Zendesk

Investment Analysis Clubs Saul’s Investing Discussions
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Anyone familiar with Zendesk (ZEN)? I did a quick search on this board and NPI. There were a few stock performance posts grouping ZEN with some other SaaS stocks, but I couldn’t find any in-depth discussions on the company itself other than an NPI thread a few messages long in March, 2017. I apologize in advance if I’m rehashing a company that’s previously been discarded.

The Company:

Zendesk is a SaaS company founded in 2007 that provides tools to optimize customer support. It lets businesses track, prioritize and solve customer service interactions across phone, chat, email, social media or any other channel. Interactions can be integrated and tracked across all channels regardless of communication format. There is a central dashboard that lets the client manage it all in one place. Gartner has classified Zendesk as a Leader in Customer Engagement three years in a row, although it trails some considerable competition in this category (Oracle, Microsoft, Salesforce, Atlassian). Some notable customers include airbnb, slack, OpenTable, Uber and Shopify. It appears they have several different products depending on how companies interact with their clients. The software is purchased through monthly or annual subscriptions per agent. These are the basic software modules:

Support - Track, prioritize and solve support tickets.
Guide - Manage self-service answers to customers and agents.
Chat - Customer service chat and messaging platform.
Talk - Personalized phone support.

In May 2018 Zendesk released an all-encompassing product named Suite that can integrate some or all of these modules into a customized platform. The company says they are very pleased with the response thus far. They also have the following add-on products:

Connect (also released 5/18)– Lets companies create proactive campaigns that automate customer communications based on history or actions. This can include marketing info as well as anticipating potential customer service issues.
Explore - Analytics for agent performance and customer usage.
Side Conversations – A module that allows customer service agents to directly talk to other departments or even company partners to help solve issues.

Financial History:


Adjusted Revs					
	Q1	Q2	Q3	Q4	YR
2016	$68.46	$74.20	$80.72	$88.62	$312.00
2017	$93.89	$102.10	$112.79	$123.43	$430.49
2018	$129.79	$141.88	$151.00	$161.33	$584.00

Rev %					
	Q1	Q2	Q3	Q4	YR
2016					
2017	37.1%	37.6%	39.7%	39.3%	38.0%
2018	38.2%	39.0%	33.9%	30.7%	35.7%

The Q3/Q4 numbers are from the company’s forward estimates. While it appears they are predicting slowing growth, ZEN has traditionally sandbagged estimates with consistent beats and raises. At this point I don’t have any reason to think that won’t be the case going forward. It looks like they should beat the ongoing 35% revenue growth cited in the Knowledgebase as potential candidates for this board.

Other highlights:

  • Zendesk is FCF positive the last 7 Q’s.
  • EPS is trending the right way. FY16 was -$.22. FY17 was -$.13. So far in 2018, they are $.05 (Q1 $.02; Q2 $.03).

Notes from their most recent quarter (Q218):

  • $494.4M in cash. It appears they issued $446M in convertible senior notes this Q (if I’m reading that right).
  • 130,300 customers (+5,200 sequentially and +22,900 YoY).
  • The number of $50K+ customers is up 60% YoY from Q217.
  • 119% revenue retention. Zendesk has ranged from 114-120% the last nine Q’s.

One negative is GAAP gross margins fell from 70.0% to 68.9% YoY in Q2. Their non-GAAP rates have slid from 75% to 73% to 72% over the last three quarters as well. The company says gross margins will see ongoing pressure as their services are transferred from data-centers to cloud. They anticipate this being done by year end.

Competition does appear to be a concern. There are some large players in this market (Salesforce, Oracle, Microsoft and Atlassian). Some of them have stronger Gartner ratings as well. Zendesk’s advantage seems to be their smaller size with a chance to make larger marginal gains with any increase in market share.

Last week Zendesk appeared to take another growth step when it acquired FutureSimple, the company behind Base software. Press release here:

https://www.businesswire.com/news/home/20180910005882/en/Zen…

Base software is designed to help salespeople manage info and close sales. Zendesk and FutureSimple had already partnered on a sales and customer support integration product prior to this acquisition. Gartner lists Base as Visionary in their July '18 Magic Quadrant for Sales Force Automation. It appears Base’s management team is coming along with the company. Zendesk touted adding 5,000 customers in the release. Base says it currently has 7,000 customers on its website. I’m not sure why there is a discrepancy unless they share a couple thousand customers, which is definitely possible. The acquisition does seem to be a good fit though, especially considering the companies had already partnered on a viable product.

Unfortunately, terms of the deal were not disclosed. Base’s site notes it has raised $53M across 3 funding rounds, but I did not see any company valuation or financial figures. ZEN says the acquisition will have no significant impact on '18 revenues. However, it’s expected to be dilutive to Operating Margin and EPS. Further details on the '18 impact are expected when ZEN releases financial results after the Q3 close on 9/30.

Is anyone else familiar with this company? I’m guessing many of you have at least given it a glance.

I’d also gladly take any feedback on the above breakdown. This is my first bite at one of these apples and I want to make sure it fits the spirit of the board.

Thanks,

Joe

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Thanks, Joe, for a very good summary of Zendesk. I’ve been a fan of this company since I first started acquiring shares in 2015. My interest stems from my belief that the “Multi-Channel Contact Center” space is ripe for leveraging the new SaaS model. Zendesk has been a leader at this.

I haven’t yet digested the FutureSimple acquisition. My initial thinking is that they are taking a big leap into the competitive space of Customer Relationship Mgnt (CRM).

I have a few early thoughts though:

Competition:

  • Today’s leaders in CRM solutions (eg Salesforce) are very entrenched and it is not easy for their customers to ditch them and move to Zendesk. With that said, these dominant market leaders of today are not invincible - for instance, if ZEN takes ann innovative/flexible subscription approach, they may be able to attract the next generation of Small/Medium sized businesses that are probably disenchanted with Salesforce.

Synergies:

  • I think that the Contact Centre and the CRM businesses have significant synergies. The management of one central customer database is probably the key common element.

If Zendesk plays their cards right, I do see this company as continuing on a solid growth trajectory.

…Marc
Long ZEN

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* 130,300 customers (+5,200 sequentially and +22,900 YoY).
* The number of $50K+ customers is up 60% YoY from Q217.

First of all, fantastic write-up, Joe! As it happens, I took a look at Zendesk a couple weeks ago. I didn’t get as far as you, because I saw a bit of a slow down and mostly stopped there:

In the last twelve months they’ve added 23,300 customers, for 22% customer growth.
The prior twelve months they added 26,000, which was 32% customer growth.

Ok, not a huge problem, but if they’re slowing to some extent, I’d like to see Expenses slowing as well, but OpEx:

TTM: 480m
prior twelve months: 361m

That’s up 33%, almost as much as revenue is up. They won’t make any huge strides toward profitability if they keep that up.

That said, they cover a lot of these expenses with SBC, so they manage to be cash flow positive. With 130,000+ customers, I imagine they’re about as steady as you would ever see…I just don’t think they’re as spectacular as the Square’s and Mongo’s and Twilio’s of the world. Therefore, I decided not to buy shares (though I do hold a few options I bought when ZEN was down a couple months ago).

Summary: A solid SAAS company, but just not quite as fantastic as others we’ve found.

Bear

PS - I hadn’t seen the numbers for $50k+ customers, so I’m guessing you got those from conference calls. If you could post the trend, I’d appreciate it. Perhaps that is significant and growing faster than customers overall.

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Thank you for the comments Bear.

I sent a note to IR seeking a further breakout of the $50K+ customer numbers. I’ll let everyone know what I get back.

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Nice writeup.

Tinker suggested ZEN about 2 years ago and I sold in the $60’s…was a great and easy double.

If you search the NPI from then, I believe you will see some posts:

http://discussion.fool.com/zen-32544359.aspx?sort=whole#32545548…

http://discussion.fool.com/zen-again-33030198.aspx

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* The number of $50K+ customers is up 60% YoY from Q217.

In response to Bear’s question, I heard back from Zendesk IR on the above statement. Unfortunately, it’s not something they disclose. Below is the email chain.

QUESTION:

Hello. I’m hoping you can answer a question for me. I’m currently researching Zendesk as an investment and came across the following quote by Mikkel Svane from your earnings call:

“Zendesk closed over 60% more deals with an average contract value of $50,000 or more compared to a year ago.”

Would you be able to provide more clarity on the history here? Are the number of $50K customers available in either a separate breakdown or somewhere within your current financials?

Thank you in advance for any help you might be able to provide.

REPLY:

Hello. Thank you for reaching out. We occasionally use that stat in the text of our shareholder letter. We don’t disclose the number of customers in that stat.

-Karen Sansot

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