Five9, Inc. Q1 FY2022 Earnings Call

Thank you for joining us today. On the call are Rowan Trollope, CEO, Dan Burkland, President, and Barry Zwarenstein, CFO. Certain statements made during the course of this conference call that are not historical facts, including those regarding the future financial performance of the Company, industry trends, Company initiatives, and other future events are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements are simply predictions and should not be unduly relied upon by investors. Actual events or results may differ materially, and the Company undertakes no obligation to update the information in such statements. These statements are subject to substantial risks and uncertainties that could adversely affect Five9’s future results and cause these forward-looking statements to be inaccurate, including the impact of the COVID-19 pandemic and the other risks discussed under the caption Risk Factors and elsewhere in Five9’s annual and quarterly reports filed with the Securities and Exchange Commission. In addition, management will make reference to non-GAAP financial measures during this call. A discussion of why we use non-GAAP financial measures and information regarding reconciliation of our GAAP versus non-GAAP results is currently available in our press release issued earlier this afternoon, as well as in the appendix of our investor deck and available in the Investor Relations section of Five9’s website at investors.five9.com. And now I’d like to turn the call over to Five9 CEO, Rowan Trollope. Please, go ahead.

Thanks, Lauren, and thanks to all of you for joining our call this afternoon. I'm extremely pleased to report a strong start to the year. First-quarter revenue grew 33% year-over-year. This growth continues to be driven primarily by the strength of our Enterprise business. Enterprise subscription revenue, which accounts for approximately 60% of total corporate revenue, increased 46% on an LTM basis. Additionally, our quarter-over-quarter growth rate of 5% continued to outpace pre-pandemic levels of sequential growth, demonstrating the ongoing retention of the COVID benefit we experienced through Q1 2021. We continue to see many more years of LTM enterprise subscription growth in the 30s, as we tap into the barely penetrated $58 billion TAM in the contact center space. The penetration of this TAM, I remind you, is being driven by three immutable trends: digital transformation, the shift from premise to cloud, and the imperative of improving efficiency via AI and automation, as labor becomes scarcer and more costly. Continuing on our commitment to balanced and efficient growth, adjusted EBITDA for the first quarter came in at 13.4% of revenue, despite the significantly increased investments to both expand our professional services organization worldwide and grow our public cloud footprint. This attractive combination of high growth and strong margins is the result of three factors: our platform, our market, and our global expansion. Taking each in turn, starting with our platform. With approximately 0.25 million concurrent seats on our platform with our largest clients individually deploying over 10,000 seats, with 99.995% LTM uptime, with the highest levels of security certifications, Five9's platform is built for the scale, reliability, and security that enterprise customers demand. In addition to these fundamentals, what differentiates our platform is the increased cadence of innovation, in particular the success we're enjoying as enterprises start to understand the practical value of AI and automation. For instance, last year one of our biggest customers was experiencing high average handle times and call abandonment rates, which were further exacerbated by labor shortage problems of recruiting and retaining agents. They needed to automate in order to improve customer experience and meet service delivery requirements. So they decided to implement our IVA solution. In just 10 months through March of this year, they are deflecting more than 40,000 calls per month, which would require 36 human agents to perform this work manually, resulting in $2.2 million of annualized savings or approximately 10% total labor costs. We continue to see this traction building, as customers expand the use cases for AI and automation in the contact center. At a base level, customers are using IVAs to deflect mundane tasks, leaving the live agents to handle the more nuanced and complicated interactions. The continued need for this is seen in our record IVA bookings. As customers increase their level of comfort with AI and automation, they're now moving on to additional use cases, such as using AI to assist and guide live agents. As we stated last quarter, we'll soon be releasing the latest version of Five9 Agent Assist, which offers new capabilities around AI checklists and automated compliance. These AI capabilities ensure that not only does the agent have the information they need when they need it, but we've also seen our customers looking to adopt these features to help support agent onboarding, training, and upskilling. For example, one customer, a leader in prepaid broadband services, uses real-time guidance and reminders during calls, allowing for upsell opportunities for increasing data plans, turning their agents from support agents to sales agents. Similarly, another customer who focuses on enabling digital workplaces uses Agent Assist to improve CSAT and reduce the time needed to onboard their agents. We're continuing to focus on how we make AI practical for our customers and bring ongoing innovation to this space, expanding our capabilities to better meet growing customer demand. This is not only through our product but also through our partner ecosystem and professional services. Positioning Five9 as an AI-enabled platform is gaining traction. Since the launch of our VoiceStream API, as referenced in our last earnings call, we've onboarded more than 24 partners to the platform. In addition, in Q1, we expanded the availability of the VoiceStream API to enable customers to access the real-time stream of data directly without the need for a third party. We see this as a growing area of interest amongst customers, as they look to invest more in contact center analytics and insights, a trend we see accelerated by AI, but not exclusive to AI use cases only. Finally, on the professional services side, we're improving the operational aspects of our AI and automation go-to-market. For example, our increased investments in professional services have enabled us over the last six months to reduce by approximately 50% the number of days between IVA sale and starting the IVA implementation, allowing clients a faster time to value and a faster time to revenue for Five9. Another illustration is our recently launched IVA service offering. Virtual agents need to be trained just as human agents do. Existing use cases need to be tuned, and new use cases are constantly being added. Our platform is simple to use, so customers can and mostly do perform these services by themselves. However, many customers have asked us to manage this with them, and hence this launch. In just a matter of weeks, we've closed several opportunities and have a very solid pipeline built out. I'm now secondly going to discuss our March upmarket. As you know for several years, we've been investing to fulfill our vision to move upmarket and win larger and larger contact centers. You've seen concrete evidence of the success we're having in pursuit of this vision, winning mega deals and achieving a significant increase in the trajectory of customers with over $1 million in ARR. This cohort, including a total of 134 customers in the fourth quarter of 2021, is the fastest-growing part of our business with an average CAGR since inception of 93%. Today we're going to absolutely and incontrovertibly demonstrate the success we're having in our ability to reach the very top end of the market when Dan talks about a landmark win that places Five9 amongst the leaders when it comes to large enterprise deployments globally. So stay tuned for that. And we confidently expect that we'll continue to show strong growth in the enterprise market. Five factors give us the confidence to make this prediction. The first one is that the upper end of the market is comfortable now with accelerating their transition to the cloud. You don't have to look any further than our bookings to know that this is happening. Second, our platform has demonstrated now that it can meet the needs of the largest customers. I had mentioned a moment ago, there's going to be more on this when Dan presents his section. Third, our industry-leading efficient go-to-market machine. Our four sales teams: strategic enterprise, mid-enterprise, and commercial enable us to match selling skills with market demand. Our strategic team, in particular, has been doing extremely well. These teams are complemented by an increasingly mature and committed set of channel partners, including systems integrators, service providers, technology solution brokers, VARs, and also ISV partners. In fact, first-quarter channel bookings grew 68% year-over-year, driven in large part by the SIs who are increasingly helping Five9 in large strategic engagements, as our customers execute their digital transformation programs. Fourth, success breeds success. The decision-makers on these mega contact center investments often consult with each other, and prospects seek validation from the companies in which we've already implemented our solutions. And they're getting excellent references. Finally, fifth, and this is crucially important, is the trust that we've built up over the years. At the end of the day, we are a service organization providing 24/7, 365 days a year service globally in a mission-critical software. Our customers know that we have and will deliver through thick and thin. This commitment continues to be evidenced by our industry-leading NPS scores of over 80% for both professional services and customer support. So as you can see, our momentum up-market is stronger than ever. Lastly, the success we're having with expanding internationally. As many of you know, about two years ago, we decided to aggressively step up our investments outside the U.S. where the majority of agents are located. We've done that. Our public cloud instances outside the U.S. have gone from zero a little over two years ago to over five today, with more coming in the near future. Our headcount outside of the U.S. has more than doubled over the last two years from 455 to 962 now. We've seen significant increases in other areas including channel partners, marketing spend localizations, and the like. These investments are clearly paying off, with first-quarter LTM revenue from non-U.S. companies growing 46% year-over-year. You should expect more of the same as we increase the percentage of international revenue from 9% LTM in the first quarter to the mid-to-high teens by 2026. I should hasten to add that while the direct result of strong international growth is gratifying, the indirect benefit is even bigger. By indirect benefit, I'm simply referring to the U.S. mega deals that we're booking. There is no chance, zero, that we could have won the mega global deals without the increased international footprint. In summary, the three fundamental building blocks needed to continue delivering balanced growth: our platform, our march upmarket, and our global expansion are firmly and solidly in place. We continue to expect these building blocks to position us well to reach $2.4 billion in revenue and 23% adjusted EBITDA by 2026. I'd now like to directly address our employees. I want you to know that our success is the result of your laser focus on pursuing our mission and your clockwork-like execution. None of this would have been possible without you. So thank you very much. One last matter before I turn the call over to Dan. The Russian-Ukraine conflict has prompted us to shut down our Russian satellite office in Nizhny Novgorod where we currently employ some 176 people and established a new European development site in Portugal, which among other benefits has a base of technology and contact center talent. We anticipate that many of our Russian staff will relocate to our new facilities in Portugal. I'll now turn the call over to our President, Dan Burkland. Dan, go ahead.

Thank you, Rowan. Once again we continue to execute upmarket with unprecedented success by bringing unique innovation to help customers across the globe differentiate how they deliver customer experience. We've proven this with record performances in Q1 in bookings as well as pipeline growth and channel contributions while also setting bookings records for our AI and automation solutions. Now for some key wins for the quarter. The first example I'd like to share is an HR and payroll software company. Their previous solution had no ability to provide AI automation and the analytics to improve and optimize the customer experience. They chose Five9 and have opted in for our full omnichannel offering as well as our IVAs, Agent Assist, WFO, workflow automation, and performance dashboards. This will all be integrated with Salesforce and several other CRMs, and we anticipate this initial order to result in over $3.7 million in ARR to Five9. The second example I'd like to share is a European insurance company based in the U.K., with over 38 million members and taking inquiries from patients, medical care providers, claims, and collections. They looked at all the CCaaS providers and chose Five9 for our full suite of solutions, including omnichannel, our IVAs, and our full suite of WFO powered by Verint for QM, speech analytics, WFM, and performance management. We are integrated to their Microsoft Dynamics CRM along with eGain for Knowledge Management. We anticipate this initial order to result in over $3.1 million in ARR to Five9. And now, as we normally do, I'll share an expansion example win from one of our installed base of customers. This is a true example of a land-and-expand story. The insurance broker started with Five9 three years ago with less than 10 seats and recognized the value we had brought to that one department and the potential to transform and automate their customer experience. So in 2021, they expanded and added several hundred seats. Now, in Q1 of 2022, they added our WFO suite powered by Verint for QM WFM and speech analytics. They also added our performance dashboards, IVAs, and Agent Assist, adding over $700,000 in ARR, bringing them to well above $1 million of anticipated ARR to Five9. This is a great example of truly bringing automation and AI into an environment and raising the ARPU significantly due to its compelling value and ROI. To wrap it up, I'd like to share our most significant win for the quarter. You may recall just a few quarters ago, we shared a record win for the global parcel delivery service company who is now ramping towards an anticipated ARR of over $30 million with Five9. Knowing the sheer size and scope of this customer, I was reluctant to say that this record would ever be broken. Well, today, I'm very pleased to announce that that record has been broken. After competing with all of the players in our industry, we signed one of the largest companies in the world, a health care conglomerate with retail, pharmacy, health insurance along with many other divisions and brands. This customer will be rolling out tens of thousands of seats with Five9 starting towards the latter part of this year and throughout next year, bringing their anticipated ARR to Five9 to over $40 million in software subscription alone. They were very siloed through many years of acquisitions and expansions, and are now replacing all of their legacy on-premises solutions from Avaya, Cisco, Genesys, and NICE with Five9. Five9 was chosen for five key areas of expertise; our ability to help them transform and deliver a reimagined consistent and highly differentiated customer experience; secondly, our ability to provide valuable insights and analytics allowing them to continuously evolve and optimize their contact center operations; third, our deep and proven integration with Salesforce; fourth, our complete WFO suite powered by Verint; and fifth, we were the only provider they felt could service them effectively across all of their subsidiaries and businesses. We believe this to be one of the largest if not the largest CCaaS deployments in the world. As you can see, we continue to execute successfully with companies of all sizes with all of our products and in all geographies. With that, I'll hand it over to Barry to share our financials. Barry?

Thank you, Dan. First, a reminder that unless otherwise indicated, financial figures I will discuss are non-GAAP. Reconciliations from GAAP to non-GAAP results are included in the appendix of our investor presentation on our website. We had another strong quarter with our top and bottom-line results exceeding our expectations. As Rowan mentioned, revenue grew 33% year-over-year on top of the all-time record growth of 45% we reported in Q1 of last year, driven primarily by the strength of our enterprise business. Additionally, our quarter-over-quarter growth rate of 5% continued to outpace pre-pandemic levels or sequential growth of 3% we reported for both Q1 2020 and Q1 2019, demonstrating the ongoing retention of the COVID benefit we experienced through Q1 2021. In terms of revenue composition, enterprise made up 85% of our LTM revenue and our commercial business represented the remaining 15%. Our commercial business grew in the 20s on an LTM basis. As a reminder, we expect our commercial business to grow in the teens for the next several years as we continue to focus the majority of our investments on moving upmarket. Recurring revenue accounted for 91% of our total revenue in the first quarter and the other 9% was comprised of professional services. Our LTM dollar-based retention rate was 120%. Quarterly fluctuations are inevitable as mega customers come onto the platform at different times and ramp at different rates and particularly, in the near-term as we lap the one-time COVID benefit. I'd like to remind you that our dollar-based retention rate is an LTM figure, which means that we will only fully lap the one-time COVID benefit once Q1 2021 is out of the denominator which will not happen until Q1 2023. Over time, however, we expect the retention rate to trend towards the high 120s by 2026 due to a higher mix of enterprise customers, especially larger ones, which have demonstrably higher retention rates and higher ARPU from our automation and other offerings. First-quarter adjusted gross margins were 60.5%, a decrease of approximately 350 basis points year-over-year, due to the ongoing investments we have mentioned previously. These investments are in two areas: first, a step-function increase in professional services, where headcount grew more than 50% year-over-year. We're scaling up and building a worldwide PS organization to successfully implement the larger and larger customers we have been winning and expect to continue winning. Second, we also continue to invest aggressively in public cloud to build out new sites for global expansion, which are currently only partially utilized. I would like to point out that on a sequential basis, first-quarter adjusted gross margin decreased 230 basis points, similar to the 240 basis point sequential decline we saw a year ago. First-quarter gross margins typically decline sequentially due to the FICO reset. This year, we have the added headwind of increased investments. As we have been saying, the accelerated investments in professional services and public cloud are transitory. We are forecasting them to peak as a percent of revenue in the second quarter. Therefore, we expect gross margins to decline slightly in the second quarter and start improving in the second half of 2022, with annual gross margins expected to finish at or above the 60.5% for the full year 2022, and continue improving in 2023 and beyond. First-quarter adjusted EBITDA was $24.5 million, representing a 13.4% margin, approximately 270 basis points below the Q1 2021 margin due to lower gross margins. Expenses as a percent of revenue decreased by 90 basis points year-over-year driven by G&A decreasing by 120 basis points, marking the 30th consecutive quarter of year-over-year improvement in G&A expense, as a percent of revenue. First-quarter non-GAAP EPS was $0.22 per diluted share, which was relatively flat year-over-year. Before turning to guidance, some balance sheet and cash flow highlights. During our last earnings call, we mentioned that DSO was higher than normal at 36 days as a result of implementing a new billing system. Invoices were issued days or even weeks later than normal, as we carefully validated each invoice before issuing them to our customers. To illustrate this concretely, we typically post approximately 50% of our invoices by dollar value on the first day of the quarter. After we implemented the new billing system in October, less than 31% of day one invoices went out on November 1, December 1, and January 3. The rate increased in February, and by March 1, the rate had almost risen to a normal 47%. As a result, I'm very pleased to share that while the three-month average DSO for the first quarter was as I've just mentioned 36 days, we saw meaningful improvements each month in the quarter. The spot rate DSO for March was a normal 32 days. This DSO performance in turn helped drive exceptionally strong first-quarter operating cash flow which came in at $28.7 million. We continue to expect operating cash flow margin to increase meaningfully in the longer term driven by our demonstrated ability to expand adjusted EBITDA margins, our substantial NOLs, and our low DSOs. One other item on overall cash flow you can note in your modeling. Last quarter, I mentioned that we planned to make the $24 million earnout payment to Imprint shareholders by March 31, 2022. Due to a delay in the response from the Imprint shareholder representative, this was instead paid in the first half of April, with approximately $6 million reflected in operating cash flow and another $18 million reflected in financing cash flow. Before discussing our guidance, let me share with you the financial impact on slide 9 resulting from the Russia-Ukraine conflict. We estimate the one-time costs of closing our Russian office and the associated one-time costs to attract and move Russian employees who would like to immigrate and join the new development center in Portugal to be between $8 million and $12 million, of which $2.7 million was included in the first-quarter results. We've excluded these one-time direct incremental costs from our non-GAAP results. We have allowed for the higher ongoing operating expense in Portugal in our bottom line guidance. And now I'd like to finish today's prepared remarks with a discussion of our guidance for the second quarter and the full year 2022. In terms of top line, we're guiding Q2 revenue to a midpoint of $179.5 million, which represents a 2% sequential decline, slightly smaller decrease than the typical pattern heading into Q2 when we guided in the past to declines of between 3% and 4%. I would also like to point out that the implied year-over-year growth at the midpoint is 25%, which is the highest growth rate we have ever guided to when compared to pre-pandemic second quarters. For the full year, we are raising the midpoint of our revenue guidance from $756 million to $771.5 million, which represents an increase in the year-over-year growth rate from 24% to 27%. As for the bottom line, we are guiding Q2 non-GAAP EPS to come in at a midpoint of $0.18, a decline of $0.04 per diluted share sequentially. The quarter-over-quarter decrease is in line with the typical pattern of Q2 guidance and reflects a strong seasonal headwind we've faced on revenue in the second quarter, as well as the continued investments we are making in professional services and public cloud to further drive our enterprise and international momentum. Despite these investments and the incremental run rate in Portugal, we are raising the midpoint of our full-year guidance from $1.14 to $1.23 per diluted share. Additionally, I would like to provide more color on the quarterly profile of both the top and bottom line for the second half of 2022. For revenue, consistent with guidance in past years, we expect it to increase sequentially in the third quarter and more strongly in the fourth quarter. Given the shape of this revenue curve, we expect third-quarter non-GAAP EPS to improve to approximately $0.30 and improve further and more significantly in the fourth quarter. Please refer to the presentation posted on our Investor Relations website for additional estimates including share count, taxes, and capital expenditures. In summary, we are very pleased with our first-quarter performance and our ongoing success in moving upmarket, which will continue to help drive LTM Enterprise subscription growth in the 30s for the long run.

Barry, thank you very much. We will begin our question-and-answer session by going first to DJ Hynes.

Hey guys, congrats on the great quarter. Awesome to see that $40 million customer. That's awesome. Rowan, I want to ask a question for you on AI. How would you characterize your lead there versus direct competition in the space? What do you look for? How do you measure that? Just curious about the kind of data you can use in a sales pitch?

It's challenging, DJ. I appreciate your question. If I understood it correctly, regarding how we compare to the competition, there's no separate reporting on this in terms of revenue. So, we don't really have a clear view of where we stand competitively. It’s not categorized like that. However, I believe your question was more focused on our engagement with customers, how we compete, win, and establish our position in that context.

Yeah, like the technical differentiation. Yeah.

Yeah. Look, number one we bought what we thought was the best company in the world, and that was sort of backed up by analysts top right in the Magic Quadrant, and that was Inference Systems. I think we started with the best technology in the world as the starting place, and we've continued to invest in that. So they have been working on, for several years, a completely brand-new release called Studio 7. That is now launching to our customer base, which is a massive leap forward. That's a big part of it is just innovation on the technology side. And then I think fundamentally, why are they number one is because the approach is very different from any of our competitors. I'm not aware of any of our competitors who are built the way that we built. We have a different perspective, and Inference had a different perspective on this, which is to sort of stand on the shoulders of giants, leverage the underlying technologies that were built by the Googles and Amazons and the hyperscalers of the world, so that customers can make their own choice, and then we build that layer that sits above all those technologies. You can reflect back on many conversations, DJ, that we've had which is exactly this point. This was our strategy as well, to say, let's not use our R&D resources trying to spend a lot of money keeping up with the competition on automatic speech recognition and natural language processing or text to speech. Those are the two big ones – ASR and text to speech. As a result, we've been able to apply those resources to take those kinds of commodity technologies and apply them to the contact center in unique and different ways. That's giving us our technology lead. The product stands up extremely well in demonstrations and proof of concepts with customers. It's clearly the leader, as demonstrated in the success that we're having. We're now starting to generate real customer references and use cases. One of our largest customers in the health care space drove a 10% labor savings by implementing our solution, completely replaced their IVR, and had – I think they had $2.2 million savings per year, which represented 10% of their total labor costs or 36 agents, just by implementing this technology. It's those kinds of references in the large enterprise that our customers are going, wow, you guys clearly do have the best technology, and we want to get a piece of it.

Great color. A follow-up along those lines, kind of a crystal ball question. If you take a contact center today that has 1,000 seats manned by people, how many of these seats do you think that same contact center will have manned by people in five years?

Well, doing what they're doing today? Much less. How much less? It's hard to say. Right out of the gate, we're seeing numbers like I just shared with you, 10%. I'd anticipate that number goes up fairly dramatically. When you look at the average contact center and look at what are their low volume, but high volume, very low-value kinds of calls, I mean that could be 50%, 60%, 70% of the volume into a contact center. It depends on your industry. It's hard to give a kind of a general answer. But I'd say, the contact center in five years looks radically different than it looks today, in terms of like think about the sea of cubicles and the people on like we're replacing that with automation and putting those humans to work at what they're really, really good at. So I couldn't give you an exact number crystal ball-wise, like you asked, but it's going to be – I think it's going to be fairly dramatic in the next 5 to 10 years.

Yeah, yeah. Super helpful. Thanks, guys. Congrats.

Thanks, DJ.

We'll move on to a question now from Ryan MacWilliams at Barclays.

Thanks, guys. It feels like this time last year, we were talking about could Five9 win a mega customer? Now, after some of these deals, the question is like, how many mega customers could Five9 win? Congrats on the move up-market. Rowan, I'd love to just hear your perspective on these mega deals; kind of like why now? Right? Are they ready for it from a technology standpoint, or is the shift to work-from-home really driving larger cloud adoption to contact center? And then for Barry, just as these larger deals maybe make revenue a little lumpier, just in terms of your guide where could we see a little more upside from these deals turning on, like second quarter, second half, start of next year? Just would love some insight.

Yeah, I'll take the first part. It's a perfect storm, I think, of four factors. One is our readiness. Four years ago, we weren't ready to take on the size of the $44 million customer that Dan just talked about. Our technology wasn't ready four years ago. We're now ready, so we're able to land those customers. As we land them, we get those customer references like Dan mentioned in this particular one. They called the parcel delivery service back channel and got a great reference. So that's the second thing: success breeds success. Number three, I think customers are ready. The market is – I don't know if this is post-pandemic. I don't know if this is, what exactly is driving it, but the pipeline on the mega deals is really there in the way that it hasn't been over the last few years. So I think it's just the market becoming ready to move. And then the fourth thing – and I wouldn't – I think this is really important – is the breadth of our portfolio. The fact that we now have technologies that you can get in the cloud that you cannot get on-premises. If you're an on-premises customer today, you can't get an IVA. They don't work on-premises. You must go to the cloud. So that factor that there is now some extremely compelling reason beyond the normal cloud stuff for a large enterprise to move to the cloud is another good reason. I think it's a combination of those four factors. They're all kind of hitting at once, and it's creating this perfect storm scenario. We invested ahead of it. Dan’s team started this two years ago restructuring, or creating the team in anticipation of these investments all paying off, and they are paying off now. You see that in the $44 million ARR customer we just landed.

And Ryan, I'm going to respond to your question in four parts if you don't mind. The first part is the parcel delivery service that is currently the biggest contributor of the megas, and that is still continuing to ramp this year. The second one is the SI that was spun out. That too is also contributing currently and is also ramping for the rest of the year. The third one, which is the British insurance company that we announced almost 18 months ago now, that is going live this quarter and will ramp throughout the rest of the year. Finally, the latest one that Dan talked about earlier on will ramp probably starting in the fourth quarter, and there will be a small contribution from it, but the majority of that will be next year.

I'll squeeze one more in maybe for Rowan or Dan. But Rowan, just on the IVA standpoint, we're hearing about inference wins in some Avaya and Cisco deployments. How does that new logo growth seed future contact center wins for Five9? Is it a no-brainer to go with Five9 for the rest of the contact center after that, or is it still kind of up for grabs after inference?

It's always a no-brainer to go with Five9, but I'll give it to Dan to answer that directly. That was a softball, Ryan, sorry.

Yes. So, Ryan, thanks for the question. It's a great way to get your foot in the door. Not all companies are ready to make their transition to the cloud right now, but they can do so with the IVAs. If you're in there at the front end with the IVAs, it's a natural – you're in the pole position when they do come around to transform and migrate to the cloud. We think it puts us in a very advantageous position.

All right. Thanks, guys.

Thanks, Ryan.

Having said that, I'd like to move on to our next question from Scott Berg at Needham.

Hi everyone, congrats on the fantastic quarter. I'm going to throw out a 36-part single question, so better get ready. No, I wanted to follow-up on some of Barry's commentary around the costs to move some of your Russian employees out, but pivot that maybe to a general sales question within Europe. I know you all made a big push into the European theater over the last couple of years; heavy partner sales over there. But from what you're seeing right now in that environment, is there any, I guess, headwinds to either sales cycles or demand for apps in the Five9 platform over there? Because it's still kind of business as usual?

Okay, that was quite detailed. I'll let Barry discuss the Russian operations and the cost perspective. But to provide a high-level overview, our European business is performing exceptionally well. We have invested significantly in that area, which is a major focus for us. We've made excellent hires, particularly in Germany. We're actively pursuing opportunities there, and Europe is thriving. This will actually enhance our efforts further. We plan to utilize a portion of the Russian employees as a foundation to create a research and development center in Portugal. We are establishing a substantial, cost-effective R&D center for Five9 in Portugal, where there is a local talent pool we intend to target aggressively and integrate into the Five9 culture. We believe this will greatly assist our expansion efforts, and having local resources in Europe will be quite beneficial. We're viewing this as a springboard and a fantastic opportunity. I'll let Barry address the financial aspects.

Yeah. Real briefly, Scott, that $8 million to $12 million. We don't quite know yet, exactly how many people are going to come over. This is a major life decision for these people that are caught in the middle of this; hence the range of $8 million to $12 million. The major components in that are the severance because we're actually shutting down an office, and that comes with severance cost. The cost to move, and attract, and retain the people in a new country, and also mundane things that add up like immigration costs and legal fees and so on. But this has been extremely well run, and we're very optimistic that we will be able to get the majority – well a meaningful number to come over.

Yeah. And just to be clear, that $8 million to $12 million of one-time expense associated with restructuring is somewhere in the $45,000 to $68,000 per employee. So it's a very small number when you think about it. When you just think about establishing a new R&D center, hiring and ramping and training new employees, we actually couldn't have done this at this level in this successful of a way before the conflict in Ukraine broke out, because our employees in Russia wouldn't have been as willing to move. Given this current situation, we've got a lot more interest in actually relocating out of Russia, so we're using that to our advantage.

Also just to emphasize what I said on the call, Scott, there is a slightly higher cost in Portugal. And we've absorbed that in our bottom line guidance.

Yeah.

Congrats. Thanks again, everyone.

All right.

Thank you, Scott.

Moving on to the next question, this is from Taylor McGinnis at UBS.

Thank you for taking my question. Looking at the implied recurring revenue growth this quarter, it appears that the sequential growth of 3% aligns with pre-pandemic levels. Barry, can we assume that the quarter might have been slightly underwhelming regarding some of the larger deals coming together? Moving forward, how should we view sequential growth in relation to pre-pandemic levels in recurring revenue as these significant deals begin to ramp up?

Yeah. So the first part clearly we benefited from the ramping of these mega deals, as I described in the earlier question. Taylor, in terms of the future growth rate sequentially, we've given guidance, which I emphasize is prudent guidance as we customarily provide. If you want to do some scenarios with basically arithmetic in terms of sequential growth, on the one hand, you could assume that everything goes extremely well, and these megas all come on stream, on time, et cetera, et cetera. You have 5%, 12%, 14% sequential growth in the next three quarters. That will get you to 37% growth year-over-year. On another example, and remember that 5%, 12%, 14% is from 2020, where we had COVID benefits. On the other hand, if you use growth rates that are not COVID benefited, like in 2021, 2019, 2018, you get instead 4%, 7.5%, and 11%, and then that gives you a 32% growth. So we're sticking with our prudent guidance, and we'll update it early in the year as the quarters unfold. In the meantime, you're going to need to make your own conclusions beyond our guidance.

Perfect. Thanks. That's helpful. Congrats on the quarter.

Thank you.

Moving on to Jefferies, and Samad Samana.

Great. Good evening. I want to echo the congratulations on the strong results. Dan, could you help us understand what you're seeing regarding deal cycles? Are they getting longer, shorter, or remaining the same? How does that compare to the last couple of years when we've all been at home and also to pre-pandemic time frames, as well as the close rates for deals?

Thank you for your question. Sales cycles are continuing and are actually becoming slightly shorter over time. Regardless of the impact of COVID, we are no longer in the position of having to promote cloud solutions ourselves. Instead, we are focusing more on opportunities driven by our partners, who have already established relationships and perhaps held initial meetings. We find ourselves getting involved at a later stage in the sales process, which helps reduce the overall cycle. In the high end of the market, we're observing significant momentum in large deals, including those at the top end of the enterprise and strategic markets, and those are also beginning to shorten. Initially, entering this market requires us to evangelize and effectively showcase how CCaaS and specifically Five9 can serve as a viable alternative for large enterprises. Companies often question the need to disrupt their existing operations, sometimes for over a year, to gain these benefits. While there are numerous advantages to transitioning to the cloud, they ponder where the added value lies if it means significant disruption for an extended period. We need to clearly present the business case and the return on investment. As they recognize the benefits and observe the success of other enterprises, we see that momentum building, if not speeding up.

Great. I appreciate the color. Thanks, guys.

Yes.

We'll take a question now from Jim Fish at Piper Sandler.

Hey, guys. Congrats on the quarter. Last quarter, Rowan, we were talking about you guys unlocking the team from these larger deals, and it's clear you guys have. Just how should we think about the competitive environment for these larger deals, especially as obviously you've had AWS Connect that really hasn't been part of the bake-offs that you guys have been part of. Microsoft and Google now entering the space. And just secondly, Dan, you've mentioned $40 million ARR on just the software subscription. What could the usage element of that contract be given a typical contract is 75-25 or is this kind of pricing in usage already? Thanks.

Maybe I'll take the first part, around competitive. We're not seeing the Amazon or Google – certainly not Google. I mean they just have a partnership with a very small start-up in this space, and Microsoft has announced a product. It's us, Genesys, and NICE that are in these deals. Dan said previously, and I'll reiterate, where Amazon does show up like if we're in the last stage where we're fighting against Amazon, something has gone horribly wrong. That doesn't happen, because the companies make a decision early on. Do they want to buy a product or do they want to go try to build their own sort of platform using Amazon? We're just not seeing that very much, to be honest. But we are seeing Genesys and NICE in terms of cloud competitors. Realistically, in these very large, it's Genesys and Five9 in terms of ability to potentially serve the customer. Obviously, we think we're winning more than our fair share of these deals. Dan?

Yes, you summarized it perfectly. When considering the competition, many of the large deals evaluate Amazon Connect. However, they either have the resources and capability to build and customize a solution over several years before going into production, or they recognize that we offer a completed product that they can enhance with our AI and automation. They are eager to adopt our solution because it allows them to implement it much more quickly and efficiently.

I also think the investments in the scale and the platform that we built; we really rearchitected our platform over the last few years. That's been a big focus on the R&D side. That's what's paying off right now. That investment in R&D, we rearchitected the entire platform, and that's allowing us to land these mega deals. Frankly, I think we've jumped ahead of the competitors in terms of ability to execute here and ability to scale with these largest of the large customers. That's also helping as well.

Makes sense. Dan, just following up on that large customer on the usage side.

Oh, the usage, sorry. Yes, that customer is not going to put usage through Five9. Sometimes these large companies have long-distance calling contracts for multiyear with large carriers, some of whom may be a partner of ours. We're very careful to make sure we honor that. The good news there at the end of the day is over $40 million in subscription revenue alone, and that's margin accretive because we don't have that lower-margin usage pulling that down.

Makes sense. Congrats, guys. Thanks.

Thank you, Jim.

Taking our next question now from Terry Tillman at Truist.

Yes. thanks for taking my question as well. I'm not going to ask Dan if there's a $50 million ARR deal this upcoming quarter. That's not one of my prepared questions. I'll go with my prepared question. It's a slight two-parter. So on IVA, where do you think you are in terms of like innings in terms of traction with the installed base going back to them? Just the attach rate on new deals? I'm just kind of curious how long of a tail we have because it seems like it's a real new key product cycle. The second part of it is, how will Agent Assist compare to IVA in terms of impacting ARR in general? Thank you.

Yes, that's a great question. We are just at the beginning stages with IVA. In our last quarterly meeting, we discussed a 10% attach rate to our Enterprise business. This represents the customers who are interested in our offerings and are starting with a basic use case, typically those that are high-volume and low-complexity. As we have mentioned before, these customers will begin to introduce additional use cases. They will explore further automation opportunities and grow more accustomed to interacting with voice interfaces that aren't human. We can already see this shift in our own interactions with voice assistants like Siri and Alexa. If we had introduced this technology five or six years ago, people might have been hesitant due to a lack of familiarity. Timing has definitely played a crucial role. The technology's accuracy is continually improving, and as we make these solutions more streamlined and accessible, we will see greater adoption. Regarding our installed base, the opportunity is substantial. We have not significantly penetrated this market yet in terms of generating incremental revenue. This industry, particularly in automation—whether it's IVA or Agent Assist—is just getting started. We expect a decade or more of ongoing adoption as both companies and individual users become more comfortable with it. When comparing Agent Assist to IVA in terms of revenue contribution, Agent Assist allows us to analyze conversations and transcribe them into text. The key question is how we can utilize that data. There are numerous new opportunities to leverage this information, whether in real-time to coach agents or historically to extract insights for management. These insights could highlight frequently asked questions that go unaddressed or are repetitive. We could recommend automation for questions that are asked 26% of the time, providing the same answer repeatedly. Much of this involves consulting and combines elements of both Agent Assist and IVA; they complement each other. Agent Assist will help create more opportunities for IVA.

Thank you. Congrats.

Moving on now to Will Power R.W. Baird.

Thank you for the question. I noticed that you mentioned the record bookings again this quarter. I would like to gain a clearer understanding of the main drivers and components behind that. Is there a way to provide a more detailed breakdown of IVA and Virtual Observer? Clearly, those are significant growth areas. How critical are they to the bookings now? Any additional insights on that would be appreciated.

I don't know, Barry, if you want to take the financials side of that one.

On the bookings side, well, it is pretty much, however you cut and dice it, reasonably strong or very strong. In the case of enterprise, as Dan mentioned in the prepared remarks, the bookings were just a record. The installed base is not seeing the likes of what they had obviously during COVID, but the momentum is there. In terms of IVAs, as we mentioned, those were doing very well in the prepared remarks; they were the record bookings.

I'm sorry, you had asked about bookings. I thought you had asked about the revenue, but Dan's probably going to comment on the booking side. Sorry about that. That's a director problem.

All right. Yes, regarding the record bookings, the key driver is the introduction of automation technology into the contact center for the first time in nearly 30 years. This technology is influencing decision-making, particularly since it's only available through the cloud, which encourages many to transition to cloud solutions. Having this technology accessible is crucial, even if companies don't implement it immediately. Our 10% attach rate shows that many are trying the Agent Assist feature, and we're observing that most decisions are driven by the positive feedback and demonstrations they've seen. For many, the initial step is to migrate their operations to the cloud before they start incorporating automation. This approach is helping Five9 secure deals due to both the compelling narrative and the technology itself. Additionally, consideration of technology implementation is vital. Many vendors under consideration have excess technology that exceeds their needs, making it important to determine which vendor can optimize and yield the most value from their solutions. This is where the partnership aspect comes into play. It’s crucial to have a professional services team that can provide consultation and optimization support. Ongoing support is also essential to help clients adjust their solutions as their business needs evolve. This is often a neglected area in the sales process, but we prioritize it because we believe we excel in this aspect.

That’s great. Thank you.

Next is Mike Latimore, Northland Capital Markets.

Great. Great. Thanks. Just on the IVA pricing, is that still kind of consistent with what you've been thinking in the past? And given just the strength in IVA bookings, should we think about ARPU continuing to grow this year?

Yes, I'm going to hand it to Daniel.

So, regarding IVA pricing, we have established it to be approximately $450 per IVA. When comparing that to the cost of a human agent, which is about $200 plus a significantly higher amount for their overall cost, the return on investment is quite appealing. As Rowan mentioned earlier, there is a health care company that managed to offset 36 human positions, which is roughly 10% of their workforce, by implementing the IVA. This introduces a new and persuasive dynamic in our industry that hasn't existed before. This will also enhance the new average revenue per user, particularly as we discuss attachment rates. Frequently, we encounter customers with around 500 seats who are uncertain about their expected adoption rates. The adoption rate can vary significantly based on many factors, including the industry, the types of inquiries handled by the contact center, customer comfort levels, and the demographics in question. These elements play a crucial role in determining the outcome. Many large clients with numerous human agents may opt to trial the IVA and then evaluate its impact before deciding on any further expansion. When we analyze the average revenue per user, we see it contributing to a gradual increase. However, the overall volumes remain relatively low until we can effectively penetrate that market segment. That is when we will observe more substantial growth. Will it increase? Yes. But the extent is still uncertain at this stage.

All right. Got it. Thank you.

And ladies and gentlemen, that is all the time we have for questions today. I'll turn it back to our speakers.

Thank you very much. We truly appreciate you joining us today. We have had another exceptional quarter at Five9, with ongoing strength in our performance. We are experiencing significant growth opportunities, particularly with our strategic enterprise segment, which is reflected in our results. We are excited about a fantastic remainder of the year. Thank you all very much.