RingCentral : Q1 2020 Earnings Script

Ryan Goodman, RingCentral, Inc. - Head of Investor Relations

Thank you. Good afternoon and welcome to RingCentral's first quarter 2020 earnings conference call. I am Ryan Goodman, RingCentral's Head of Investor Relations. Joining me today are Vlad Shmunis, Founder, Chairman, and CEO, Anand Eswaran, President and Chief Operating Officer, and Mitesh Dhruv, Chief Financial Officer. Our format today will include prepared remarks by Vlad, Anand, and Mitesh, followed by Q&A.

Some of our discussions and responses to your questions will contain forward- looking statements, including our second quarter and full year 2020 financial outlook and our assumptions underlying that outlook. These statements are subject to risks and uncertainties. Actual results may differ materially from our forward-looking statements.

A discussion of the risks and uncertainties related to our business is contained in our filings with the Securities and Exchange Commission and is incorporated by reference into today's discussion. In particular, our business is currently being impacted by the COVID-19 pandemic. The extent of its continued impact on our business will depend on several factors, including the severity, duration and extent of the pandemic, as well as actions taken by governments, businesses and consumers in response to the pandemic, all of which continue to evolve and remain uncertain at this time. RingCentral assumes no obligation and does not intend to update or comment on forward-looking statements made on this call.

Unless otherwise indicated, all measures that follow are non-GAAP with year- over-year comparisons. A reconciliation of all GAAP to non-GAAP results is provided with our earnings release and in the slide deck.

I encourage you to visit our Investor Relations website at ir.ringcentral.com to access our earnings release, slide deck, our GAAP to non-GAAP reconciliations, our periodic SEC reports, a webcast replay of today's call, and to learn more about RingCentral. For certain forward-looking guidance, a reconciliation of the non-

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GAAP financial guidance to the corresponding GAAP measure is not available as discussed in detail in the slide deck posted on our Investor Relations website.

With that, let me turn the call over to Vlad.

Vlad Shmunis, RingCentral, Inc. - Founder, Chairman, and CEO

Good afternoon and thank you for joining our first quarter earnings conference call.

Before I begin, I'd like to first take a brief moment to address the current macro environment.

We are living in an unprecedented time of global uncertainty and disruption. Our priority at RingCentral is the health and safety of our workforce, and we acted quickly in transitioning to a work from home model.

As a leader in unified communications as a service, we believe we have a responsibility to help our communities maintain business continuity. To that end, we began offering RingCentral Office for free to K-12 educators, healthcare providers, non-profits, government entities, and news media organizations. We also announced a free offer for our cloud contact center solution to those affected by COVID-19 related challenges. We are providing our cloud communications and collaboration solutions to organizations that are working globally and tirelessly to mitigate the impact of this crisis. This offer has been well-received, and we now have over 4,000 such organizations now using RingCentral.

We wish our customers, partners, employees, and shareholders good health and safety in days ahead.

Q1 Results and Recent Highlights

Now onto Q1. We delivered a strong first quarter, with continued strength in mid- market, enterprise, and channel.

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We also recently made several key announcements:

• First, we released RingCentral Video, our own video meeting solution, completing RingCentral's differentiated Message Video Phone, or what we refer to as MVP, platform.
• Second, we announced general availability of Avaya Cloud Office by RingCentral, delivering on the promise made 6 months prior.
• Third, yesterday, we announced a new unified desktop app, an entirely reimagined user experience for enterprise communications that is available both on Windows PCs and Macs. Key differentiators for our new desktop app include close integration andreal-time switching between Message, Video, and Phone communications, as well as seamless switching of meetings between devices.
• And today, we are happy to announce that Phil Sorgen has joined us as a Chief Revenue Officer, reporting to our President and COO, Anand Eswaran. Most recently, Phil was the Corporate Vice President for the US Enterprise business at Microsoft.

We'll expand on these key announcements later.

As to our financial performance, revenue and non-GAAP EPS exceeded our guidance. Key drivers continue to be mid-market, enterprise, and channel. We continue to see strong contributions from our vertical market initiative focused on education, financial services, and healthcare. These initiatives yielded good results, including an over 15,000 seat win with Cornell University, an over 8,000 seat win with a Fortune 500 insurance provider, and multiple accelerated healthcare wins.

Key metrics for Q1 were solid across the board:

• Total revenue grew to $268 million. This is a 33% increaseyear-over-year and is above the high-end of our guidance range.
• Total annual recurring revenue, or ARR, surpassed $1 billion for the first time.

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• Mid-marketand enterprise continues to be a key driver of our performance. We define mid-market and enterprise as $25,000 or more in ARR. This grew 52% year-over-year to a $524 million business.
• Enterprise, defined as customers with $100,000 or more in ARR, grew 59%year-over-year to $318 million.
• Channel ARR grew 62%year-over-year to $329 million.

MVP Platform

Looking forward, in this challenging macro environment, companies are facing the reality that legacy on premise voice-only systems cannot meet modern work from anywhere requirements. We believe unified communication and collaboration cloud solutions are key for productive customer, partner, and internal interactions.

We believe RingCentral is uniquely positioned to meet this demand. We have a differentiated, enterprise-proven, global, scalable, and secure unified Message Video Phone, or MVP, platform. In particular, RingCentral provides cloud-based enterprise class global PBX capabilities seamlessly integrated with comprehensive native team messaging and video meeting capabilities. With the recent introduction of native RingCentral Video, or RCV, capability, RingCentral customers can now truly stay fully engaged and productive from anywhere, on any device, and in any mode. Very importantly, we can onboard new customers quickly and efficiently, without ever having to go on site, which is especially critical in the current environment.

It has never been more clear that customers use RingCentral for a lot more than just lighting up their legacy desktop phones. As a matter of fact, we saw our app downloads increase over 180% in April vs February, with strong app usage metrics across all modes of communications. To that end:

• TotalMessages posted in April are up 70% versus February.
• TotalVideo minutes in April are up over 200% versus February.
• TotalPhone calls in-app in April are up over 150% versus February.

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The triple digit growth in in-app voice in the last two months makes it abundantly clear that business voice is as important as ever. We've also been very pleased with the uptake of our new RCV capability. We are seeing rapid adoption of RCV and now have over 1,000 organizations using RCV as their primary video meeting solution, and this number is growing very rapidly. We're also excited to see our strategic partners embrace RCV in their UCaaS offerings. This includes AT&T with Office@Hand and Avaya with Avaya Cloud Office by RingCentral.

Avaya

Speaking of Avaya, as I mentioned, we launched Avaya Cloud Office by RingCentral, or ACO, on March 31, delivering on the promise nearly 6 months ago. At launch, Avaya had signed a number of leading master agents to sell ACO, including Jenne, ScanSource, AVANT Communications, Synnex, and Telarus, and today they have onboarded over 1,700 channel partner agents. With only about one month since the launch, it's still early, but market reception is encouraging.

Conclusion

COVID-19 has put an additional spotlight on the limitations of legacy on-premise communication systems. Longer-term, we believe that work from anywhere, and, in particular, work from home will continue to be a key requirement for businesses worldwide. Business communication solutions that enable work from anywhere are now more critical than ever. RingCentral has always been at the forefront of enabling people to work from anywhere, use any device, and communicate in any mode.

With this backdrop, and given our recent progress with the differentiated MVP platform that solves a mission critical need for many businesses, we are confident that in the long-term, cloud will continue winning, and RingCentral will continue winning in the cloud.

Now, for some additional color on Q1, I will turn the call over to our President and Chief Operating Officer, Anand Eswaran.

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Anand Eswaran, RingCentral, Inc. - President and COO

Thank you, Vlad. Good afternoon everyone. I would like to start by extending my wishes for the good health and safety to you, your families, friends and colleagues.

I will begin with an update on how we are managing the business in this COVID-19 environment. Then I will provide some examples of how we are empowering our customers to succeed in these unprecedented times.

New Chief Revenue Officer

But first, I wanted to welcome our new Chief Revenue Officer, Phil Sorgen, who started this week. As Vlad shared, Phil is a 24-year Microsoft veteran, and most recently was the Corporate Vice President for the US Enterprise Commercial business. Prior to that, Phil was the Global Channel Chief, harnessing the power of all partners to drive growth for Microsoft. Phil also led US Small and Medium- Businesses and served as the President of Microsoft Canada in earlier roles at Microsoft.

We are excited to have Phil join us. Phil brings 30 years of experience in leading sales and partner organizations at global scale and is going to have an immediate and lasting impact.

COVID Response

Starting the second week of March, we have efficiently transitioned to working from home across most of our global locations. This transition went smoothly as we have always used our cloud communications platform for customer, partner, and internal communications. Our employees have maintained their high productivity and enabled us to close the quarter on a strong note.

Thank you to the RingCentral family for the resilience and commitment you demonstrate every day towards our company, our partners and our customers in these difficult times.

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Q1 Customer Trends

In Q1, we were privileged to have helped many of our existing and new customers transition effectively to work from home, while remaining productive in these challenging times.

• We saw new customers come onboard the RingCentral platform in key verticals like education, healthcare, and financial services.
• We saw existing customers accelerate deployment, and leverage more elements of our platform and portfolio.
• We saw customers taking advantage of our differentiated unified application - across Messaging, Video, Phone - (We refer to it as MVP) and our global capabilities to help keep their employees safe and productive.

Let me share a few examples.

Cornell University

In higher education, we continue our progress with top tier universities. Our most recent win was with Cornell University, where we will provide our MVP communications solutions to their 15,000-plus users. In launching an initiative to modernize its legacy on premise communications systems, Cornell required a platform that enabled complex call handling services, emergency notifications, and mobility. Leveraging our deep PBX expertise and unified MVP solution, we were able to meet these needs while also delivering meaningful TCO savings.

PM Pediatrics

In healthcare, an example is PM Pediatrics, a pediatric urgent care provider. In this time of elevated need, they needed to optimize resources across their 40-plus locations to better serve their patients. PM Pediatrics chose RingCentral Office to seamlessly manage demand across all of their locations. We were able to roll this out in a matter of weeks and deliver full compliance for security and privacy requirements.

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Aveanna Healthcare

Another example is an existing customer of our RingCentral Office Solution we talked about in February - Aveanna Healthcare, the nation's largest provider of pediatric home care. This customer wanted to urgently transition its 300 contact center agents to work from home. In less than one week, we were able to deploy our contact center solution to enable these agents to work remotely.

Mutual of Omaha

An example of a large enterprise win with our unified communications platform is Mutual of Omaha, a Fortune 500 provider of insurance and financial services. Mutual of Omaha selected RingCentral to further enhance its communications platform and support its more than 8,000 associates, sales representatives and contractors nationwide.

Detroit Lions

We're also excited to have been selected as the new communications platform for the Detroit Lions. The Lions embraced the complete MVP solution at the first virtual NFL draft on April 23. This is a great example of a mission critical use case where the customer required a proven, trusted, high reliability solution.

Forcepoint

Global organizations face even more challenges with disparate legacy on premise systems, making it difficult for their workforces to communicate effectively. For example, Forcepoint, a cybersecurity provider, recently selected RingCentral's Global Office solution, which will enable their 2,000 users to be on a global unified solution with MVP capabilities across 13 countries.

In Closing

It is now more evident than ever that customers need a trusted, reliable, fully featured unified cloud communications platform that can meet their emerging business needs at a global scale. We are inspired by our customer and partner success stories and are deeply thankful to them for trusting RingCentral with their

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mission critical communications needs. While these are trying times for everyone, we are extremely optimistic about our future.

Now for the financials, I will turn the call over to our Chief Financial Officer, Mitesh Dhruv.

Mitesh Dhruv, RingCentral, Inc. - CFO

Thanks Anand and good afternoon everyone.

I'll begin with a few highlights of Q1 results. I'll then spend some time addressing how COVID-19 is shaping our business and wrap up with how that translates into our 2020 outlook.

Q1 was a solid quarter on multiple fronts, and we exceeded guidance and consensus across the board:

• We surpassed $1 billion ARR, growing at 33% and saw strong momentum inmid-market and enterprise ARR with over 50% growth.
• We successfully raised a $1 billion convertible note at 0% coupon, strengthening our balance sheet.

We used a portion of the cash raised to repurchase about 38% of our prior notes. Operating and free cash flow includes a non-recurring outflow of approximately $14 million of imputed interest on the repurchased notes. Excluding this, our free cash flow margin would have been approximately 5%. To provide better clarity into cash flow generated by core business activities, we've introduced a non- GAAP free cash flow metric in our press release that excludes this allocation.

We exited the quarter with $762 million dollars in cash.

COVID-19

Now, I'd like to take a few minutes to address how COVID-19 is shaping our business.

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We continue to see strong new logo momentum across the board as companies seek to enable employees to communicate effectively in the current work from home environment.

In our larger upmarket customers, COVID-19 has served as a catalyst for some of our existing customers to accelerate adoption of RingCentral across their footprint and use our product across all modes - messaging, video, and phone.

Unsurprisingly, small businesses in some verticals like retail, travel and hospitality are seeing elevated churn. We would expect some variability in this area as long as the economic impact of COVID persists. Small businesses within these verticals account for less than 10% of our overall installed base.

We're also see some customers extend their payment. However, on a positive note, nearly all of them are actively using our platform. We are closely working with our customer to help them be successful in these difficult times. We hope that these businesses emerge even stronger and with increased loyalty towards RingCentral.

Moving to our phone revenue piece, which has historically been about 5% of our total revenue. Due to shelter in place, we are seeing some demand push out for desktop phones. We resell desktop phones as a low margin add-on to our recurring and accretive subscription business, purely for our customers convenience and is not core to our strategy or long-term recurring revenue growth.

For our core platform, as Vlad mentioned, we are seeing customers increasingly leverage the RingCentral App both on laptops, as well as mobile devices, with very high adoption and usage, which is an indicator of long-term retention and customer life-time value.

Switching to our 2020 outlook, we've factored in the headwinds and tailwinds mentioned above. We've contemplated and stress-tested various assumptions about what current macro could mean for our business. We believe that in the ensuing outlook, we have conservatively factored in a potential range of outcomes created by COVID-19.

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With that, let's turn to the outlook for 2020.

Annual Outlook

• Subscription revenue:We are raising our subscription revenue forecast to be between $1.024 billion and $1.03 billion for an annual growth rate of 25-26%.
• • This reflects Q1 strength, positive new logo trends in early Q2, and a prudent outlook for the remainder of the year given the volatile macro environment.
  • We have also assumed$5-10 million F/X headwinds from deterioration of international currencies versus the US dollar.
• Other revenue:We are adjusting our other non-recurring revenue to be between $92 million and $95 million for a growth rate of 8-12% vs. our previously implied guidance of 25-27% growth. This adjustment assumes a further reduction in desktop phone demand.
• Total revenue:Incorporating our positive outlook for subscription revenue, and lowered assumptions for other non-recurring revenue, we expect our total revenue to be between $1.116 billion and $1.125 billion for an annual growth of 24% to 25%.
• Non-GAAPoperating margin:We are reiterating our non-GAAP operating margin of 9.6% to 9.7%. We are committed to an annual target of 40-50 bps of expansion and redeploying near-term savings from travel and other discretionary items into growth and innovation.
• Non-GAAPEPS:We expect non-GAAP EPS to be between $0.91 and $0.94, based on a share count of 93.5 million. This includes 2 cents of headwinds vs. our previous guidance from lower interest income assumptions given recent yields.

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Q2 Outlook

We've followed a very similar framework for our Q2 outlook, with subscription revenue range of between $244.5 million and $246.5 million, up 26-27%, and other non-recurring revenue of $15.5 million to $19.5 million, down -14% at the mid-point.

Conclusion

In summary, we are fortunate to operate in a market that is currently witnessing a noticeable increase in demand. RingCentral's solution solves a mission-critical need for businesses, and that should project well for long term customer acquisition and retention.

The long-term outlook for the cloud communications market is stronger than ever. For a market which was already growing rapidly, new work from home requirements should provide an additional impetus. It is now more clear than ever that on-premise systems simply cannot serve the needs of the new work paradigm. We believe that in a post-COVID-19 world many things will change, and that modernization of business communications through the cloud will be among key priorities.

As cloud adoption accelerates, we are focused on making sure that RingCentral continues to win in the cloud. To that end, we are excited about the launch of our new video product to provide further differentiation to our leading UCaaS platform. We are also confident that our strategic partnerships, including those with AT&T, Atos, and Avaya will continue expanding our reach to millions of prospects across the globe, which bodes well for our long-term growth.

We pride ourselves on profitable growth. We are committed to our goal of operating at or above Rule of 40 longer-term, which we again achieved in Q1.

We have a large loyal customer base, a profitable business model and a strong balance sheet, which allows us to continue to invest aggressively in product innovation and go-to-market efforts.

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With that backdrop, we are confident in our ability to lead in this $50 billion plus UCaaS market.

Finally, on behalf of RingCentral, I wish you, your teams and loved ones health and safety.

With that, let me turn the call to the operator for Q&A.

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