Whenever an earnings report comes out, I always make sure that I go straight to the investor relations page to read it, without reading anyone else’s opinion first. This is because I don’t want anyone else’s interpretation to cloud my judgement. Before the release, I try to develop expectations and identify key things to look out for.
I haven’t posted on the board in a little while, but here’s some of my thoughts on the Q3 earnings of some of my companies; I’ll try to avoid repeating any points already made.
Zoom Q3 earnings
On the day the vaccine news was announced I wrote: “my concern now is that this upside potential (Q3 earnings beat) won’t be realised, but more than offset by this sentiment shift”.https://discussion.fool.com/this-is-great-news-for-the-world-and…
I believe that as Zoom shareholders, a company that has become the figurehead ‘Covid stock’, we need to have higher expectations for its continuing (out)performance than for other companies. The reality is that anyone putting fresh money into Zoom at the moment is doing so with a vaccine on the imminent horizon and against market sentiment.
Zoom’s Q3 was a mixed bag for me. I had expected >$800m revenue handily, so $777m felt on the low side to me and the immediate sell-off was unsurprising. I had figured that +17% sequential growth (+87% annualised) represented a cap on Zoom’s growth going forwards.
However, I was encouraged by aspects of what I heard on the Q3 earnings call. At work, monthly I present a ‘mini’ Operational Review (OR) or at least the financial element to it to MD level and quarterly an OR to divisional CFO/CEO level. What management really want to know is what the underlying picture is. In relation to investing, it seems that earnings calls often offer the best insight into the underlying picture.
Zoom’s growth in 2021 really seems to come down to: 1. gaining market share of the Global 2000 (Zoom suggested only 12% penetration into this Enterprise market during Zoomtopia https://discussion.fool.com/zoomtopia-king-of-the-castle-3464170…) 2. Zoom Phone 3. the level of churn post pandemic (creating stickiness for the 38% of revenue from employees <10) 4. monetising existing customers and 5. international expansion
Rather than go into all those points, which have been covered already mostly, I will talk about a couple points that jumped out to me. Firstly, I liked what I heard with regard to Zoom Phone on the earnings call.
Zoom Phone
We learned four important things about Zoom Phone:
- Zoom had their biggest deal to date
- It was Zoom’s fastest growing product (albeit off a smaller base)
- Use case of how Peloton started with meetings & were then upsold Phone
- Zoom Phone will be a meaningful driver for growth next year
I know some people wanted more information on Phone (who wouldn’t!). But remember that last quarter was the first time we got any information on Phone at all. We got a lot more information in this earnings call than we had before. I’ve also seen people interpret that because they’re not disclosing the absolute contribution, that means Phone isn’t doing well. I don’t know if that’s a fair assumption to make.
There could be many reasons why Zoom doesn’t disclose this information, not in the least competitive reasons. Does Microsoft not disclosing its Teams contribution mean that it it’s not performing well? In fact maybe we could make the opposite interpretation, that Zoom doesn’t want to give insight into the Phone opportunity in its very early stages before rolling out in force or risk alerting competitors. Who knows. The most important thing for me on Phone was the tone of the CFO:
"We think we’re very well situated from a competitive feature and functionality perspective. And as you said, we announced last quarter that we’re in 44 markets from a native Zoom Phone deployment perspective. So really feel great about the progress we’ve made around that and are excited about the continued progress that we’re seeing with Zoom Phone. And then in terms of key growth drivers, absolutely, Zoom Phone is one of the key drivers for next year.
It was absolutely the fastest-growing product in Q3, so excited to see that momentum. And if you think about the significant base of Zoom Meetings customers that we’ve acquired in Q1, Q2 and Q3, they are there to continue to support our strategy of selling into our installed base, and we absolutely expect that to be a key driver for next year."
Overall that sounds pretty positive to me.
Zoom Enterprise & R&D
So how can Zoom capture more of the Global 2000 than its current 12% market share? Well for a start recent end-to-end encryption and Gartner accreditation should help convince some companies who have previously held off Zoom due to security concerns.
Keep in mind that the 30% sequential increase in Enterprise customers in Q3 (accelerative from +28% in Q2) includes customers previously signed in Q1&Q2 reaching the $100k spend threshold, as well as the fact that major Enterprise deals generally have a longer sales cycle (so some backlog from Q2 flowing through into Q3 numbers).
I had two main concerns with Zoom pre-earnings call, both stemming from Yuan comments. One was a comment Yuan made during Zoomtopia that he doesn’t see Microsoft as a competitor but that companies would have both Teams and Zoom in order to have a ‘failover option’ and acknowledging that both tools offered different functionality (eg Teams for files and sharing). While I can see having a failover option being true for some Enterprises, perhaps it doesn’t speak volumes for your competitive edge if you’re announcing that as your go-to market strategy. We use Teams at work and its functionality and file storing etc has improved a lot since the start of the pandemic, and perhaps that’s what Enterprise customers really want. Has Zoom’s? It’s not too late to bridge this gap, in my (non-techie) opinion.
And this brings me to my second concern. It was a comment Yuan made saying he now spends ‘all his time’ on security. Maybe he was just saying that as a figure of speech, due to all the security critics. Yuan is a product guy. As a Zoom investor, I don’t want him to lose sight of that and focus on areas he doesn’t have expertise of. Instead I want him to focus on what got Zoom there in the first place - the product.
So when I heard in the earnings call that Zoom’s R&D (Research and Development) spend was only 3% of revenue in Q3, this raised some red flags for me. If Zoom is not investing quickly enough in hiring or in its product, how will it grow quickly at scale or maintain a competitive advantage.
Kelly Steckelberg addressed this by saying their long term goal for R&D would be 10% of revenue, that they’re expanding hiring internationally and product focus will be on OnZoom next year. While I was initially optimistic about OnZoom, I am increasingly questioning whether the platform is going to be a red herring for Zoom’s growth. I would appreciate any thoughts on the market opportunity here. Check out the beta for yourself: https://on.zoom.us/e/view
While Zoom is pivoting to B2C with OnZoom, a risk could be that it loses focus of its B2B purpose & its Meetings’ product development; I would like to see more evidence of that investment on both the product itself and on the financial statements. With the right product development, Zoom can make more inroads into the Enterprise market.
Monetisation of Existing Customers
Zoom has a total of 433,700 paying customers. That’s a lot. This time last year it had 74,100 (+485% YoY!!) The feeling I got from the Q3 earnings call in particular, was that Zoom’s strategy in the last couple of quarters has been to onboard as many customers as they can as quickly as possible and to worry about properly monetising them later.
I found this exchange particularly interesting:
Kelly Steckelberg – Chief Financial Officer
“So in terms of the approach, why we have active host versus named host is because it allows customers that aren’t sure exactly what their usage is going to be to come in and buy Zoom at a level that feels comfortable to them and then grow into that. So it’s a very effective mechanism for maybe somebody that’s newly adopting video communications or expanding and extending it to a part of their organization that may not have used it before. And it’s a great way for them to have the opportunity to assess what that level of usage is going to be.”
Analyst
“That’s helpful. And as far as the customers that are on the active post pricing model, how long is the lag? Or how should we think about the relationship between revenue and usage? Is it a one-month lag between the monetization versus usage? Is it a quarter? Is it a year? How should we think about that in general?”
Kelly Steckelberg – Chief Financial Officer
"Yeah. So the active host model is most prevalent in our upmarket customers. And the typical structure, of course – again, we’re focused on delivering happiness to our customers so these are all things that are negotiable. The typical structure of a deal would be they would have access to a certain – a set number of licenses.
They would pay for some fraction of that for the first year. And then after a year, we would look at where their high watermark was of usage for those hosts and that would be their true-up then for the next year."
Analyst
So should we interpret that as meaning customers that have not hit that one-year anniversary, those maybe in Q1 or Q2 that have expanded significantly in the last year, we should still see improved monetization of those in Q2, Q3 next year maybe?
Kelly Steckelberg – Chief Financial Officer
There’s absolutely the potential if that – in that scenario, that yes, there’s a step-up for those customers if they’ve expanded through where we started them in their minimum commitments at the beginning of their contract, yes.
In other words, Zoom can expect a level of revenue growth next year simply through monetisation of this customer segment, irrespective of cross-sell or further monetisation such as of its fastest growing education vertical.
I am a strong believer that many of the trends realised during this pandemic will stick and help shape the future post-pandemic, which I find useful to remind myself of with the recent market sentiment shift:
"There is something that often seems to be overlooked with Zoom, which is perhaps the most important factor of all for its long term thesis. This is a paradigm shift…A shift in how our work places and work culture are redefined, an underlying demand for remote work finally arriving to a worldwide audience and suddenly validated by technology, how learning, law and health are adapted, how housing, social activities and fitness are developed, how fashion, events and sports evolve - in a nutshell how people live. There have been significant periods of technological change over the past 100 years or so, perhaps this is one of them. Zoom is in pole position to benefit from this shift and, importantly - to help define it."
From <https://discussion.fool.com/snowflake-vs-zoom-a-comparison-34623…
I have not changed my mind about these trends or who might benefit from them, but the question has really become ‘how much is enough’ for Zoom’s growth next year. Taking a pragmatic approach I reduced my outsized Zoom position slightly on the vaccine news and a bit more in the last couple of weeks since earnings, as I am increasingly aware that market sentiment may dictate the answer to this question over the next 6 months more than the company itself. It is still my third largest position, and I intend to keep it that way for the time being.
Crowdstrike
Crowdstrike is now my top position. I had intended to write a review, but have written too much about Zoom already.
TMFCheesehead had a great post on Crowdstrike’s cross-selling of modules:
https://discussion.fool.com/two-most-important-nuggets-from-crwd…
Crowdstrike have 17 modules and are releasing new modules next year, so it’s great to have some more insight into the efficacy of this cross-selling and the long runway ahead.
The language from the call was overwhelmingly positive. If I could pick out one comment (from the CFO):
"And my comment on that really is it’s still early days for cloud. I think we have a huge, huge runway ahead of us, and we think we’re ahead of the curve and we think we’re ahead of everybody else in what we can offer. But I still think it’s still early days, and it’s one of those areas where we just see a tremendous amount of opportunity.
Roku
I have initiated a position in Roku since its Q3 earnings results.
Muji wrote an excellent recap here: https://discussion.fool.com/roku-q220-recap-34676698.aspx
One thing that immediately jumped out at me was the ARPU (Average Revenue Per User):
Q319: $22.58
Q419: $23.14
Q120: $24.35
Q220: $24.92
Q320: $27.00 (!!)
Spot the difference?
Roku CEO: “…even though we have a nice robust ad business, the vast majority of advertising spend is still in linear television, it’s not – it’s still not in streaming. And one of the interesting things in the quarter was the fact that advertisers are increasingly seeing streaming is something they need to start allocating a bigger portion of their budgets toward.”
The Q3 ARPU seems to represent an inflection point for Roku’s growth as this shift to digital advertising develops.
Datadog
I summed up my thoughts on Q3 earnings on this thread, and am keen to see how Q4 plays out.
https://discussion.fool.com/datadog-redefining-expectations-3466…
E-Commerce
I will be watching Q4 results closely, as I believe these will be more meaningful than Q3 results for e-commerce names. E-commerce has potential to be one of the biggest beneficiaries of Q4 and beyond, and in recent weeks I have shifted about 20% of my portfolio into e-commerce names. Before my current role I spent a year working in finance with a focus on supply chain for a major retailer, and saw first hand the shift to online retail/e-commerce. Each year there is an increasing seasonal shift to Q4 holiday sales, Black Friday, Cyber Monday etc. These sales ‘days’ are no longer that, but weeks or more. Organisations ramp their entire infrastructure for this peak period, panic hiring agency, sales promotions, competitive pricing and price wars over search optimisation. Only those with the best in breed e-commerce or experience elements will survive it - (it’s why I decided to leave my old company).
Seasonality: Etsy and Shop sequential revenue growth Q3 & Q4:
Etsy
Q319: +9%
**Q419: +36%**
Q320: +5%
Q420: ?
Shopify:
Q319: +8%
**Q419: +29%**
Q320: +8%
Q420: ?
At a high level, if you were to consider just one fact that in previous years about half of holiday season shopping occurred in store. And then consider where people might shop even more this holiday season (online), and then once someone starts shopping online how their shopping habits might change going forward. These trends are here for the long term.
This blog of updates has some interesting statistics about some of the trends between coronavirus and e-commerce, including a reference that the pandemic has accelerated e-commerce up to 5 years:
https://www.roirevolution.com/blog/2020/12/coronavirus-and-e…
I haven’t set any 2021 New Year resolutions yet, but one of my 2020 resolutions was helped thanks to this board. So thanks and happy holidays.
(Someone had emailed me a while back when I mentioned that I was an inexperienced investor and suggested that I should say what experience I do have. Well I’m a relatively late starter to my career (I’m 30 now), I studied ancient history, had a few years out either side of university travelling, doing conservation & voluntary work and writing. Then I got my accounting qualifications (at a company I’ve seen pop up on this board in the last couple weeks in relation to Crowdstrike), and over the past year in my new role I have financial responsibility & ownership over one of the youngest and highest growth areas of the world’s oldest telecoms company: IoT (Enterprise). My learning curve this year has been steep, thanks again to this board for all the investing knowledge.)
If I can expand a little on the customers…