Zoom Communications, Inc. (ZM) Earnings Call Transcript & Summary

Most of the audience on the planet is familiar with Zoom. So maybe the better question is, how do we think about the -- well, actually, before I go there, first of all, thank you. Thank you for joining.

Thank you for having us, Alex. We always appreciate being here the opportunity and for your ongoing support.

[Operator Instructions] But please, we do encourage participation. This is designed to be an interactive affair.

One of the questions, Kelly, that I get asked all the time is about how to think of the pandemic with respect to Zoom? Is it a giant pull forward of all this demand that you would have had over the next decade that you had all at once? Is it a step up into a new base that you're now going to be able to sell into? Just set the stage about what the right way for investors to think about that?

Sure. So if you think about, first of all, pre pandemic, the world, obviously, was a very different place. And what's happened over the last 18 months is a significant increase in brand awareness for Zoom combined with a rapid acceleration of adoption of video communications globally. And that really -- those 2 things would never have happened this quickly, if not for the unfortunate events over the last 18 months. And so how that has impacted our business is in a couple of ways. So obviously, significant growth. And when we think about that growth, we split it into 2 different segments of our business. We kind of use these terms a little bit interchangeably, but kind of the direct customers with greater than 10 employees and then the online customers with fewer than 10 employees. And we saw tremendous growth in both of those. We saw this huge growth in the customers with fewer than 10. So pre-pandemic, this was about 20% of our business. It was an area -- we had a website. It was built to support our online business, but it was really meant as more of a funnel into sales, because if you wanted to buy more than 10 licenses, you needed to talk to a sales rep. And that segment of the business grew over the last 18 months to, in Q2, it was 36% of our business. It peaked at 38% of our business in Q3 of last year. So significant growth there. And then the upmarket as well. We saw just incredible demand in Q1 and Q2 and continuing through last year for large and midsized organizations trying to keep their employees safe as well as productive as they were adapting to this new world. And we've seen continued demand there. As we've come now around into Q1 and Q2 of this year, we've seen high rates of retention there. And so really strong adoption and commitment from these customers. Now in terms of what does that mean going forward? If we just look -- one of the metrics that we look at as we share story from a penetration perspective is we look at the Global 2000. And what percent of the Global 2000 are spending more than 15% -- sorry, spending more than $100,000 with us. And it's only 15% of the Global 2000. So that tells you 85% of the Global 2000 are not yet spending kind of what you would expect for a reasonable deployment of an organization that size. So while, yes, there was an acceleration of business and that may have come from customers that were already in the pipeline or already in the valuation process. It is also this massive increase in the awareness and the opportunity on a global basis that is what we're excited about in the future. We can also, if you want to now or later out, we can talk about kind of how we're transitioning from being a media company to a platform and what that creates additional opportunities as well.

So I definitely want to do that. I want to stick with, first, the enterprise business, Kelly, and I'm going to dovetail a lot of these questions in. But simplistically, right, if I think about what a large company -- what your largest kind of company and customers spending on Zoom pre pandemic and what that now looks like for some of your very largest customers, well, I'm not going to say post pandemic, but post-COVID, what does that look like? And where can that go?

So we've seen increase in the amount that our customers are spending across a couple of different vectors. First of all, what we saw early last year was just an acceleration of buying and adoption of Zoom meeting licenses. So again, customers that may have been deployed in the department, all of a sudden realize, wow, we need to adopt this on a global scale and roll it out. We had some of our largest customers, for example, deploy hundreds of thousands or 100,000 new meetings licenses in a matter of -- if that was just unheard of before, that rapid, rapid adoption acceleration. Now what we saw as we, kind of, got through -- that was really the focus of Q1 and Q2 of last year. As we kind of got through Q3 and people were in a little bit more stabilized state, we saw organizations shifting to now what's our strategy around work from anywhere as organizations are really embracing this long term. And that's where we started to see in phone start to gain momentum again last year. Kind of -- In Q1 and Q2, kind of, took a little break as is Zoom rooms as everyone is really focused on meetings and then we've really started to see Zoom accelerating in Q3 and Q4 of last year. And obviously, that has continued into early this year. And then now what's happening is also an organization thinking about the future. And as they are preparing to eventually welcome their employees back to the office, what does that mean from a room strategy where we saw momentum build in Q1 to Q2 with growth rates -- sorry, attach rates doubling during that time. So what you're going to see over time is growth being driven in, especially in the upmarket, through continued expansion in our existing installed base rather than growth being driven necessarily just by new additional logos. As customers just keep expanding through this portfolio, which is great, that's exactly the strategy that we envision, and it's really amazing to seeing it come to life over the last few quarters, especially.

So I'm going to have you actually explain, like, why people buy phone in rooms for the uninitiated. But before I do that, simplistically, if I'm spending $1 -- if you look at your customers that were spending $1 on meetings, right? And then they bought phones. Are they -- and now they're thinking about buying rooms, right? Is it, now they're going to spend an extra $0.20 on phone and then another $0.20 on rooms or are they spending a dollar on meetings, now they're going to spend another $1 on phones and they're going to spend another $1 on rooms. So just I'm not asking for exact numbers, but the answer.

Yes. Yes, that's a really good point. So just as a quick reminder, the list price for Zoom meeting is $14.99, and the list prices in phone is either $10 or $15 depending on whether you're having needed or included calls. So there is the opportunity within phone to have a $1 to $1 increase there, almost doubling revenue. And typically, what we see is customers are buying at least a one-to-one ratio of phone licenses for their meetings. In some cases, they are even buying more. So we talked about on the call with Seagate that they bought -- they had 14,000 -- they got 14,000 meaning licenses, they got 17,000 phone licenses. So I think about this as we're moving through this life cycle or moving beyond kind of early adopters, which are probably typically tech companies or for knowledge workers, where they were buying pretty typically one-to-one. And we're moving into different verticals like Seagate. We saw this the same with Tapestry, which is a retail location. They're buying some phone licenses, more than the buying to meeting that they're putting them in environments like manufacturing centers or for Tapestry in their retail locations. So in that case, the multiplier can be even more than one by adding on the phones in that situation. Now the rooms, the Zoom Rooms, the list price for Zoom Rooms is $50 per room per month. However, that's obviously not a one-to-one type ratio. It's a much less. So it's a higher rate of revenue per room, but at a much lower multipliers. And that -- so it absolutely is an important revenue driver. But even more than that, it's really critical from a retention perspective. When you have a really tightly integrated room strategy, combined with your meetings, it's irreplaceable, right? Like, it's so easy when you walk -- in fact, we have a new feature that just came out, where you can easily like throw your meeting right from your mobile device up to a screen in a Zoom room and -- or move from like your laptop on to your phone. And that is really -- as I think a lot of it that have been working from home, you probably don't think about this, but as you start to move around again, that's amazing, right, because it really gives you that flexibility if you're on-the-go to transition in and out of locations in a really seamless fashion. And we got more. I mean, I can talk all day about innovation and things we're doing to -- around Zooms as well to make it a really great experience, especially as we think about going back to work, but that's generally how you should think about the most multiplier effect.

But so just to put on it. So the multiplier from rooms to meetings is less than one-for-one.

Less than $1. Yes.

But is it, like, $0.20, $0.50, again, compare it to what a phone.

Yes. It's analysis exactly, Alex, but it's probably in the range. I mean, it really is going to vary by company depending on the ratio of rooms that they have, but it's probably somewhere between $0.20 and $0.50 -- $0.20 on the dollars.

And have you guys thought through like have you guys looked at how many room like basically a TAM analysis on rooms. How many rooms -- by the way, I've noticed there's a new feature, which is if I raise my hand, apparently Zoom things I actually should be raising my hand in the meeting, which is pretty cool. But if I think about the TAMs on rooms, right, what does it look like today? And what can it be? Like, what -- how should we think about the rooms TAMs? I'm going to ask you, by the way, to also talk about events and apps in that same kind of $0.20, $0.50 dollar construct.

Yes. So Alex, I can use this as an opportunity to plug in top next week because it is exactly part of what we're going to talk about next week. So we have Analyst Day on Monday, and hope we see you all there. And we talked about this 2 years ago, specifically in terms of rooms, and we're going to update that and really talk about what we think the opportunity is there, especially, just imagine what we're looking forward to when we eventually can move back to the office, that if a conference room isn't video-enabled, I can't imagine that it's going to be used. I think it's going to be a store room because gone are the days, right, where everybody is going to be sitting in the room around the table. And even if they are, if you -- I mean, if you have 5 people in the room and one person that's not, that experience has to be in hand. It has to be more like this today. We've all come to, I think, enjoy and depend on seeing everybody's face, being able to easily hear them, seeing their name on the screen. All of that is, I think, something that we take for granted. And I had this experience recently where there were people in the room and it was terrible like we couldn't see them, we couldn't hear them, we don't know exactly who's talking. And so that's a lot of the innovation that we're working on. And then specifically to the TAM, we'll talk about that.

Got it. I guess is there a way that, that ratio, that $0.20, that $0.30, is that a baseline that -- given the innovation coming in that regard can actually go -- you think can go higher? Or is that the right baseline where people should really worry you?

Yes. I think -- For now, I think that's kind of the right contract to think about it. I think we have a lot of unknowns yet. Unfortunately, in terms of how people are going to work in the future, what does that mean for kind of mutual real estate and conference rooms. And so I think it's a more complicated factor than just what does Zoom mean to that. I think it has a broader implication or question about what does the future of work look like. What I will say is we are innovating quickly to ensure that we're there to support it, how exactly that plays forward, I think, has yet to be seen.

And then if I think about the last question I'll ask on enterprise, and I want to give you some harder ones on SMB. But if I think about the attach rate today, so again, dimensionality on overall meeting seats and how many are now attached with a phone seat, and that ultimately, that ratio of those to a room being, I don't know, 5 to 1, 10 to 1 give us that proportion of where we are today and then where that should go over the course of the next few years.

Yes. So you're really asking all my questions for next week, Alex. You can write the script. So we are -- in terms of the penetration rate right now for Zoom Phone to Zoom Meeting -- again, we are going to get the exact number next week. We're on top of this, but it's very, very low, right? It's in single digits today. So while we've seen a lot of momentum in Zoom Phone, remember that Zoom Meetings has a new huge, huge, huge head start, which is great because that means there's a huge opportunity sitting out there with all of these installed base and our customers that have the opportunity for us to sell inflow into them. I mean, what should that be over time? I guess, if I think that the potential for Zoom Phone revenue should be 25% to 35% at some point, again, that's years in the future just given the head start that Zoom Meetings currently has. And you can tell that because we haven't -- when we hit the 10% threshold, right, you're going to see it broken out in our filings. So we obviously haven't achieved that yet. But we see this momentum, which is amazing, and we can talk about some of those milestones that we hit and we've disclosed, but there's a huge potential there. And then, again, Rooms also is a huge potential. But I think of that as less of a revenue driver and much more of a retention driver.

Got it. And then just again to put a ball on it, events and the next one after events, right? Is that app? Is that SDA?

Yes. Yes. So events, absolutely. We're super excited to debut this next week with all of you at Zoomtopia. And really think that this has a significant future as we all again want and look forward to being able to attend it in person. But I think it's going to be really important that providers and the host in the future have a virtual alternative. Just we've seen the extension of the reach and how that has dramatically improved -- there's many stories out there about how it's improved, fleet flow that come out of these conferences. And so having the opportunity to do both is going to be really important, and that's what Zoom Events is going to help support as we look forward to the future. And then Zoom Apps. So Zoom Apps, we have an idea of a monetization strategy. We have not even implemented that yet. We've really been focused on Zoom Apps in terms of continuing this progress from meetings to platform, and this is a really important part of it because it really changes your experience, your in-meeting experience, allowing you to extend it into real-time collaboration with great apps like Asana or ServiceNow, Salesforce and bringing that experience right into this meeting. And the way that Eric talks about it is, it really becomes the operating system for your Workday. And again, think about that and how tempted that makes this product when this is where you're actually doing your work. Beyond just meeting your colleagues or meeting to your customers and doing sales, it really starts to bring your work into this. It changes the way you view the platform, and that's really the long-term vision that we have.

Okay. Now for a hard question. I distinctly remember us having a fireside where we talked about SMB churn. And in that fireside, you guys have talked about, look, what we've seen so far in the cohorts around the SMB is that these under 10 employees, they spike early and then they get tailed off, and we now feel like we've got a better visibility on that, given that we've now been through the pandemic for a period of time. What happened? Where do we go from that to where we got in the last quarter because it does feel like a change in that visibility.

Yes. It's there. So if I can just step back a minute and set the stage in terms of when we came into this fiscal year, we were setting our plan and setting our guidance back in November December time frame. And remember, the world was very different. In the U.S., we had a different president. I think that the outlook in terms of how quickly vaccines could be distributed was really unknown at that moment in time. When we set our guidance for the year, we did talk about that we were modeling churn in this customers with fewer than 10 segment at multiples of the levels that we have seen pre pandemic. And that was absolutely what we expected, and that is exactly what is come to fruition. The fortunate or unfortunate, however you want to look at it, right, the fortunate thing, I guess, is, for the world, is that vaccines have gotten distributed much more quickly than I think anyone would have anticipated sitting back in November and December and the way that the world looks then. And that this summer, people were able to move around the world much more freely than probably anyone anticipated. And people were thrilled to be able to go on holiday and actually get on a plane and go some with their families and feel safe about that. The unfortunate side of that for us is that, that full that churn we were planning for that churn in those little bit, we really expected respect the way that we planned and built our guidance was that, that would come in late Q3 and Q4. We just -- again, we're trying to predict a pandemic, which is a very almost impossible feat. We thought that was a conservative position to take at that time. As it turned out, that churn just accelerated earlier than we expected into the back half of Q2. And that's what happened. Now because we're in a whole new world with our customer base, we -- it's difficult for us to predict and understand exactly if that Q2 churn that we saw is it seasonality? Is it summer? Is it people are on vacation, customers are out, small business owners are closed, taking a break, whatever, and that we're going to see a renewal of that in September and October. I'm really excited that we're kind of past Labor Day now to see what happens here. Or is it a permanent change in that customer segment as people are moving around the world as they've reopened their businesses. Like one of the examples I use is my personal, my favorite yoga instructor. He's in the Bay area. I am no longer there. And for the last year, I've been taking class with him. He's not teaching on Zoom anymore. He's doing workshops in person. And so that's -- but it's hard for us to dissect exactly how much of that is seasonal versus true transition. So that's what happened. It just came more quickly than we anticipated when we were sitting doing this 6 months ago, more than that, 8, 9 months ago.

And what have you reflected in the guidance in terms of the -- In terms of SMB activity, to the extent that you're trying to predict the unpredictable, what are the assumptions that you're going with? And again, like as you're looking at these data sets, both in various geographies that have all had varying degrees of reopening like in the Asian economies or in -- versus areas with high vaccination rates or low vaccination. Is there anything that you get into it from the data that helps either inform you or how investors should think about the progress of that SMB cohort from here?

So what we've done in terms of modeling and the guidance for the rest of the year is we took this level of churn that we saw. We saw -- we knew what we've seen through July and then of course, we watched what was happening in August as we remarkably just had our call last week, and we watched what was happening. And we -- Again, it's hard to know exactly how much of that is seasonality versus true COVID-related activities. And so we felt it was appropriate to give guidance using -- assuming that's all kind of built into the future of the run rate, meaning we didn't model upside potential for seasonality. And there might be some. Again, we'll start to see that now that the summer holidays are passed us, but we felt it was appropriate to model that into the guidance for the rest time.

I'm going to ask the opposite question. Why can't it get worse than what you saw in the summer? And again, what are the things that give you confidence that you reflected a very conservative scenario rather than a realistic scenario in kind of the guidance?

I just want -- I didn't say it was very conservative.

Sorry. I'm not trying to...

I mean, we try to be -- Yes, I just don't want to get hopes up, right? So the way that -- so I'm sure a lot of you have looked at subscriber cohorts. And what typically happens is there's the highest rate of churn. You just be effective, right, happens soon after people subscribe within that kind of that reopen period and then it sort of declined over time and then you get this long tail. So the further and further we get away from the really significant pandemic buying period, we expect to see stabilization in this segment of this stuff. Stabilization in terms of dollars, not necessarily as a percentage of contribution to revenue. Because what I expect to happen, and it's hard to know exactly when, Alex. I mean your question is fair, is that we're going to see this kind of stabilize in terms of dollars? So it's not really growing, but it's not really declining. And what I expect it to become over time is a significant contributor to revenue and profitability, right? Because you're highly profitable customers but not to grow. That they're just sort of there. In fact, they will be a drag on growth is what will happen because the growth will be happening in the upmarket. And really this -- that will be weighted down by this significant segment of our business. Now over time, it's going to decline in the within our business, but it's going to take some time. There's -- it's a big contributor to revenue today. And that's -- what you saw in the Q2 results is exactly that, right? Strengthen growth in the upmarket that was really tempered by what was happening in this last month.

Last question on this topic. What -- I would love to just -- again, dimensionality, the profitability of the sub-10 cohort versus the north of 10 cohort, both on a gross margin but also on an operate or a free cash flow basis. Like, are these more profitable customers because you didn't have to really do much to get them and they're just there, you don't really have to engage with them much? Or are they less profitable because I don't know they come off, they come on, they complain?

Yes, no. I mean they're -- so in terms of like customer support fees, like engaging with them, we certainly are there to support them. Depending on the size, they have different channels in which they can come to us, but all paying customers have access to customer success and our customer support teams. The way that they differentiate in terms of profitability is more around the sales cycle. There's a lot of these customers, if they come to online, and they mean don't engage with either a direct sales rep or an online account executive or a BDR, like, if they don't engage with anybody, then typically, we are not paying a commission on that. And so that's where there's a differentiation in terms of profitability. We don't necessarily try to -- we want our customers to buy in whatever fashion suits them. So we don't try to not have them talk to the sales rep. Again, we want them to do whatever makes sense to them, but that is where they can be more profitable than our direct customers in terms of the not paying commission. Now they also depending on the size of the deal might have for discounts that they are getting. When you come through the online sales force, there are discounts that are available to you, depending on the size of the deal, the length of the agreement you're willing to it to and your ability to pay upfront, but those are more standardized when you're buying online than when you're coming into a direct sales rep then there's opportunity for more negotiation.

Got it. Okay. I got 2 late questions. So I'm going to ask them real quick. If you can -- I'll try to ask them both, but if you're able to answer them quickly. Please help us unpack between churn versus down cells in the 40%?

Yes. So generally, these customers are not -- so the most volatility that we saw in the 40% -- I assume the 40% is what they're talking about the customers fewer than 10. So in that comment fewer than 10, there is even a different radiation, if you will, in terms of stability between customers that are buying using personal e-mail domains, so Google, Yahoo! versus customers that are buying with business domains, which are really small business with or like individuals or like my example of the yoga instructor probably. The greatest volatility we saw, as you can imagine, is personal e-mail domains that are monthly factors, right? They come and they go and they come and they go. So in terms of churn down sell, like I can consider that a churn, but they might come back in a few months. They just might be taking a break for the summer. We don't see a lot of down sales, if you will, in that customer segment, where they're just like shedding a few licenses. It's more like they are turning the product off at least for a period of time. And again, this is where we're waiting, anxious to see what happens as we get past the summer months and how many of those customers, if any, come back.

Got it. The next question is, there are 28 million people in organizations under 10 employees in the U.S. alone. It would seem like you've penetrated less than 20% of that. So why would that cohort not grow at all in the future?

Yes. So it might. It absolutely might. I just -- for now, the approach that we're taking is that we expect most of the growth to come from the upmarket that's greater than 10 and that any -- the way we're modeling, I hope this is not the case, but the way we're modeling day is like kind of any growth that would happen because I absolutely agree there's an opportunity to continue to grow there. could potentially be offset by this accelerated churn that you see.

Perfect. Well, Kelly, first of all, thank you so much. This is always a pleasure. We have a scripted but also unscripted dialogue. I think it's very informative. I think it's impactful. And it's -- most of all, it's enjoyable. So I thank you very much for helping.

Yes, that went so quickly. Great to see you.

That's the good thing I was saying. Good news and the bad news of 30-minute firesides. You always want more, and you always want more. That's good news and bad news.

Yes. All right. Anytime, Alex. Thanks so much.

Thank you, guys.

Bye.