Earnings Call Transcript
Dropbox, Inc. (DBX)
Earnings Call Transcript - DBX Q3 2022
Operator, Operator
Good afternoon, ladies and gentlemen. Thank you for joining Dropbox's Third Quarter 2022 Earnings Conference Call. All participants will be in listen-only mode. After today’s presentation, there will be an opportunity to ask questions. As a reminder, this conference call is being recorded and will be available for replay from the Investor Relations section of Dropbox's website following this call. I will now turn it over to Karan Kapoor, Head of Investor Relations for Dropbox. Mr. Kapoor, please go ahead.
Karan Kapoor, Head of Investor Relations
Thank you. Good afternoon, and welcome to Dropbox's Third Quarter 2022 Earnings Call. Before we get started, I'd like to remind you that our remarks today will include forward-looking statements such as our financial guidance and expectations, including our long-term objectives and forecasts for our fourth quarter and fiscal year 2022 and our expectations regarding our revenue growth, profitability, operating margin, free cash flow, as well as our expectations regarding our business, assets, products, strategies, technology, employees, users, demand, and markets. These statements are subject to risks and uncertainties that could cause actual results to differ materially. They are also based on assumptions as of today, and we undertake no obligation to update them as a result of new information or future events. Factors and risks that could cause our actual results to differ materially from these forward-looking statements are set forth in today's earnings release and in our quarterly report on Form 10-Q filed with the SEC. We'll also discuss non-GAAP financial measures, which are not prepared in accordance with generally accepted accounting principles. A reconciliation of GAAP and non-GAAP results is provided in our earnings release and on our website at investors.dropbox.com. I would now like to turn the call over to Dropbox's Co-Founder and Chief Executive Officer, Drew Houston. Drew?
Drew Houston, CEO
Thanks, Karan, and good afternoon, everyone. Welcome to our Q3 2022 earnings call. Joining me today is Tim Regan, our Chief Financial Officer. I'll first share some business and product highlights from the quarter, and then Tim will discuss our Q3 financial results and provide guidance for the remainder of the year. We delivered another strong quarter amidst an increasingly challenging macroeconomic backdrop. We saw strength from our teams plans driven by pricing and packaging changes, which we rolled out in June. And the strength was partially offset by some continued moderation in our document workflow businesses, which I touched on last quarter, along with some recent softness with our Plus individual SKU, particularly in mobile. Like many of our peers, we're keeping a close eye on the evolving economic climate and the potential impacts to our own business, which Tim will speak to in a moment. During these uncertain times, it's especially critical that we pay close attention to how we continue to best serve our customers by remaining focused on simplifying users' workflows and keeping security top of mind or driving higher value to business users when they need to be more strategic for their spend. And we're doing this while being disciplined ourselves, as demonstrated once again by our stronger-than-expected profitability, which Tim will also discuss. As we approach 2023, we remain committed to the strategy we outlined earlier this year. First, we continue to evolve our core FSS offering by improving the user experience to set a stronger foundation for future growth. Second, we're innovating in workflows beyond storage, particularly in documents and videos to better serve the growing needs for freelancers and small business teams. Finally, we're focused on maintaining operational excellence as we continue to balance growth and profitability. I'll start with how we continue to evolve our core business, particularly around driving retention. Consistent with the past several quarters, we saw our churn rate decrease year-over-year. While we did observe some incremental churn in the quarter among some individual users on our Plus plans, particularly in mobile, we saw improved retention among business users even as we updated our pricing and packaging for teams. A key part of improving retention has been to enhance the user experience by reducing friction to important actions such as uploading and sharing. These enhancements lead to more engaged users who ultimately retain at higher rates. I'm also excited about how we're building machine learning into the core Dropbox user experience. In Q3, we enhanced our browse functionality or our folder navigation page on the web by rolling out content suggestions. Content suggestions leverage ML to surface files that users need to access most, resulting in an increase in file actions per user. We also saw increased engagement with new organizational features like machine learning-assisted naming conventions, where our machine learning models identify patterns and suggest file names for users who have workflows around saving or renaming lots of files. Among those who have adopted this feature, we've seen a significant increase in logins and file actions in Dropbox. As we highlighted last quarter, we added value to our standard and advanced teams plans and updated our pricing and packaging. I'm pleased to see the prioritization of features around security and data protection resonating with our customers. For example, we launched a new dashboard that makes it easier for admins to view externally shared links by the team in one centralized space and revoke access when needed to keep their proprietary content secure. This provides customers with metrics, which they can use to evaluate their firm security needs. We've received very positive feedback on these reporting capabilities, including from larger customers who handle sensitive financial and health information. In a time where consolidating spend is top of mind for customers, we're focused on selling complete solutions beyond storage to include important security capabilities like content controls, data governance add-ons, and external drive backup. By addressing these needs, our managed sales organization had another strong renewal quarter. This focus on security and data protection has also driven incremental adoption of backup and passwords by our team's users, which has helped improve retention as users who utilize multiple features get more utility from Dropbox. Moving to our second objective of driving adoption of workflows beyond FSS, specifically around documents and video. I'll start with DocSend, which continues to be our fastest-growing business. Last quarter, I mentioned that we started seeing pockets of softness in DocSend's core market, which is venture capital fundraising. We saw incremental moderation with some customers choosing to be more price-sensitive given the slower market backdrop, and we're investing in the DocSend experience to cater to additional professional service verticals while also driving awareness across the core Dropbox user base. We started experimenting with introducing DocSend's powered analytics as a premium experience to Dropbox individual users. We're learning important insights about overlap with core FSS users who share files and want to view analytics about their file sharing, such as viewership time and completion. In Q3, we built functionality for DocSend customers who want to send video content within DocSend, setting the stage for last week's launch of DocSend advanced video analytics, which was a top requested feature. Now users can easily share videos and see rich analytics like playback completion rate, time watched, and insights into individual user experiences. With video analytics in high demand, I'm excited for the potential in DocSend to expand its use cases and its target audience. Regarding HelloSign, as you know, we've been working towards driving tighter integration with Dropbox to further streamline agreement workflows. I'm excited to announce that as of last week, HelloSign is now Dropbox Sign. This rebranding is an important step in our strategy towards developing a seamless content platform for our customers while leveraging Dropbox's brand awareness. Additionally, we launched our signature hub within the Dropbox platform, providing our customers the ability to manage their agreement workflows without ever leaving Dropbox. While we're still seeing growth moderate for our Sign business during this challenging period for the broader eSignature market, it's important that we differentiate Dropbox Sign from traditional eSign solutions. We're leveraging value-add offerings like our API; we saw an uptick in developer activity in Q3 and Dropbox Forms, a no-code builder that makes complex PDFs mobile-friendly. For Dropbox Forms, customers like HR teams and gig economy platforms can quickly streamline the onboarding process of their workforces. We're including Dropbox Forms with our higher-tiered Sign plans, adding differentiated value for our customers, and I'm excited to build brand awareness for Dropbox Sign and its suite of products heading into 2023. Moving to video workflows, I'm pleased to announce that last week we released Dropbox Capture to all users. As a reminder, Capture is an all-in-one digital communications tool that we developed in-house during the pandemic and launched in beta last year. Since then, we've expanded the number of beta users that rely on Capture to communicate with their teams, whether they're presenting work, providing feedback, or sharing how-to and training videos. Capture is now available across all Dropbox plans, with premium features included in our Professional and Teams plans like editing for videos of any length and the ability to record in 4K up to the plan's storage limit. With Basic, Plus, and Family plans, users get up to two hours of recording time at 1080p and editing for video under five minutes. I'm excited to see Capture's continuous viral growth as more users share videos and screenshots with their network, saving hours from video meetings and lengthy emails. We view Capture as both a retention driver among paid users as we add differentiated value to existing plans as well as a customer acquisition channel as new recipients of Capture will recognize the time-saving, simplicity, and utility for their own workflows. As customers shift to working more and more in the browser and in cloud-native tools, we're evolving the Dropbox experience from syncing files to organizing all of your cloud content across our platforms. Our acquisition of Command E plays an important role in this roadmap, and I look forward to sharing more about the work we're doing in the coming quarters. Before I wrap up, I would also like to highlight that last week we published our inaugural ESG report. It outlines our progress towards achieving our sustainability goals, investing in social impact initiatives, and being a force for good, both inside our company and in our broader communities. This work has been ongoing for years, and we're proud of what we've accomplished so far. We're committed to sharing our progress as we build on our efforts in the years to come. In closing, it was a solid quarter amidst a period of growing uncertainty. While we know we're not immune to economic challenges, we believe we're positioning ourselves well to weather a more challenging macro backdrop with our healthy financial profile and balance sheet. We remain focused on our customers, are staying disciplined operationally, and we're innovating around workflows that we believe will only grow in importance as customers increasingly focus on streamlining their existing solutions. With that, I'll hand it over to Tim to walk through our financial results.
Tim Regan, CFO
Thank you, Drew. Before turning to our quarterly results, I'd like to start with a reminder of our financial strategy. We are continuing to pursue sustained growth and profitability in a disciplined and thoughtful manner while remaining committed to our long-term objectives. We also remain focused on allocating capital to growth initiatives that we believe will drive future revenue, both organically and through acquisitions while returning a significant portion of our free cash flow to shareholders in the form of share repurchases. As Drew highlighted, we are keeping a close eye on the macro environment, particularly foreign exchange rates, where we continue to see intensifying headwinds from the strengthening dollar. I will discuss this in more detail shortly. Let's start with our third quarter performance, and I'll provide updated guidance for the remainder of the year. Beginning with our third quarter results. Total revenue for the quarter increased 7.4% year-over-year to $591 million, beating our guidance range of $584 million to $587 million. Foreign exchange rates provided an approximate $13 million headwind to growth, in line with our previous expectations. On a constant currency basis, revenue grew 9.7% year-over-year. Total ARR for the quarter grew 9.6% year-over-year for a total of $2.431 billion. On a constant currency basis, ARR grew by $98 million sequentially and 10.2% year-over-year. This step-up in sequential ARR and acceleration in our year-over-year growth on a constant currency basis was largely driven by pricing and packaging changes with our Teams plans that we announced in June, which Drew touched on earlier. We exited the quarter with 17.55 million paying users and added approximately 180,000 net new paying users in the third quarter. Average revenue per paying user was $134.31 in Q3, up nearly $1 from Q2, primarily driven by increased pricing on our Teams plans, partially offset by FX headwinds and the adoption of our Family plan, which, as a reminder, is comprised of six seats and therefore carries a lower ARPU profile. Before we continue with further discussion of our P&L, I would like to note that unless otherwise indicated, all income statement figures mentioned are non-GAAP and excludes stock-based compensation, amortization of purchased intangibles, certain acquisition-related expenses, impairments of our real estate assets and net gains on equity investments. Our non-GAAP net income also includes the income tax effect of the aforementioned adjustments. I'll now provide a brief update on our real estate strategy, where we've been taking steps to de-cost our real estate portfolio as a result of our transition to a virtual-first model. While the real estate market is evolving, particularly in the San Francisco Bay Area, we continue to estimate that our total impairment charges will be up to $450 million. In Q3, we recorded an additional $4 million in impairment charges, primarily related to an increase in our common area fees for our San Francisco headquarters, where we have space available for sublease. This brings our cumulative impairment to $442 million. With that, let's continue with the P&L. Gross margin was 83% for the quarter, representing an increase of nearly two percentage points on a year-over-year basis. The improvement in our gross margin was primarily driven by ongoing efficiencies in our data center infrastructure as well as greater optimization around our customer support needs. Third quarter R&D expense was $166 million or 28% of revenue, which increased compared to 24% of revenue in the third quarter of 2021. The increase in R&D was primarily driven by an increase in hiring to backfill the elevated levels of attrition we saw last year and as we continue to invest in growth and other key initiatives. Going forward, we do not expect to see this pace of growth in R&D as a percentage of revenue continue as we expect that most of our critical openings will be filled by the end of the year. Third quarter sales and marketing expense was $95 million or 16% of revenue, which decreased compared to 19% of revenue in the third quarter of 2021 as the majority of our brand campaign spend last year was incurred in Q3. Third quarter G&A expense was $43 million or 7% of revenue, which decreased compared to 8% of revenue in the third quarter of 2021. In total, we earned an operating profit of $187 million in the third quarter, representing an operating margin of 32% and up roughly 2 points compared to the third quarter of 2021. Our Q3 operating margin exceeded guidance by about 3 points, driven by stronger-than-expected gross margin, efficiencies from hiring in lower-cost locations, lower-than-expected T&E costs, and lower project spend. Net income for the third quarter was $153 million, which is a 4% increase versus the third quarter of 2021. Diluted EPS was $0.43 per share based on 360 million diluted weighted average shares outstanding, up from $0.37 per share based on 398 million diluted weighted average shares outstanding for the third quarter of 2021. Consistent with the past two quarters, our year-over-year income tax expense increased significantly due to the impact of new R&D tax legislation, and given that we have now fully utilized our NOLs for non-GAAP tax purposes. Moving on to our cash balance and cash flow. We ended the quarter with cash and short-term investments of $1.5 billion. Cash flow from operations was $251 million in the third quarter, and capital expenditures were $6 million during the quarter. This resulted in quarterly free cash flow of $245 million compared to $221 million in Q3 of 2021. In the third quarter, we added $18 million to our finance leases for data center equipment. Let's turn to our share repurchase activity. In Q3, we continued executing against a $1.2 billion authorization that was approved earlier this year by repurchasing 7.7 million shares, spending approximately $171 million. As of the end of the third quarter, approximately $922 million remains under the current authorization. With that, let's turn to guidance for Q4 and for the full year. I will also provide some context on the thinking behind this guidance. For the fourth quarter of 2022, we expect revenue to be in the range of $592 million to $595 million. We are assuming a currency headwind of approximately $19 million in the fourth quarter, which translates to more than a 300 basis point headwind to growth and $2 million greater than what was implied in our previous full-year guidance. We expect non-GAAP operating margin to be approximately 29% to 29.5%. The expected sequential decline from Q3 operating margin is primarily driven by planned infrastructure investments to meet our future capacity needs, an increase in expected project spend, and finalizing our planned hiring for the year. Finally, we expect diluted weighted average shares outstanding to be in the range of 354 million to 359 million shares based on our trailing 30-day average share price. For the full year 2022, we are raising our reported revenue guidance to $2.318 billion to $2.321 billion, up from our previous guidance range of $2.308 billion to $2.318 billion. On a constant currency revenue basis, we are raising by $8.5 million at the midpoint to $2.354 billion to $2.357 billion, up from the prior range of $2.342 billion to $2.352 billion. We now estimate a full year 2022 currency headwind of approximately $36 million, up from our prior forecast of $34 million. We are raising our gross margin guidance to approximately 82%, up from our prior forecast of approximately 81.5% due to some of the infrastructure efficiencies we've seen this year. We are also raising our operating margin guidance to be in the range of 30.5% to 31%, up from our prior guidance of approximately 30%. This operating margin guidance range is inclusive of an approximately 1 point headwind from FX. We are raising the midpoint of our free cash flow guidance by $5 million to now be in the range of $770 million to $790 million, compared to our prior forecast of $760 million to $790 million. This includes $17 million in cash outflows for the 2022 installments of acquisition-related deal consideration holdbacks. And as a reminder, our free cash flow guidance is also inclusive of an estimated $25 million headwind resulting from the impact of R&D tax legislation newly effective in 2022. We continue to expect capital expenditures for 2022 to be in the range of $25 million to $35 million. We continue to expect additions to our finance lease lines to be approximately 5% of revenue in 2022. This implies a significant step up in Q4 leases due to a planned build-out of new data center, expected to go live in early 2023. Finally, we expect 2022 diluted shares outstanding to be in the range of 363 million to 368 million shares, down from our previous guidance range of 364 million to 369 million shares. This reduction in our share count reflects our commitment to and anticipated impact of our share repurchase program. To share some additional context on this guidance. For 2022, we are raising the high end of our constant currency revenue guidance range, up by $5 million. We are pleased with the early results of our pricing and packaging changes to our Teams plans, which is being partially offset by continued moderation in our document workload businesses, DocSend and Dropbox Sign, and some recent softness in our Plus SKU, particularly on mobile. As a reminder, in Q3, we saw benefits from pricing and packaging changes to our standard and advanced teams plans, which largely went into effect in July. Given the introduction of additional value to these plans, we raised their respective prices by 20%. The subset of our user base that is ultimately subject to the price increase comprises roughly one-third of our total ARR. The majority of these customers will see the pricing increase this year with the remainder landing in 2023, as well as 2024 for some of our managed accounts. While we do not guide to ARR, it is important to remember that we do not expect to see a similar step-up in absolute ARR in Q4 as Q3 includes an immediate contribution from our monthly customers subject to the pricing change. Given our ratable recognition model, the revenue impact will flow accordingly to 2022 and beyond. As related to operating margin, while we are experiencing incremental FX headwinds, T&E and office reopening expenses as pandemic restrictions soften, we are raising our 2022 operating margin guidance as we continue to see success with our ability to hire top talent outside of traditional high-cost tech hubs such as San Francisco, New York, and Seattle as well as due to infrastructure efficiencies, driving higher gross margin. As related to full-year free cash flow, we are raising the midpoint of our 2022 free cash flow guidance. Compared to when we introduced our free cash flow guidance at the beginning of the year, the significant strengthening of the U.S. dollar has resulted in more than a $30 million headwind to our initial free cash flow guidance. I'd also note that FX has had a more immediate impact on billings and enhanced free cash flow as compared to revenue, given our ratable revenue recognition model. Thus, a larger cash impact will be absorbed this year, offsetting the benefits of our increased operating margins, which brings me to our long-term financial targets of delivering operating margins of 30% to 32% and $1 billion of annual free cash flow by 2024. As you can see from our Q4 guidance, we are seeing FX headwinds intensify as we exit the year based on how our software subscription business recognizes revenue over a period from the time of booking. Assuming these current FX rates remain constant, we will experience increased currency headwinds to revenue and free cash flow in 2023. While we believe we are managing the business in a way that will enable us to weather a more challenging backdrop, we recognize there is a lot of uncertainty. So while we believe it is too early to make any changes to our long-term financial targets at this time, we are keeping a close eye on the macro environment and how best to respond as events unfold. In conclusion, we continue to execute well against our initiatives, demonstrating stability and solid execution during a time of increasing uncertainty. I'm especially proud of our team for remaining focused on our customers while running the business efficiently to drive margin outperformance and healthy free cash flow generation, which we continue to allocate in a way that drives long-term value to the business and our shareholders. With that, I'll now turn it over to the operator for Q&A.
Operator, Operator
Our first question comes from Rishi Jaluria with RBC Capital Markets. You may proceed.
Rishi Jaluria, Analyst
It's great to see ongoing strength despite the macro challenges. I have a question for Drew and one for Tim. Drew, you mentioned in your remarks that DocSend is showing continued strength, which pleasantly surprises me given the softer VC funding environment. Can you elaborate on what is driving that for DocSend? You also mentioned wanting to explore new use cases for DocSend. What might those include?
Drew Houston, CEO
Sure. Thanks for the question. So DocSend continues to be one of our fastest-growing businesses. Just to be clear, we have seen headwinds given DocSend's exposure to the fundraising market, which has seen a decline in fundraising activity. So just to clarify, we have seen some headwinds there. That said, there are a lot of different verticals that revolve around sending content and needing to have analytics around it, and the kind of things that DocSend provides. We're seeing a lot of opportunity in new verticals like professional services and sales and customer success, account management. So in short, we're branching out into other customer segments and adding new kinds of value. An example of this is the advanced video analytics we added last week in our launches with DocSend. We see continued opportunity for DocSend, but we believe there will likely be a mix shift to other customer segments as funding activity moderates.
Rishi Jaluria, Analyst
Got it. That's really helpful. Tim, can you give us a sense of the numbers? We noticed overall revenue growth accelerated by slightly under 1% in constant currency, and ARR accelerated by about 2 points in constant currency. You mentioned that part of this was due to the uplift from pricing and packaging changes. If possible, can you help us understand the actual impact of those changes in the quarter? Also, without considering guidance for next year, when can we expect to see the effects flowing through so we don't overestimate based on this quarter?
Tim Regan, CFO
Sure. We don't break out the pricing contribution separately. I'll give you a bunch of the pieces here. We raised prices by 20% on our Standard and Advanced Team plans. For new customers, they began purchasing the higher-priced plans starting in June. Existing customers began renewing at the higher price point starting in July. The subset of our user base that is ultimately subject to the price increase comprises about one-third of our total ARR, and the majority of those customers will see the pricing increase this year with the remainder landing in '23, as well as 2024 for some of our managed accounts. Given how we recognize revenue, the revenue impact will flow through to 2022 and beyond. Of course, within this quarter, a large portion of that step-up came from our monthly customers as they became subject to the change.
Operator, Operator
Our next question comes from Brent Thill with Jefferies. You may proceed.
Luv Sodha, Analyst
This is Luv Sodha on for Brent Thill. Congrats on a solid trend here. Just wanted to ask maybe first one for Drew. One of the comments you made in the prepared remarks was around churn rates for Teams plans being down despite the price increase. I guess could you unpack that a little bit just because given the environment we are in today, some of the other companies are facing higher churn within the SMB side. So just unpack the customer base and what drove that strength there?
Drew Houston, CEO
Sure. I'd say a couple of parts. One is churn or customer retention has been improving overall in the core business, and that's a trend we've been seeing continue. On the price increase or the new plans, I'd say churn is ahead of our expectations. Basically, it has gone better than we anticipated. Part of why we believe it's going better than expected is we see the packaging and pricing changes as part of a flywheel where first, we create new customer value. In this case, it wasn't just a price increase; we also introduced many security features for Teams that had been in response to customer demand. For example, ransomware attacks are up 300% in the last year, with between 50% and 75% of the victims being SMBs that don't have dedicated IT security resources. We have been building in that direction because we see that as a growth area and recognize you need security in any macroeconomic environment. Overall, we see stability so far in how the macro environment is affecting us, but we remain mindful of the evolving situation.
Luv Sodha, Analyst
Got it. And then one for Tim. I know you're raising the guide for this year, obviously. But how should we think of the level of conservatism embedded into this guide? Is it similar to what you have embedded previously? Are you embedding more conservatism given the environment we're in? Just any color there, Tim.
Tim Regan, CFO
Sure. There are no material changes from our historical guidance approach. We continue to guide to what we have a high degree of visibility into and factor in growth initiatives when we have sufficient signal on their performance. As we see additional data over the course of the year, as we are seeing with these changing macroeconomic conditions, we do revise and incorporate those trends into our guidance as needed.
Operator, Operator
Our next question comes from Mark Murphy with JPMorgan. You may proceed.
Unidentified Analyst, Analyst
This is Mark Murphy, and I want to reiterate my congratulations on the quarter. Regarding the softness you mentioned in some business segments that experienced heightened demand during the pandemic, would you say the pressures are similar to the previous quarter, or have they worsened? Do you have any insight on when you might see a plateau in this softness?
Tim Regan, CFO
Sure. We are seeing some incremental macro headwinds in our Dropbox Sign business. As we do lap COVID tailwinds, we are also seeing DocSend slow down a bit, just due to some challenges particularly around our Plus users, especially on mobile. All of these components were factored into our guidance. I'm not going to provide forward-looking guidance beyond Q4 at this point. And certainly, as I mentioned earlier, we factored in these updated trends into our guidance for the remainder of the year.
Unidentified Analyst, Analyst
Got it. That's very helpful. And then as a quick follow-up on the topic of the recent 20% price increase. Is there any change in the level of elasticity among customers relative to some of the previous price increases that you've done, particularly given the inflationary environment?
Drew Houston, CEO
I don't think we break out specific stats on that. What I can say is that we've certainly taken into account, as you'd imagine, when we project the impact of price increases, how those have gone in prior cycles. The Teams price increase has gone better than expected.
Operator, Operator
Our next question comes from Steve Enders with Citi. You may proceed.
Steve Enders, Analyst
I just want to ask you, I guess, on the pricing and packaging dynamics. I mean it seems like there's been really good success with the Teams increase in the past quarter. I guess how are you thinking about kind of more broadly raising prices on some other plans or thinking about shifting some of the packaging to potentially drive an increase in pricing in that way?
Drew Houston, CEO
It starts with our philosophy, which has been consistent. As I've mentioned before, we start by creating value, so adding new features in response to customer demand. The Teams price increase, for example, was paired with a lot of security features around ransomware protection and backup and passwords that customers have requested. We also bring new products to market, such as Dropbox Capture, which is available to all paid subscribers. We see it as an opportunity to create additional value. We aim to align pricing or packaging changes when we see fit. Our customers need to store, share, and sync their files, but they also have many workflows around them. An opportunity is bundling. Other SaaS companies have found success in this space. Bundling economics are advantageous for both customers and us. We're early in our bundling strategy, and we'll be implementing more, especially as customers work to consolidate their tools and manage their spending effectively. We believe more comprehensive, all-in-one solutions will resonate in a challenging environment.
Steve Enders, Analyst
Okay. Got you. That's helpful. I guess on the Plus plan, I know that there's been kind of more focus from you historically just in terms of trying to drive conversion rates in the app and trying to help kind of improve some of those retention trends. I guess, how do you think about the levers that could improve some of the retention rates on the Plus side or drive further conversion?
Drew Houston, CEO
We've just seen good returns from improving core experiences and streamlining some of the basics. We have found that by removing friction from our onboarding experiences, making sharing more seamless, and enhancing things like photo backup speeds, we see engagement increase, leading to improved retention. We also think more broadly about directing our customers to the most compelling offerings suitable for them. Therefore, we're driving a mix shift from Plus plans to higher-value plans like Professional or Teams that have more network effect-driven retention and other advantages. Within any individual SKU, various levers can influence monetization, churn versus pricing, and so on, while also considering the overarching portfolio to ensure we're making optimized decisions.
Operator, Operator
Our next question comes from Joey Marincek with JMP Securities. You may proceed.
Joey Marincek, Analyst
Congrats on the nice results here. Drew, can you talk more about security? What is it that customers need as it relates to security? And what are some ways Dropbox can help? Additionally, can you touch on the GitHub phishing incident? What happened, and what steps have you taken?
Drew Houston, CEO
Great question. On the security front, from a customer demand standpoint, the landscape continues to evolve. As I shared before, ransomware attacks have increased almost 300% in the last year, with something like half to three-quarters of the victims being small businesses, which don't have dedicated IT security resources. We see a significant opportunity for Dropbox to help through various measures, such as ransomware protection and extensive backup options, as people now work from everywhere. These features allow users to back up all their endpoints and manage passwords for a team. We've been launching new security functionality responding to customer demands, and this has significantly contributed to our growth. Regarding the GitHub phishing incident in October, we were the target of a phishing campaign that compromised one of our employees' GitHub accounts. We resolved the issue quickly and believe the overall impact is minimal. Specifically, our apps, core service code, and production environments were not accessible. There's no evidence suggesting customer content, passwords, or payment information was compromised, and we don't expect any material business or customer impact. We appreciate transparency in handling these incidents and have posted more details on our blog, but we believe we reacted promptly, and there isn't a significant impact.
Joey Marincek, Analyst
That's very helpful. Can you also give us an update on Command E? How is it performing relative to expectations? And what's your ultimate vision there?
Drew Houston, CEO
I'm very excited about Command E, and we see a big opportunity in evolving the Dropbox experience. When I started the Company, it was really about syncing files across devices and operating systems. Today, we face new challenges, where a lot of work has moved into the browser and cloud tools, yet users struggle with fragmentation. The basic challenges include not being able to find or organize information. Command E directly addresses these challenges, providing universal search rather than requiring users to navigate multiple search boxes for various apps. We acquired that company about a year ago, and we've been investing more into it. We believe there are fundamental needs in the cloud world around organizing your content and evolving Dropbox from merely syncing files to organizing all of your cloud content. That's a significant opportunity in any macroeconomic environment. We'll share more about the roadmap and new product experiences in the coming quarters.
Operator, Operator
Thank you. One moment for questions. Our next question comes from Matt Bullock with Bank of America. You may proceed.
Mark Murphy, Analyst
I'm on for Mike Funk. Just wanted to triple tap here on the pricing increases. We saw a deceleration in net adds of around 100,000 from the average of the past couple of quarters. I'm trying to frame that deceleration in terms of pricing impact versus the plus weakness in mobile. Was most of that deceleration driven by the pricing increases? Can we assume that now that the monthly users have digested that, we could see a rebound in net adds going forward?
Tim Regan, CFO
Sure. This is Tim. We added about 180,000 net new paying users in the third quarter. We did see an expected drop in paying users from our Teams plans in the wake of the pricing and packaging changes that we've been discussing. We also experienced some softness around some of our Plus users, particularly on mobile, due to the challenging macro environment. As far as breaking that out, I would say that a larger portion of the drop does stem from the pricing change. Looking forward, we don't formally guide to paying users, but we do expect our Teams pricing and packaging change to impact new paying users. However, we're encouraged by the early signals we're seeing and are confident this pricing change is a net positive to ARR in the long run.
Operator, Operator
Our next question comes from Jacob Staffel with Goldman Sachs. You may proceed.
Jacob Staffel, Analyst
It's Jacob here. I wanted to ask about ARPU real quick. It seems like the last five or six quarters, ARPU has kind of been floating around in that $133, $134 range. Obviously, part of that is due to the Family plan and the six seats included. Given all the product innovations recently released, how are you thinking about the future acceleration of ARPU?
Tim Regan, CFO
We ended the third quarter with ARPU at about $134, which was up about $0.52 year-over-year. This was driven by benefits from our pricing initiative and a continued mix shift to our premium SKUs. However, offsetting that, FX played a part in creating a nearly $3 headwind. Moving forward, we don't formally guide to ARPU. Several factors might impact our trends, including pricing, FX pressure, and the Family plan. Thus, our priority remains profitably growing our total ARR versus optimizing for a specific ARPU.
Operator, Operator
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