there? And what kind of helps still set you apart versus some of those other platforms, I guess?

Yes, sure. So we are still today the #1 undisputed leader in terms of revenue market share on UCaaS. Why do we win? Firstly, our reliability. You've heard Vlad our Founder talk about 5 9s reliability, 99.999. What does that actually mean in real life? I less than 5 minutes of downtime in an entire year, including scheduled maintenance. So for those verticals that we were talking about, where it's mission critical for those businesses to reach their end customers, you need to have the dial tone there. They choose RingCentral. The other thing is our integrations are unparalleled. Like we're -- I didn't say in opening remarks, but we've been a public company for 10 years. We've been around for 25 years. That's a lot of R&D dollars that have been spent. And that is why we have these features and the functionality and the certifications that many our competitors do not have. The other thing is the UC, CC being able to -- the 1 throat to choke. And we see that particularly with our larger deals. Customers want to buy UC and CC from the same vendor. And again, I think AI just amplifies the fact that people will want to buy both together. And we are Gartner Magic Quadrant top right with both the UC and CC offering that we have with our RCCC offering. In terms of our win rates, they've been stable. Who we win against and who we're competing against. Now that has evolved a bit. Upmarket in enterprise, we see more Teams and we see more Zoom. Down market or sort of the mid-market I think historically and traditionally, we saw a lot of 8x8. I think we are seeing less of them today. And I think they have a more deliberate strategy. And if you listen to their earnings call, they talk about being more CCaaS. So in UCaaS, we're competing Vonage, Nextiva. But again, in terms of features and functionality, and you can look at third-party data here, too, the Gartner peer review. We really standout in terms of the quality and reliability, and that's why customers choose us. So are we winning share? Are we taking share? I'm certain, we are. Because if you look at, again, third-party data, IDC, Gartner, who to use synergy. The overall UCaaS market is growing about 5%-ish. You know where I've guided in terms of what we're going to guide to grow this year, 8% to 9%, and you saw what we grew last year. So we are outpacing the overall market growth and we continue to believe that we will. And then on the CCaaS side, I think third-party data says it's about 15% growth, and we are growing well above that we have, and we will continue to. And certainly, with our new RingCX product, our own proprietary solution on Contact Center. That's going to grow well in excess of the overall market growth. So I think that's what gives me the confidence. And I, as the CFO, gets involved in a lot of the customer conversations and customers are choosing us because of our differentiation.

Yes. Well, let's maybe touch on Contact Center, right? That's a big focus for you all and I think investors too, you've had a great relationship with NICE for a number of years. That's a sizable business for you. So I'd be curious kind of how you think about the continued growth opportunity there in conjunction with your core RingCX product that you're starting to push more aggressively adding more features to. I mean how do you manage those kind of in parallel and what are the different target markets for those 2.

Yes. Yes. So that's exactly the point. They are very different target market. So we see them as 2 fairly distinct kind of swim lanes, if you will. So RCCC, which is our OEM with NICE in Contact, that's much more upmarket enterprise. Complex use cases, multiple geographies, often customers would deploy RCCC would have their own professional services staff because these are heavy lift, the implementations take many, many months. Then you have RingCX, which is our proprietary solution. And that 1 is much more targeted at simple to use, simple to deploy very low professional services list. Although it can be a large customer in terms of the number of seats, the use case is really simple. We had a very large win 2 quarters ago, which was a waste management company. But they're only -- they have thousands and thousands of employees and actually the deployment was over 1,000 seats. But they have a very simple use case, i.e., 2 or 3 different reasons that someone would call their call center. They don't need multiple languages. They're only in the U.S. And that's an example where it was a large enterprise customer, but not from RCCC would not have been suitable for their use case. So again, we see it as 2 distinct businesses and use cases. And of course, like from time to time, you're going to have friction from time to time. But I've been around in the tech industry for a long time, and I think that happens in almost when you're dealing with channel partners and partners no matter what. But for the most part, there are very distinct rules of engagement and swim lanes, and we both stick to those. And both parts of the business are growing really nicely for us.

Right. Okay. Well, I guess somewhat fresh off the release, and I don't know how much you looked at these, but Microsoft announced contact center capability at Contact Center Week, I guess, this weekend in Las Vegas and planning to get more aggressive in that market. It sounds.

I did notice that.

Yes. They made some -- the basic always a couple of years ago, but embedding copilot, generative AI. So I guess be interested in the initial thoughts on what that could mean competitively, whether it's on the upmarket and a NICE relationship versus your RingCX product.

Yes. So firstly, like when you asked me earlier, where do you -- who do you compete against in various segments of the market. So where we see Microsoft is much more in the large enterprise. So that would be more squarely within the RCCC side of our business. Now if you look at us and RingCentral today, I mean today, 85% of our revenues are exposure is UC. So CC is very important to us and important to our growth. But in terms of overall exposure, it's fairly limited. And in terms of risk to that profit pool. On RingCX, we wouldn't expect to see Microsoft really and or if we did, it would be very limited. And I think with Microsoft, they tend to go very, very broad, but not necessarily deep. And customers choose us for those deep integrations. They choose us because -- 4 of the largest dental service providers in the United States are RingCentral customers. That is partly because we have certain integrations for dental service providers that it would take many, many years to be on par with, if there was a new entrant that tried to get the integrations to the level that we have them. So I think in that sense, we feel fairly limited exposure in terms of what Microsoft announced, but I would need to spend more time on what they've announced in order to give you a response.

Yes. I still have a number of questions, but I want the audience now if there are any questions, you can submit them via e-mail, you have instructions on the tables, and I'd be happy to get those in here, too. So I guess, yes, [indiscernible] I know it's picking your favorite child, right? But what's the biggest growth opportunity outside of contact center, as you look at some of the other new products that you've announced?

Yes. So we've put out guidance, which I think gives a degree of confidence that we expect to generate at least $100 million of ARR from new products by next year. And of course, they are a little babies today and we don't have any favorite children. But RingCX or the Contact Center product we already know how to sell that, right? We've proven -- like if you look at our RCCC business, our Contact Center business, which our go-to-market is out there selling as we speak. That's already 1 of the largest contact center businesses in the world. And now we have our own proprietary products. So we -- I do expect that to be the largest contributor to that $100 million target. That being said, we're really excited about RingSense which is our AI platform. And I think we're uniquely positioned in many ways to be able to take advantage of the fact that we have billions of minutes of conversational data on our network. And our customers are actually asking us to help them make sense of that data. They want to derive insights from that data. So RingSense does exactly that. And last we've talked about a number of customers. We haven't really given a lot of financials. And again, it's small today but growing and growing well above the overall average growth. But we more than doubled our RingSense customers sequentially, if you look at Q1 on Q4. And we now have over 600 patent customers on RingSense, and the price point is also really attractive from our perspective. Customers are paying $60 per month to add RingSense on. And earlier, you alluded to our ARPUs, which today are above $30. And you're right, they're holding steady and stable than they have been over the last 9 or so quarters, it's actually -- they're above $30. But these new products will be and should be accretive to our overall ARPU. So I would say, like RingSense is probably what I'm most excited about because I think really augmenting and improving business outcomes for our customers. And like at the end of the day, what makes the customer sticky is adding value to their processes. And it won't surprise you if I tell you customers that buy more than 1 product from us tend to stay with us. And now we have proven and hopefully, you're seeing that we can be a multiproduct company. And one of the beauties of being a large company with significant ARR base is if you can find more useful products to sell that customer base. You've already got the go-to-market there. Ours is one of the strongest and most diversified sales forces out there. We have 15,000 channel partners that are selling RingCentral today. I've heard it's between 75,000 to 80,000 boots ground. So I'm really excited about what that's going to be.

I think yes, your channel relationships have been a key differentiator for a long time. And it's nice to hear the progress on RingSense. So that sounds encouraging. I mean, I guess maybe I should touch on it, I outside of your traditional channel partners, of course, you've had other big channel relationships with Avaya, Atos and Alcatel-Lucent. And then you've got -- on the separate side, you've got a lot of the communication service providers, Verizon, Vodafone, a number of others. Maybe any update across those 2 large cohorts of kind of what you're seeing and any kind of improved traction similar -- any kind of...

Absolutely. So I'm going to start off with the GSPs global service provider. So I think the Vodafone, AT&T, TELUS. We've just added Charter, Optus in Australia. So we have 12 global service providers working with us today. And you can imagine they have enormous installed bases. So they are a great feeding ground for potential cloud customers. And that business is growing well above the overall growth for our company, which today have guided 8% to 9%. The GSPs are growing well above that. And when you think about the business or those GSPs, they're also a great way to go to market internationally because you almost have like instant distribution. So that's why Vodafone is 1 that we got super excited about because we started off in the U.K., but we're now in over 5 countries with Vodafone seeing good traction there. We announced a very large win with IKEA. I think it was 2 quarters ago with Vodafone, and that was in partnership with Vodafone. And then on the strategic partners, which you called out the Avayas and Mitels and Alcatel-Lucent. So on Avaya, I think worthy of an update, we attended their customer event a couple of weeks ago, our Founder and CEO Vlad Shmunis was on stage with Alan. And we announced an exclusive hybrid partnership with them, where if you want to stay on Avaya on-prem for phone, you can use our collaboration suite for video and messaging. And that was a new announcement. But importantly, in terms of our former relationship with Avaya, even as they emerged from bankruptcy last year, we were able to preserve our exclusivity with them. So we are their exclusive provider for cloud phone or ACO, Avaya Cloud Office. So if you are an Avaya customer moving to the cloud by Avaya, you will do it with RingCentral, there is no other provider that -- we are the destination. And I think that was really important for us to preserve that exclusivity. And I would say the go-to-market and relationship is stronger than it's ever been and we remain optimistic about that relationship. And we did negotiate minimum commits as part of that restructuring of the agreement. And what I've said is that when I guide and how I've guided, we've only factored in the minimum committed to the guidance. So anything above that would be upside.

Okay. Let me -- we're actually done, last minute left. Maybe I should have 1 on margins. So done a great job since you took the CFO seat a couple of years ago, helped expand margins. Where are the additional levers on the margin front? I know you want to drive a combination of growth and profitability. Should we expect margins to continue to increase, I don't know, 100, 200 basis points a year? I mean, what's the outlook on that front?

Yes. Last year, we did 650 basis points since I've joined, it's been about 1,000. If you look at where we're guiding for Q2. I would say in terms of direction of travel and kind of quantum of margin improvement, if you look at what I'm guiding to this year, 21%. It's nothing like the 650 basis points we did last year. So I would say that would be the right way to think about it. But the other thing is we're also very focused on free cash flow and free cash flow margin and free cash flow per share growth. And we're out of time, but I just want to say like SBC is something that's top of mind for me. Hopefully, you've seen the right trend there, and we are committed to growing free cash flow per share above operating margin and free cash flow.

Yes. That's good to hear. I know that's a nice distinction or standout area for you. So we are out of time. So please join me in thanking Sonalee for all our comments up here.

Thank you.

We do have a brief breakout if there are some other questions around the corner.