Twilio Deep Dive - IPO to Launch of Flex

I thought it’s time for a deep dive on Twilio. As with my previous deep dives, this is from my own notes, starting around their IPO, and running to the present. and I have heavily shortened and paraphrased all articles I summarize, and thus any resulting errors are my fault. (And I greatly shortened my notes again for this Deep Dive, but it still may be more than you want to know, but after all, it’s a 20% position for me.) I’ll start with my first encounter with Twilio in November 2016 from an article that I don’t even remember the source:

Nov 2016 - In late June, cloud-communications company, Twilio, held its much-anticipated IPO — and blew Wall Street’s socks off. After pricing above its range at $15 a share, Twilio kept soaring and didn’t stop.

To hear Twilio CEO Jeff Lawson tell it, none of it would have been possible without the revolution in computing brought about by Amazon’s AWS service. He should know — he was one of the first product executives at AWS before he started Twilio.

Lawson says there were two previous waves in computing:

The first was ruled by companies like Oracle, where IT departments bought software in bulk and forced it on employees.

The second was ruled by companies like Salesforce, where sales or marketing or finance departments bought their own services and IT departments helped manage them.

Now we’re in what he calls the third age, ruled by Amazon, where companies skip the IT department and users entirely and instead sell technology straight to the programmers who build the apps and software that increasingly power our everyday lives.

This is where Twilio fits in. Any success it presently enjoys is because it rode that wave before Silicon Valley even knew there was even a wave to ride. “We had a hunch,” Lawson says.

To explain, Lawson goes back to his college years, the mid-1990s. Amid the first days of the dot-com bubble, Lawson knew that he had to hone his computer skills if he wanted to be a part of it. “I wanted to learn this magical new thing called the internet.”

Being short on funds and resources, he downloaded a bootleg copy of Adobe ColdFusion, a popular platform for making early websites. Years later, when he was the first CTO of StubHub, he chose ColdFusion, the one he knew best. That’s exactly like what’s going on today, Lawson says, just at a larger scale.

Twilio, AWS, and practically all other services that sell straight to developers, offer free levels for people who are just messing around with the platform, and pay-as-you-go plans beyond that. You just want to get people’s hands on it, he says.

But there’s also a tremendous appeal for big established companies: If one lone programmer has an idea, he or she can use this new class of technology to mock up a prototype in a weekend, without having to go through the IT department or any red tape. The speed is very valuable. If that prototype catches on internally, it greatly increases the odds that they’ll tap Twilio to build it, too. As the project gets bigger, so too does the check they write to Twilio.

“They’re going to be the ones who call us”. This all seems obvious, but it wasn’t common wisdom when Twilio was founded in 2008, and investors were skeptical. They said:
“This isn’t a business. Developers don’t have a checkbook.'”

Lawson came up with the idea that became Twilio back in the early days at StubHub. Someone had an idea for a system that would automate calls and texts between the people who bought tickets at the box office and the customers who would end up buying those tickets from StubHub. Vendors told him it would be possible at the scale StubHub needed … but it would take two years and $2 million to run a line straight into the phone company’s systems. That was way too long and way too expensive for Lawson’s team at what was then a very tiny startup.

That brief, aborted experiment would form the seed of Twilio, which performs exactly the kind of service that StubHub might have needed way back when. Now Twilio is helping companies large and small build phone-call and text-messaging features into all of their apps.

What seemed like a niche business to investors in in 2008 actually looks pretty smart in 2016, as the rise of chatbots, automated systems, voice commands, and the like start to take over the tech landscape, even as people begin to expect that banks, restaurants, and stores will be able to automatically text or call them.

Lawson sees this as only the start. He says that they’re going to keep growing by focusing on attracting developers to the platform. With the capital raised by the IPO, Twilio can start to go international and keep growing. “There’s a very long, very big opportunity in front of us.”

Apr 2016 – Pre-IPO Article
A decade ago, if you wanted to build anything that used voice or text messages over the public phone system, you would have to hire specialized engineers and expect to spend months in development. That all changed with the emergence of a category of companies that have come to be known as Communications Platform as a Service or CPaaS. The existence of these companies has radically changed the landscape of enterprise communication and customer service. They have become embedded in a surprising range of services (such as Uber).

But the real explosion in innovation required that barrier to be dropped even further. That was the role of the CPaaS, which gave developers a one-stop-shop API that covered both telephony functions and termination. With developers completely insulated from the messiness of telecom, the universe of potential developers was expanded greatly.

Twilio is the current market leader in the category and they are expected to file an IPO soon. By some estimates they have 80% of the market. They claim that more than 560,000 developers use the service.

A CPaaS inside a legacy vendor is an extra problem for the vendor. Legacy vendors like Avaya or Cisco have an advantage over the pure-play CPaaS companies in terms of name recognition and a broad customer base. But they have a disadvantage when it comes to fitting in with their business process. The majority of Avaya’s revenue comes from its vast channel network. Thousands of “Value Added Resellers” and “System Integrators” resell Avaya’s products and make money by installing and maintaining the systems.

These deals follow a top-down model where the CIO or CTO makes a big-dollar commitment. What happens when you introduce a parallel bottom-up approach, where developers/managers in a company can buy small “as you need it” licenses and build from there? Saul: The legacy company’s dilemma.

Aug 2016 – Bert’s Evaluation (very conservative and contemplating a short)

Twilio, born in 2008, has recently sold its initial shares, and they are up by almost 4X in less than 2 months.

It does enjoy a leadership position in a hot space - providing developers with the tools they need and the platform in order to build communications applications for the web.

Its first reported quarter pleased investors, and the shares have continued to climb to levels rarely seen even for a sizeable company.

Guidance and expectations seem far lower than what might be expected for an investment unicorn.

Its secret sauce is getting its customers to pay for the Twilio product based on usage of the Twilio solution embedded in end-user applications.

While Twilio is a reasonable business likely to enjoy its time in the sun, it is no real unicorn, at least as I think of unicorns. And being no real unicorn, it does not deserve the valuation it enjoys. I must remind readers that the guidance that was given is for no sequential growth this quarter and for 5% sequential growth for the final quarter of this year. The 28% revenue growth estimate for next year would be the expectation for a mighty tired unicorn. It is likely that the company’s guidance for Q3 is conservative and will be exceeded - but unicorns were never meant to show no growth.

Its revenues come from its customers building its solutions and deploying them. It is all about usage. It is difficult to believe that people will be using fewer chats during the summer. So, for those who do not wish to go further, don’t buy Twilio shares, and if you own them, the odds are you have a decent profit and it would be prudent to take profits. If Twilio, at this stage of its evolution, can’t grow revenues sequentially, then its $4.7 billion market cap is dust on a windy street.

But back to TWLO and no more digressions. Twilio is not some mythic creature. It is a company that sells application development tools for hosted mobile apps. The company has revenues projected to be greater than $250 million, and it does generate a bit of cash, although most of that is going for its new headquarters space in San Francisco this year.

The questions regarding Twilio are going to be: 1) whether the market will have enough runway to support a company of sufficient size to justify investor interest; and 2) whether it will be able to maintain its leadership position, and continue to charge the premium prices that have allowed its financial model to at least keep profitability within view - although reaching adjusted profitability is still more than a year away, based on their own forecast.

Twilio sells building blocks as opposed to seat licenses. It has a pricing model based on usage of various kinds, depending on the messages and the length of messages that are sent across the applications its customers create. Twilio and its competitors sell these building blocks to developers, primarily at large enterprises, who then create applications that enhance the experience of the end-user customer and allow them to gain competitive differentiation. They try to convince potential users that they need the functionality that can be created with these building blocks, so that they can remain competitive.

The company is said to do 3 things. The first of these building blocks is the programmable communications cloud that Twilio provides its customers. This is the undergirding of the environment that it provides so that its customers can write their applications that are then deployed.

The second major piece of functionality is what Twilio calls its super-network, which includes 22 data center in 7 regions, that is interconnected with the carriers of the world, and which enhances the performance of the Twilio network. Basically, if the Twilio customer is building a set of voice, messaging, and authentication apps, they need to perform without delay in order to make the end-user experience positive. This is likely to be an ongoing process, although presumably, at scale, the efficiencies of the network kick in and the capex required diminishes relative to revenue generation. The super-network is one of the significant differentiators and barriers to entry.

The final component of the company’s set of capabilities is its business model. It costs very little to open an account with Twilio - there are customers who spend $5/month, which is about the price of a cup of coffee, but the goal is for those small customers to build applications that become ubiquitous, at which point revenues become significant and the company maintains its growth. Twilio has 1 million developer accounts and is adding 30,000/month.

Twilio has some exceptionally visible customers, including Uber, and also Amazon, which is an investor, a customer and also a vendor. Other customers of note include Airbnb, Lyft. Coca-Cola, Home Depot, and Nordstrom.

A typical use-case for Twilio is with Salesforce, which is a solution partner, as opposed to an end-user client such as Home Depot. CRM has embedded Twilio in its software sales cloud software. CRM customers can now call their customers with one click directly from their browser and without the use of an external phone system. This is a nice productivity enhancement for sales people, who no longer have to log calls manually into the Salesforce app, or worse still, leave Salesforce to effectively interact with their customers. The number of things that can be done with the software in this category is more or less limited by imagination, and most of these solutions are going to have obvious and close to instantaneous paybacks.

ING Bank is another significant customer and will use the software to replace 17 different legacy call center systems. To replace the disparate systems, ING will build its new communications capability around the Twilio platform with what is called omni-channel capability.

I do not think there is much question that the kinds of solutions that Twilio sells are very popular, will remain so and will create a large market. The issue for anyone is going to be to predict what “large” means in terms of quantification of market size.

One thing to note about Twilio versus its competition is that it is the high-priced spread, and by quite a bit compared to its competitors. That isn’t necessarily an issue - many times, one gets what one pays for. Twilio has major customers, such as PayPal, Coca-Cola, OpenTable and Uber. One assumes they have all negotiated far better prices than you or I might, but having them as customers certainly adds an cachet to TWLO’s solution.

My guess is that Twilio will continue to dominate competitively. With almost 1 million developers using the software, it is going to be a difficult for larger enterprises not to do business with Twilio, whether or not it is more expensive or lacks some “nice-to-have” feature. But my guess is also that the Twilio pricing model is going to be subject to severe pressure and will not be able to stand indefinitely.

Is Twilio Overvalued or just Overhyped? I do not expect that the functionality that Twilio sells to be a passing fancy, but I think its valuation is more at risk than is realized. Let’s take a look at valuation metrics on our own. Twilio, as I write this has an EV/S ratio that is a stratospheric 17X.

Remember that this is not a company that can build much deferred revenue; it derives most of its revenue from the usage of its products in applications built by its customers. Part of the way that fans justify the valuation is the metric called the dollar-based net expansion rate, which compares revenue generated by their base customer accounts on a year-over-year basis. This metric has been above 140% in recent periods. That is a strong number, no doubt, and one that is greater than many other vendors - but the fact is that this is a company that sells to developers who create the apps and then widely deploy them. Since the company charges for usage and is presumably at an early stage, that number has to be elevated if the model is working at all.

R&D spend increased by 85% yoy and is now 27% of revenues. It can currently afford to spend 27% of its revenues on R&D because it spends such a small amount of its revenue on S&M. It spent only 26% of revenues on S&M, which actually included some money that was spent on its annual user conference. Is that a sustainable level? Almost no other software company has ever been able to maintain such a low percentage for any length of time, and the ones that did ultimately ran into trouble acquiring revenues and were bought out at less-than-attractive valuations.

The current consensus calls for negligible increases in sequential revenue this quarter and nothing spectacular in Q4 either. Management has forecast that the current quarter will incur a loss of between $.09 and $.10, which is sequentially greater than the $.08 loss in the company’s Q2. (Saul:They actually grew revenue by 11% sequentially, and lost only 4 cents)

Stock-based comp has more than doubled so far this year. That being said, it is running at about 6% of revenues through the first 6 months of 2016 - which, compared to peers, is a drop in the bucket. $7 million is to be spent on the company’s new offices in a trendy area of SF, compared to cap ex for the 1st half of a bit less than $2 million.

Twilio will rise or fall on the revenues it can generate as applications built on its platform get proliferated and are deployed. If it happens that way, without demur from users, then the company will have the luxury of spending on development to build a better product that has the flexibility and the scalability to maintain or build a competitive moat. But for me, suggesting that Twilio can charge 2X the sums charged by competitors, some of which have distinguished pedigrees in their own right, is simply a risk too great with a valuation at current levels. Twilio is a name to avoid, and depending on market conditions, a name to short.

Summing Up
Twilio has been a shooting star since its IPO.
It is clearly the category leader in a very hot space - that of providing tools with which to build communications capability on the part of large web users into the applications they design.
There are a formidable numbers of competitors which offer comparable capabilities at much lower prices.
Twilio shares are selling at extraordinary prices.
It has a very lucrative pricing model in which customers with deployed applications pay on a usage basis.
It is possible, with this pricing model, for users to pay extraordinary amounts for the Twilio service. At the moment, it seems as though FB subsidiary WhatsApp is paying something around $2 million per month to Twilio.
Its S&M spend is at extraordinarily low levels.
The combination of very high valuation and the likelihood that competition will erode the company’s pricing model make Twilio a short, I believe.

What Twilio is most certainly not is some unique force of nature with a competitive moat that might withstand serious pressure. Companies without technology moats and minimal S&M spend are companies with vulnerabilities. Twilio is such a company in my opinion. Disclosure: I may initiate a short position over the next 72 hours. (Saul: He didn’t, as far as I know)

Nov 2016 – Sept quarter results
Base revenue of $64.1 million, up 75%, and up 14% sequentially.
Adj operating loss of $3.4 million, compared with $4.6 million a year ago.
Adj net loss of 4 cents, improved from 7 cents
Active Customer Accounts - 34,457, up 45% from 23,822 a year ago
Dollar-Based Net Expansion Rate was 155% for the quarter, compared to 156% a year ago.
Announced the Twilio Enterprise Plan, a new subscription product aimed at meeting the needs of large, complex organizations.

Conference Call
Our Q3 results came in well ahead of our guidance. Some of the highlights were base revenue growth of 75%, active customer account growth of 45% and a dollar-based net expansion rate of 155%. We added more than 3,000 new active customer accounts, and some great new logos like Morningstar, the Washington Post and Prudential.

The Twilio Enterprise Plan is an offering aimed at serving larger more complex businesses as we work with the developers of the world to bring our building blocks into their organizations. Their projects must often comply with a host of compliance, security and administrative requirements. The Twilio Enterprise Plan provides features like auditing, single sign-on, etc. We believe this product will help us drive further success in enterprises by both accelerating sales cycles and opening up new opportunities.

Nov 2016 – Tinker’s Take
Two things to allow their premium prices:
(1) Twilio, of all its competitors, is the only network to have never failed even during disasters, and
(2) although not as complex as replacing an operating system, you are still writing complicated applications that link to and are made with specific APIs, which creates switching costs that will probably just grow over time.

The premiums we are talking about (that they charge more than competitiors) are pennies, quarter of pennies, that sort of thing.

My real concern is that, because Twilio largely gets paid per communication, and not through licensing per se, that that enormous volume growth gets mitigated by volume pricing coming down over time. I am more concerned as to how low premium pricing might become in the future. Twilio is more expensive than any of its primary competitors. But the marketplace does not seem to care. As you can see, we are talking quarters or 100ths of a penny difference per minute, that sort of thing. These companies are willing to pay $5,000 or more per month just to get priority customer service, so those small differences are not likely to cause huge incentives to switch. On the other hand, all of Twilio’s competitors must offer discounted rates to earn their own much smaller market share of business.

SMS and text messaging are the current core products, but that will switch to video at some point. Twilio knows this of course, and they have the most money to be able to acquire the technology or further develop it, but one technology disruption at a time.

We seem quite a long ways away from Twilio having to discount given how fast the market is growing, and how dominant Twilio is in terms of developer mindshare and product utility: from customer service, to uptime and quality, to documentation, to number of developers trained on the system, to depth of product offering, to R&D, to product evangelism (where Twilio is everywhere developers go, and developers now seek Twilio out at conventions and such).

Twilio is said to have 80% or greater marketshare. They have more developers on their platform than something like the next 5 combined (or something like that).

Twilio does not dominate in all aspects of the communication chain. As an example, other companies are better at video communications, for example, or better at some other aspect, but in total, Twilio offers the best product. And while the best product does not always win, it does when all your software developers know how to use Twilio, even if they are also familiar with a competitor, they will always also know how to use Twilio. So Twilio is in every single discussion in regard to what to use for an API for developing communication software in any app.

One thing I do recall, is that Twilio has all the markings of a Top Dog, First Mover, in important emerging industry, with sustainable competitive advantage, smart management, smart money backing it, considered overvalued, etc.

The one thing with Twilio is what is it worth. It is all in the future value. At $2.8 billlion minus cash on hand, it is probably worth more than that, albeit, smart money priced it at about half the price last summer…My concern again is how profits will scale with volume. Other than that, TWLO has the entire pedigree one looks for in a true Rule Breaking market leader.

TWLO has two types of customers: variable, and contractual. The variable customers have no long-term commitment to the platform, and can quit with no notice.

Of the variable customers, Facebook’s Whats App was 17% of their business just 6-12 months ago. TWLO continues to grow its business rapidly, while its biggest customer, which is a variable (and therefore least dependable type of customer) is now down to a much less catastrophic 7% of revenues.

Everyone is trying to scare us into thinking a TWLO-killer product will be coming. I don’t believe that will happen until we move to another technological level. It always happens. PCs killed mainframes, broadband killed AOL who was king of dial-up, etc. It takes a new technology paradigm to replace the former dominant player. The key is to watch and make sure Twilio has already gotten there in a dominant fashion or not.

The price has come down because Twilio rushed out a secondary offering on which it only gets $50 million and insiders (largely the venture capitalists) get over $400 million, and they priced it at $40 a share when the share price was closer to $60 a share, having recently peaked at $70. Someone decided that the offering price had to be made at a substantial discount to the current share price.
No better indicator that the shares were overvalued.

At the current share price the primary concern is whether or not Twilio’s platform will continue on to control market leading premium and power.

I just read an article regarding the future 5 to 10 years from now when even all our devices are connected. Where your refrigerator calls the repairman, or the vending machine calls the supplier needing more product or maintenance. In that world the machine needs to message a person. Each such device will have an app needing a Twilio like messaging solution. Enormous volume there, but one might assume volume discounts will be required. On the other hand call centers will be adapting APIs en mass and this is a premium product.

The only point I am taking so far from the CC transcript, as so much of it is just programmed optimism and PR, is to read between the lines of just how enormous these markets are, and how complicated they actually are to implement. But you get the sense of the immensity of the future here. How this will simply redo nearly our entire communication infrastructure over the next decade or two.

Nov 2016 – Bert’s Take: Even at the end of November, Bert was pretty negative:

As an investment, I would think that Twilio can work well for the next quarter or two. Over the longer term, I feel it has a number of issues that will do it in. I don’t think it will be a good longer term investment because of the pricing model it uses and because of the simplicity of the app that it sells. So, next quarter or two, OK as a long investment, beyond that I would be very wary.

Nov 2016 – More from Tinker
There is never an apple-to-apple comparison, but I am going to use word processors and spreadsheets. Word and Excel are by far #1. They both have retained their pricing premium despite the fact Apple and Google give their respective programs away for free! And Apple’s stuff is great, and many people say Google’s stuff is great.

But Word and Excel stay the leader by far because it is the only format that guarantees compatibility. In fact, without Word ported to iOS the iPad Pro would simply not be possible. It is too important, despite Apple and Google offering great alternatives. It is not the functionality, but the network.

Twilio by far dominates in developers and user interest. Every decision made to choose an API platform will have Twilio in it. There will be no such decision that this will not be the case for. Once you learn to use it, you don’t want to learn to use anything else. And frankly, why would you? Practically everyone is using Twilio, and taking the time to learn something else has less value. And if everyone is using it, it means that finding new developers will be much easier than if you use a competitor.

And once you start building out infrastructure with Twilio, you’re certainly not going to stop and add unnecessary complexity by adding a competing second or third platform.

The network effect is funny that way. I cannot speak to whether or not Twilio will have that sort of effect. All I can attest to is that Twilio has managed to continue to grow its market dominance, and grow in valuation, much faster than anyone predicted. I guess it is possible a competitor will create a viable alternative, but it’s a long shot

What people don’t seem to see is that TWLO is not selling one time licenses but long-term recurring revenue products. Once a product is built in, TWLO will get paid for it every time it is used. TWLO’s methods of billing varies, but for the most part it will be long-term recurring revenue for each app that makes it into operation and succeeds.

Dec 2016 – T-Mobile and Twilio partner on IoT
T-Mobile will supply wireless connections to Twilio’s developers. T-Mobile will provide wireless connections for a new service from communications startup Twilio aimed at the growing Internet of things, or IoT. Under Twilio’s new effort, developers will be able to use wireless voice, text or data service that can be embedded into Internet-connected devices or sensors. A connected drone or water meter could use Twilio’s service to send information over T-Mobile’s wireless network back to a customer’s data center, for example.

Dec 2016 - MF Article by Rick Munarriz
Can Twilio stock keep going after last week’s 10% pop? Reports of an expanded deal with AWS and Drexel Lambert initiating coverage with a buy rating helped push shares 9.6% higher last week. Twilio stock is up 115% since going public at $15 in late June.

Amazon, naturally, is also making Twilio a big part of AWS. The two tech companies first teamed up this summer when Twilio’s software was tapped to power text messaging delivery within AWS. The partnership may be expanding to cover voice notifications, too.
Twilio’s deepening its ties with Amazon isn’t a surprise. Amazon became an investor in Twilio last year, it became a customer this year, and Twilio CEO Jeff Lawson, who is an ex-employee of Amazon, and was a keynote presenter at an Amazon developer conference earlier this month.
A wild first six months - Twilio seems to be doing things right. Growth is slowing. Revenue climbed 62% in its latest quarter, but its guidance for the current period calls for growth of just 43%. However, with its account base continuing to swell, up 45% over the past year, and Twilio expanding its deals with more than just Amazon, revenue should remain growing at a healthy clip in the near term. Its top-line guidance for the fourth quarter will prove to be conservative.

End Dec 2016 – My Conclusion (Saul) – Keep holding! They are growing rapidly, and in spite of what Bert said, they are very close to breaking even (lost 4 cents last quarter). They also have a close relationshiip with Amazon (and could be acquired).

Jan 2017 - It has been awarded the ISO 27001 certification (Information Security Certification).

Jan 2017 – Seeking Alpha (by Growth Hunter) Twilio: The play on app-to-person messaging
TWLO is ideally positioned to benefit from the growth of CPaaS market over the next three years.
A cost-effective and efficient sales strategy will lead to continued customer growth.
The stock is undervalued relative to peers at similar stage in their growth cycles.
Fears of insider selling are overblown.
It is a leading Communications Platform-as-a-Service (CPaaS) provider. Through its straight-forward APIs, it allows developers to seamlessly integrate messaging, phone, video, and authentication tools into their own applications.

Have you gotten a text alerting you your package has arrived? What about one that your prescription is ready? Those are examples of developers using TWLO APIs to communicate directly with you. This is called App-to-Person (A2P) communication, and as you probably realize, the market is growing by leaps and bounds.

With its unparalleled cloud-based technology platform, its leading position in the fast-growing cloud-based A2P SMS market (text alerts), and an efficient and effective sales strategy, Twilio is a prime example of a beaten-down growth stock ready to rebound.

Strong Demand Growth
IDC expects the cloud-based API A2P SMS (messaging) market, which is TWLO’s bread and butter, to grow from $0.2 billion in 2015 to $8.6 billion by 2019. (That’s enormous growth). This will be the primary driver of revenue growth, which I expect to total $370 million in 2017.

Efficient, Effective Sales Model
TWLO markets its APIs directly to software developers looking to incorporate text alerts, voice messages or other types of A2P communication into their applications. It allows developers to use its APIs for free during product development, then, once the developer is set to deploy their product, they purchase a certain amount of capacity. By engaging directly with developers and providing them with the APIs for free, TWLO has been able to get in the door with a lot of enterprise customers without major marketing expenses. Once one API is being used, developers tend to use other Twilio tools, driving expansion in existing customer revenue.

Jan 2017 – Rec by one of our sponsors paid services (greatly shortened as you see)
Twilio’s broad range of voice, messaging, video, and authentication services is winning popularity among some of the tech world’s biggest names and brightest up-and-comers. Twilio is making itself indispensable to the companies that are indispensable to us. We want to be a part of its rise — and we think you should, too.

Feb 2017 - Upgraded to outperform by JMP Securities
JMP analyst observes strong tone of business with “a sea of inbound leads" among salespeople at Twilio.

Sees longer-term opportunity for large growth over a multi-year duration for Twilio’s horizontal, business-to-developer cloud communication platform, similar to what the case was for Amazon Web Services a couple of years ago. Raised price target to $35.

Feb 2017 – Dec 2016 quarter results.
Base revenue of $75 million, up 73% and up 17% sequentially.
Gross Margins of 59%, up from 56%
Adj operating income of positive $0.1 million up from a loss of $5.0 million yoy.
Adj net income of 0 cents, up from a loss of 7 cents yoy.
Dollar-Based Net Expansion Rate was 155% for the quarter, down from 172% a year ago.

Full Year 2016
Base revenue of $245.5 million for the full year 2016, up 79% from the full year 2015.
Adj operating loss of $12.2 million, up from a loss of $22.9 million for the 2015 year.
Adj net loss of 16 cents up from a loss of 34 cents.

Conference Call – Please remember that we are currently operating our business to optimize for reach and scale to drive revenue growth rather than maximizing for gross margin. Operating expenses were $48.2 million, or 59% of revenue. This compares to $34 million a year ago, or 66% of revenue. Our adj operating margin improved yoy from negative 10% to slightly above breakeven.

Tinker’s Take on results
It’s a land grab. Once you get a customer, it is a long-term customer with switching costs. Thus, future value is highly deterministic of marketshare grab (i.e., land grab). It would be very short sighted for TWLO to toss out marketshare to make small profits today. Profits at this point in time would not only be plain stupid, but frankly, destruction of value and malpractice.

I think it is error to judge TWLO based upon traditional profit metrics. More relevant is customer acquisition, business dominance, product adoption, revenue growth, and cash burn. Twilio is burning cash in a minimalistic manner at present.

That is the way I see it. Either TWLO’s business plan works out, or at some point it will become just another story stock. I don’t think volatility is relevant unless you think that Twilio cannot build this empire. Such is investing in small disruptive companies.

Saul: My take on results I thought they were almost apologetic about having made positive earnings, and wanted to make sure no one expected them to continue doing so, before their planned profit in Q4 2017. The very fact that they forecasted way in advance that they will turn profitable in Q4 2017 means to me that they can turn on profits whenever they want. But that’s just the way I see it.

Apr 2017 – Tinker’s take on AWS announcement What has happened is that AWS has created a product that creates a virtual call center for anyone who wants to set up shop, plug and play. Your business, with nothing but internet, can set up shop, no overhead, and pay a variable cost for a call center, only for the time actually used (and probably something for a set up fee, or server reserve space, or something like this). Something that usually takes lots of fixed overhead in buying and installing new equipment, and then you are stuck with all the new phones, routers, etc., never to be used again, not to mention the months it takes to get it up and running to begin with. AMZN figures this will be great for things like Christmas focused marketing businesses (set up a call center in October, turn it off in mid Jan), or I can imagine a charity fundraiser, etc
AWS has released this product, ready to go. As part of that package, TWLO is used to enable voice calls (which is the additional partnership of TWLO with AWS). All enabled through software.

May 2017 –It seems I was right to get out over the Uber situation. (Remember that this is what I wrote AT THE TIME, not now)
Twilio tanks, down 30% despite Q1 beat as outlook disappoints.
Twilio is down 30.5% and shedding nearly a billion dollars in market cap, after earnings beat expectations but contained below-consensus guidance for the current quarter and year, base revenue rose 62% and 7% sequentially.
The CEO alluded to “changes in the relationship with our largest customer" – likely Uber – but "our momentum across the business continues to be strong, with a 42% year over year growth in Active Customer Accounts and a 62% year over year growth in Base Revenue during the quarter.”

Aug 2017 – Chris’ Take
I sold my small position in NEWR this morning. I decided to put that money in TWLO doubling my 1% position to 2%. Why TWLO?

The have demonstrated scalability. When I look at their Customer Count for the past couple of years, and their dollar-based net retention rate, the numbers look incredible and demonstrate scalability is working. Customers are spending more and staying with TWLO.

Yes, Uber decided to move some of their business away, but I see this as a special case. As long as I see the customer growth this high and the customer spending on TWLO increasing, I will like it.

And his take on June results:
Revenue was $96 million vs guidance of $87.5 million

Added 2735 new customers, up 41%, and up 6.7% sequentially. Active Customer Accounts rose to 43,431 from 30,780 a year ago.

Gross margins still 56%.

OpEx as a percentage of revenue dropped sequentially from 74% to 63%. That’s a pretty significant move for one quarter. If this can be maintained and further improved, it’s evidence of scaling.

Base revenue (the recurring kind) was $88 million, up 55%. The ttm base revenue growth rate is 65%.

If you think that Uber is a canary in the coal mine (other TWLO customers will do the same) then show me the evidence. You would see gross margin pressure. You would see declining Net Dollar-based Expansion. You would see TWLO management confirm it when asked on the conference calls. Market seems to like the report as the stock is up 11% after hours.

Conf Call Excerpts:
Our base revenue was up 55%. Without Uber, it grew even faster, up 65%. Uber was 9% of revenue in the quarter compared to 12% sequentially, and 13% a year ago.
In dollar terms, revenue from Uber was roughly flat this quarter versus a year ago. Our dollar based expansion rate, was 131% in the quarter, or 137% without Uber. Uber’s impact will continue to dampen our base revenue growth and expansion rate until we lap these larger figures in mid 2018.

We planted important seeds for future growth by adding more than 2,700 active customer accounts.… customers like Salesforce, Netflix, Lyft and Weight Watchers…

With roughly half of our headcount in R&D, we invest a tremendous amount of money to innovate on behalf of our customers

… approximately 30,000 production deployments of Twilio software this year with a new feature or product coming in every 3.5 days on average.

We have roughly 1.6 million developers registered on our platform, up from 1 million just a year ago

We introduced a machine learning product called Understand that will allow our customers to capture the meaning behind their customer interactions and drive actions based on that meaning.

The biggest highlight was the launch of the Engagement Cloud. The Engagement Cloud is a set of higher level APIs that encompass best practices and accelerate our customers’ ability to adopt Twilio.

We’re currently operating our business to optimize revenue growth rather, than maximizing gross margin. (Naturally).

Saul: My Conclusions – It’s doing a lot better than I, or most other people, expected, and it’s worth a small to medium position. (I got back in)

Dec 2017 – Bert revisits Twilio
The shares fell sharply last month, despite a decent quarter. They haven’t attracted investor favor since they announced that Uber was de-emphasizing its usage of their product.

Outside of the impact of the decreased revenue from both Uber and from WhatsApp, Twilio has been compiling strong sales results which showed 63% growth in the past quarter.

It is stressing its customer acquisition goals and has suggested that it has prioritized that metric and is de-empahsizing gross margins in the near term.

Twilio - Has it started to find its footing?
Through all of the share price turmoil, it has continued to grow what it calls its “base” revenue at a good rate, and excluding the impact of WhatsApp and Uber on the results, the balance of the company was able to grow 63% this past quarter, consistent with growth that has been maintained at that pace for several quarters now.

Since I wrote my first article just after the IPO, the shares have become far cheaper on an EV/S basis. Based on expected results for 2018, Twilio has an EV/S of about 4X. While profitability is still not forecast, even on a non-GAAP basis, at the current level of EV/S, the shares should be interesting as revenue growth likely re-accelerates in the first half of 2018, and as they execute on developing a competitive moat.

It has significant first-mover advantages and an exceptionally broad product line that tend to offset its position as the premium price offering in most spaces. With the negative optics from the Uber divorce at a peak this quarter, and well reflected in the share valuation, the current share price (a bit under $25) is probably one of the better buys to be had in enterprise software.

What is Twilio?
Twilio is a tool used by developers for embedding messaging, voice and video directly into software applications.

It has exceptional acceptance by developers because it is easy to use when compared to alternatives.

Over 1,000 mobile carriers handle its voice and SMS services.

It uses priority routing to choose the best carrier to handle users’ data.

It is the high cost provider - but for the most part price has not been a major determinant of market acceptance. Users feel that Twilio offers advantages in function and in variety of solutions, and hence pricing has not become a major issue in terms of acquiring new users.

Twilio continues to enjoy a substantial first mover advantage and is recognized as the go-to vendor for cloud based communication APIs.

Twilio has a plethora of marquis customers, including such household names as Netflix, Coca-Cola, Airbnb, VMware and Lyft.

Twilio has based its go to market strategy pretty exclusively on selling to the developer community. That has been reasonably successful, but developers are not decision makers who spend big dollars on IT projects. While Twilio will likely always have a focus on selling to developers, it self-evidently has to address decision makers in its space outside of exclusively the development community, i.e., it has to develop a strategy to sell to enterprises at a level beyond that controlled by developers.

One of the problems that Twilio has to overcome is that its pricing model can easily lead to major annual expenditures that really haven’t been approved or understood by senior executives of client companies who see their bills from Twilio escalate based on usage. Developers find the Twilio application to be “elegant” and easy to use, but the amount a Twilio commitment might cost when it is embedded in an application deployed across a large enterprise is rarely a significant consideration - for developers. Twilio clearly needs to enhance its positioning within line-of-business managers who have a different perspective.

Last quarter, the company’s continued its rapid acquisition of new name accounts (3,000 added, a sequential increase of 7%). The company is achieving even more rapid growth of accounts producing revenues of more than $10k annually (43%) and a remarkable 74% increase in the number of active customer accounts with annual revenues of over $1 million.

The fact that Twilio is hiring at such a rapid pace, and has been very forthright about its priorities, may be discouraging to some investors, but it seems a prudent way to run a business with this business model

I think it is self-evident that for a company like Twilio, maximizing customer acquisition should be its priority at this stage of its evolution. Any company with a high dollar based expansion rate based on usage, is almost surely well served by maximizing customer acquisition and not focusing on near-term profitability. I would rather recommend a company with a clear path and some track record in terms of reaching profitability.

Bert’s Conclusion: That said, I think the investment case is straight forward. I expect that it will show significant growth acceleration as it laps the problem it has had with Uber. I think some of its new sales tactics will continue to foster the growth of numerous accounts billing in excess of $1 million annually. It has a leadership position in a high growth space and is spending at a prodigious rate to enhance its technology moat. Given the relatively modest valuation and the constrained expectations, the shares represent an interesting value. While I have not yet initiated a position, I am contemplating establishing one. Disclosure: I may initiate a long position in TWLO

Bert’s Addition to his portfolio:
We have added Twilio to the high-growth portfolio. The shares have been substantially de-risked by the latest share price pullback. At this point we think the risk/reward factors are substantially in our favor.

Jan 2018 My Question - Are you still feeling good about Twilio? I had some hesitation that some of the big boys like Google or Microsoft might compete with them.
Bert’s take - One of the things to recognize about Twilio is that it is now, and will remain, a best of breed competitor in its category. Almost all software vendors will compete with each other at some point. Twilio has had and continues to have a strategy of catering to developers. That is a hard strategy to beat. Lots of people say this or that or the other solution is a commodity. And in the case of Twilio, they look at gross margins and wrongly conclude that the company has been cutting prices to ward off competitors. Twilio wards off competitors because of a very feature-rich menu of ways to develop applications.
I cannot tell you that Twilio has some unique feature that cannot be replicated. What I think I can tell you is that Twilio is basically dedicated toward incorporating very specific capabilities in its platform that developers say they want and need. A big company such as Google, finds it very hard to have that kind of flexibility. That is why best of breed vendors work.

Feb 2018 – Dec 2017 quarter report
Quarter Highlights
• Base revenue of $105 million, up 40%, up 14% sequentially up 62% excluding Uber.
• Adj loss from operations of $3.9 million, down from a profit from operations of $0.1 million a year ago.
• Adj net loss of $0.03 , down from breakeven the year before.
• Dollar based net expansion rate of 118% but 136% without Uber.
Full Year Highlights
• Base revenue of $365.5 million, up 49%.
• Adj loss from operations of $20 million, worsened from a loss of $12 million in 2016, but still only 5% of total revenue.
• Adj net loss of $0.19
• 48,979 Active Customers, up from 36,606 a year ago.
Q4 was the toughest comparison for Uber results, so this drag should lessen as we move pass this peak through 2018.

Competition: We have a very fragmented competitive environment. There are no single competitors that are worth pointing out.

Feb 2018 – Bert’s Take : A real hyper growth company building a great moat
Twilio achieved exceptional growth in Q4 - particularly after adjusting for the “Uber” impact, and saw some operating leverage.
It increased its guidance, although it seemed quite restrained in its forecast.
Gross margins ran a bit ahead of prior forecasts, suggesting that part of the short thesis regarding lots of price competition remains on hold.
It continued to capture new enterprise accounts that leads me to think it can sustain at least mid-30% growth for years to come.

What’s next and can the shares still be bought? The shares were up 35% last week, and while part of that was doubtless a product of the market recovery, and some of that may have been speculation about the investment by Salesforce, most of it was related to the quarter and its guidance. Short answer: I think Twilio shares are still a bargain.

Twilio’s gross margins. One of the key issues that investors have looked at is that of operating leverage and in particular Twilio’s gross margin progression. Twilio has a business model that’s a bit different than those used by most SaaS software vendors. Essentially, the company provides its developer/customers with what are called APIs (application programming interfaces) that facilitate the construction of an application. These applications can include voice, video, text messaging, chat, wireless and video. When users deploy their applications, Twilio charges on a per minute basis with different rates for receiving and placing calls through the Twilio network. While there are many actual and potential competitors that Twilio faces, most of them either can’t or will not choose to spend $200 million/year (my projection of run rate spending by Twilio in terms of R&D in 2018).

Management suggested to me that it was far too slow in providing better pricing tiers for Uber which ultimately found the economics of developing its own network compelling. The upshot has been that Twilio has been reporting declining gross margins for some period of time now. Twilio’s GAAP gross margins have declined and were 52.3% last quarter down from 57.8% in the year ago period during which the company’s contribution from Uber was at its apogee. This has lead to some suggesting that the decline in gross margins is a function of increased price competition and foretells a story of decline and market share losses.

Management on this latest call made the point of suggesting that gross margins were basically under the control of the company and were not under pressure because of competitive pricing. What’s actually happening is that pricing for Twilio is not under some new level of pressure but that it is selling larger deals which are at margins reflecting the size of the commitments customers are making.
What appears to be a decline in gross margins is nothing of the kind, but more the evolution of a company which has primarily sold very small deals to developers to a company selling much larger deals to enterprises.

Twilio management has stated on several occasions that its focus will be on maximizing growth and not in managing to maximize gross margins. It is hard to ignore the number of large enterprise deals the company was able to close last quarter while maintaining gross margins at a consistent level sequentially.

Twilio has recently started to offer applications services which crossed 10% of revenues last quarter. Application services are specific tools that help developers build their app. One of the more charmingly named services is called Twimlets which allow developers to provide their application with basic voice functionality without any programming. The point about applications services is that unlike deployed Twilio applications, the margins on these tools are typical of software, and while not specifically reported by the company are likely to offset gross margin pressure the company might face as it sells larger deals to larger enterprises.

At this point, Twilio has a large infrastructure of partners that offer Twilio powered applications that can be used for a variety of solutions. There are pre-built solutions using the technology and there are third-party developers who will customize something to suit the needs of a particular customer. Basically, Twilio is selling its technology through these developers and again based on the way these kinds of transactions are structured, they are going to enhance reported gross margins.
The elements of a competitive moat - Many observers think of Twilio as a supplier of voice and text messaging APIs and wonder how a company can build a competitive moat offering such basic technology. That indeed has been Twilio’s mainstay since it started operations and it probably still accounts for the bulk of the company’s revenues. But the reason large enterprises choose Twilio is neither because it is a marketing behemoth (it is not), or because they are unaware of the major price premium that the company charges for its services.

Since getting an enterprise to buy a communications platform is going to be done methodically and with much attention to detail, what is it that Twilio offers that has led to its capturing some of the enterprise deals that it has closed on recently? Part of the answer is that while the price is important, so too is the reliability and geographic scope of the service offering. Being the largest company in the space is, in itself, a significant differentiator for some of the larger enterprise buyers. Twilio offers potential customers its Super Network, a network of networks and the technology that Twilio uses to ensure that its customers are never plagued by any network disruptions.

Twilio is rapidly moving beyond simply enabling voice in apps. It offers what it calls an Engagement Cloud, which helps developers build multi-channel contact centers and substantially enhances the productivity of developers who use it.

It also offers the programmable cloud, which includes some of the functionality listed above but in a more overarching set of specific solutions. The communications cloud includes a set of tools that allows developers to embed messaging, video and authentication capabilities into an application. Again, this is all about increasing the productivity of developers. I think the best example of a very sophisticated app built on this technology is the ride hailing app that Uber built in the time it was a Twilio partner. Basically, communications, besides the facility of voice, is all about context. A ride-hailing app needs to access payment data, location of the customer, location of the driver, a map, etc. It would be very tedious to try to put this in a single app without tools - and Twilio provides the tools. Even though that relationship has now frayed, it is a good illustration of what can be accomplished using Twilio APIs.

Many of the applications that developers want to build can be constructed using pre-built components that are available through the Twilio ecosystem. The moat is all about features, geographic coverage and additional functionality. It appears to be getting broader and deeper.

A few days ago Salesforce, a long-time Twilio customer, announced it made a significant investment in Twilio shares, about 1% of the current share base. I think that what it suggests that Salesforce feels that Twilio has proprietary technology and wants to ensure that it remains a part of Twilio’s ecosystem. Does Twilio have proprietary technology and a significant competitive moat - I think Salesforce believes that and that is a pretty strong proof point for me.

Twilio profitability and the investment case for the shares. Twilio does have a somewhat different business model than some of the hyper-growth vendors about which I typically write. Not only does it have a significant level of cost of goods involved with operating its network and working with traditional communications, but it spends more on product development than on sales and marketing. Much of the its focus is on selling to developers rather than selling to business line managers and hence the focus on product development spend as compared to sales and marketing costs.

Twilio is not yet cash flow positive on a sustained basis, although it was cash flow positive last quarter. Thus far, it has not built a major balance of deferred revenues which is not surprising given its land and expand paradigm and its focus on sales to developers. As it achieves a greater level of sales enterprises, it is possible that deferred revenue balances will grow more significantly. While it is likely to generate cash this year, it will be a couple of years more before it might be valued based on a cash flow basis.

During the course of the conference call, the CFO talked about growing in the low 30% range for the indefinite future. Given the success the company had last quarter in closing enterprise deals with new names, I think the company will continue to over attain its forecast by a notable amount. Indeed, during the conference call, the company COO essentially suggested that given the signings discussed in the company presentation, the visibility it has for 2018 is excellent, and potential upside in 2018 is considerable.

Most companies with growth rates that are sustainable in the mid 30% range actually sell for far more than 5.5X EV/S. Twilio may not be a classical bargain, but compared to many other hyper-growth names it certainly is attractively valued at this point. Disclosure: I am are long TWLO.

Mar 2018 – Launches Flex - Twilio launched a full contact center solution called Flex. It brings together virtually every part of the existing Twilio infrastructure and platform for developers, and bundles it with a rather slick user interface for companies that want to set up an out-of-the-box contact center or update their existing deployments.

Twilio’s expertise has long been in providing backend communications services and its design expertise is mostly in building APIs, not user interfaces. With this move, though, it is giving enterprises (that have hundreds or thousands of people in a contact center) a full stack contact center with a full graphical user interface.

The main design philosophy behind Flex is to give users maximum flexibility. Businesses today have to choose between going with products that they can’t customize themselves, so that they have to rely on expensive outside vendors that will do the customization for them (which also tends to take a lot of time), or a SaaS contact center that can be quickly deployed but is hard to scale and lacks customization options. Think of Flex as an application platform. It takes its cues from Twilio’s experience in working with developers and gives enterprises an easy API interface for customizing the service to their liking, but also provides all of the necessary tools out of the box.


I just have to thank all the people who wrote to me off board to thank me for the Twilio 2-part deep dive. I can’t write back to each of them but I really appreciate their kind words.