RingCentral, Inc. Q3 FY2023 Earnings Call

Good afternoon and welcome to the RingCentral Third Quarter 2023 Earnings Conference Call. All participants will be in listen-only mode. Please note this event is being recorded. I would now like to turn the conference over to Will Wong, Vice President of Investor Relations. Please go ahead.

Thank you. Good afternoon and welcome to RingCentral's third quarter 2023 earnings conference call. Joining me today are Tarek Robbiati, CEO; Vlad Shmunis, Founder and Executive Chairman; and Sonalee Parekh, CFO. Our format today will include prepared remarks by Tarek, Vlad, and Sonalee, followed by Q&A. We also have a slide presentation available on our Investor Relations website that will coincide with today’s call, which you can find under the Financial Results section at ir.ringcentral.com. Some of our discussion and responses to your questions will contain forward-looking statements regarding the Company’s business operations, financial performance, and outlook. These statements are subject to risks and uncertainties, some of which are beyond our control, and are not guarantees of future performance. Actual results may differ materially from our forward-looking statements and we undertake no obligation to update these statements after this call. For a complete discussion of the risks and uncertainties related to our business, please refer to the information contained in our filings with the Securities and Exchange Commission, as well as today’s earnings release. 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. For certain forward-looking guidance, a reconciliation of the non-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, I’ll now turn the call over to Tarek.

Good afternoon. I'm excited to be on my first earnings call as RingCentral’s CEO. We had a good quarter, as we exceeded our guidance across our revenue and operating profit metrics. Sonalee will provide more financial details shortly, but the key takeaway is that RingCentral continues to win and innovate in a competitive market. We win because we have an industry leading product that is mission-critical to many customers. In particular, within the SMB, mid-market, and consumer facing verticals, RingCentral is the de facto choice for many businesses given our leading reliability, product integrations, and commitment to innovation. This theme was apparent throughout the many conversations I’ve had with customers and partners since I took on the CEO role in August. It is also why I am optimistic about our goal of driving sustainable, profitable growth. As CEO, I will be focused on delivering a plan to help us realize that goal. Today I’d like to share a few of my initial observations as well as areas I will be targeting to unlock growth opportunities and drive increased productivity and profits. First, regarding my initial observations about our business operations. As I alluded to earlier, RingCentral is an innovation leader. Vlad and the R&D team have been busy over the last few years building out an AI platform that we are now leveraging to infuse AI across our entire portfolio. Combined with our UCaaS leadership built over the past 20 years, we are now transforming into an AI-first, multi-product company with proprietary offerings in UCaaS, CCaaS, Conversation Intelligence, Sales Analytics, and Events, Webinars and Meetings. Vlad will discuss in more detail our recent product developments and focus areas going forward. Additionally, Sonalee and her team have done a great job of delivering increased profitability in 2023. Our operating profit dollars have increased over 70% year-to-date, through actions such as more disciplined spending, reducing organizational spans and layers, consolidating vendors, and driving down customer acquisition and retention costs. The key takeaway is that we are doing many things well, and RingCentral’s foundation is strong. I believe we can build on that foundation to unlock further growth and productivity. Moving forward, I will be focused on a few areas to deliver on this potential. They include: #1, continuing to innovate and build a multi-product business. #2. Focusing more deeply on customer segments and key verticals. #3, expanding partnerships; #4, growing internationally, and finally #5, increasing operational productivity. First, let me share with you on a high-level our plan to build a multi-product business. RingCX, our RingSense AI platform, and RingCentral Events are starting to gain strong traction, as they are a natural extension of our core. For example, a Fortune 500 company partnered with RingCentral this quarter to solve a critical internal communications use-case for its employees that involved the purchase of over 25 thousand MVP and one thousand RingCX licenses. Using a combination of RingCentral MVP and RingCX, we were able to help them reliably connect drivers with dispatchers while integrating seamlessly into their other technology workflows. RingCX is just one example of a new product we’ve recently introduced. Going forward, we will be focused on continuing to invest in our new products as well as their related go-to-market rollouts to ensure they will be successful. In addition to these new products attracting new customers, they will also provide an opportunity to expand our footprint within existing customers. Our net retention, at roughly 100% today, is below where I think it can be, particularly because we now have more to sell. Additionally, new products also create more stickiness; as the more a customer adopts our differentiated offerings, the more likely they will remain a customer. Second, regarding developing a deeper focus on customer segmentation and key verticals, one area I am investing more in is the SMB and mid-market, which was 57% of our business in Q3. These cohorts have traditionally been underserved by larger vendors and thus are not encumbered by the bundling dynamics that may influence larger customers' decisions. Also, within this market, voice remains the primary method of communication for these businesses, and they pick RingCentral given our clear leadership in cloud voice. By driving incremental focus on the SMB and mid-market, it provides us with a significant opportunity to sell our full suite of communications tools. We have also seen good progress in key verticals such as health care, education, financial and professional services, and the public sector. For example, the top four dental service organizations run on RingCentral. Thousands of other healthcare organizations have also selected us for our proven reliability, deep integrations, and commitment to innovation. This quarter, Boston Medical Center Health System, the largest safety-net hospital and busiest trauma center in New England, selected RingCentral to modernize their business communications. With RingCentral’s joint UCaaS and CCaaS offering, Boston Medical Center Health System will have one integrated voice platform for both internal and external communications, which should improve their provider and patient experiences. There is more we can do to capitalize on our success in these gold verticals. One way is by tailoring our solutions even more in both the Enterprise and SMB/Middle Market. For example, we continue to invest in attaining certain government certifications for the public sector and are developing other specific integrations and go-to-market strategies for industries for which voice is mission-critical. There are also many ways we can bifurcate the Enterprise segment with a specific go-to-market motion to better address customer needs. For example, for enterprise customers with a Teams deployment, we can sell RingCentral for Teams 2.0. This motion allows us to provide voice functionality and potentially attach other products such as Contact Center to our offerings. Now, moving to partnerships. Our current partnerships with global service providers such as AT&T, BT, Telus, and Vodafone, and strategic partners NICE, Avaya, and Mitel-Unify, provide us with the broadest reach in the industry and are a key differentiator. We will also focus on other partnership opportunities that expand our partnership ecosystem, including new relationships with other services partners and ISVs that can help us expand our reach. More to come on this in further quarters. Moving to geographic expansion. International has remained roughly 10% of our business for the last two years. It has the potential to be much higher. I’m focused on how we can leverage our distribution channels and partner network to grow outside of the U.S., with a particular focus on Europe, where we have go-to-market operations and several partner and GSP relationships. Last but by far not least is my focus on materially increasing productivity. One area that is high on my radar is stock-based compensation. We are fully committed to and are taking tangible steps already towards materially reducing stock-based compensation. Another key area for me is sales and marketing expense. We have seen sales and marketing spend increase only 2% year-to-date, while subscription revenue has grown 12%. However, as a percentage of revenue, this is still above where I think it should be in the current environment. I am reviewing our go-to-market motions, both before, during, and after the sale, to ensure that the cost of acquiring and maintaining a customer is optimized. I realize that while some costs such as residuals have a longer tail, there are opportunities to better align our sales and marketing investments to the value they create. There has been some good early traction with initiatives such as our new channel program, Ignite, that is aimed at reducing dependence of resellers on RingCentral’s own sales force. This has a direct impact on improving overall productivity and lowering sales and marketing costs. We are now taking an additional step to adjust and optimize our cost structure, reallocating resources across the company and routes to market over the next few months as we operationalize these productivity initiatives. I hope my initial observations and focus areas are helpful to you in understanding RingCentral’s key differentiators as well as opportunities for advancement. While the macro has had an impact on our business, there are also areas that are in our control and that we can enhance. There’s a clear plan, and we must now execute on these priorities. I believe the combination of our solid core, strong team, and exciting and disruptive new products positions us well for the future. I also want to take this opportunity to thank everyone at RingCentral for delivering a solid Q3. With that, I want to turn the call over to Vlad, who will discuss in more detail one of the key pillars of our plan: innovation and new products.

Thanks, Tarek. As I’ve said before, AI, the mother of all megatrends, is upon us. With Tarek on board, I can now work even more closely with our product teams to ensure RingCentral remains an industry leader in this new era. My day-to-day focus is now to infuse AI across our entire portfolio to improve caller, employee, and customer service agent experiences before, during, and after each interaction. Our vision and commitment is to be the AI-first business communications leader. We have made good progress towards this vision with the launch of our RingSense AI platform earlier this year. We have rapidly innovated to infuse RingSense AI into all our products. This includes our native, AI-first, omni-channel contact center platform, RingCX, our Conversation Intelligence platform, RingSense and RingSense for Sales, and Hopin, which we acquired in July and are rebranding as RingCentral Events. RingCX and RingCentral Events will be joining RingCentral’s industry-leading Cloud PBX MVP solution, RingCentral Contact Center, RingCentral Video Meetings and Webinars, and RingSense for Sales, thus turning RingCentral into a true multi-product, AI-first company. Let me give you some more detail about the progress we are making on some of these new products. First, RingCX, which is now in controlled availability and is expected to be generally available later this quarter. In Q3, we embedded our RingSense AI and other technologies into RingCX to enable smarter conversations before, during, and after each interaction. In addition to being AI-first, RingCX adheres to our core brand values of trust, reliability, openness, and ease of deployment, use, and ownership. RingCX deployments are measured in days or short weeks and not months or quarters. To be clear, RingCX is not strictly limited to the SMB and midmarket. In fact, there are also larger customers whose particular use cases line up well with what RingCX has to offer. This includes a 1,000 plus seat win from a Fortune 500 company that Tarek mentioned earlier. RingCX is a good complement to our RingCentral Contact Center offering that is generally aimed at more complex use cases and larger deployments. While still in controlled availability, we already have approximately 50 customers who have selected RingCX. In addition to RingCX, we are also working hard at reintroducing Hopin Events as RingCentral Events. This product already powers some of the world’s most recognizable brands’ internal and external events. This includes Spotify, Reddit, and many other of the world’s most recognizable names. We will be providing more detail on both RingCX and RingCentral Events at our upcoming RingCentral Innovation Event that will take place on November 14th. It will, of course, be hosted on our very own RingCentral Events. We hope you can join virtually to learn more about our latest innovations as well as hear directly from customers about how they are benefiting from these products. In conclusion, never before has RingCentral had such an extensive and fully built-out product portfolio. We are making great progress in embedding AI into the entire portfolio, creating even more value for our customers. I could not be more excited about our future.

Thanks Vlad. I’ll now provide highlights from the third quarter and then discuss our business outlook for the fourth quarter and full year. Subscriptions revenue of $531 million was up 10% year-over-year and above our guidance range. ARR of $2.26 billion was up 11% versus last year. On a year-over-year basis, currency was a modest tailwind, but on a sequential basis, currency was a roughly $10 million headwind. Growth was led by the enterprise segment, where we continue to see strong contact center attach rates. We again saw more than 60% of our large, million dollar plus TCV deals include both UCaaS and CCaaS, including a recent UC+CC win with the San Francisco Giants. Now, moving to profitability. I'll be referring to non-GAAP results unless otherwise noted. Our subscription gross margin was 82%, consistent with last quarter. Overall ARPU was again above $30. Our new products, while disruptive in pricing relative to the market - should be accretive to our overall ARPU over time. Our solid ARPU supports our strong gross margin. Operating margin rose 560 basis points versus last year to 19.1%, driven by operating leverage and continued efficiencies. Our third quarter operating margin was solidly above our outlook for 18% to 18.5%. While we invested back into the business to support our new products, primarily through sales and marketing initiatives, we were able to drive increased productivity from our current workforce instead of hiring additional headcount, which resulted in savings that flowed through to the bottom line. Our increasing profitability translated into quarterly unlevered, adjusted free cash flow of $87 million, up from $33 million in Q3’22. Moving to our balance sheet. In August, we issued $400 million of 8.5% senior unsecured notes due in 2030. We used $154 million from this issuance to repurchase $166 million in debt, consisting of $125 million of our 2025 convertible notes and $41 million of our 2026 convertible notes. Including this transaction, we have used approximately $546 million of cash from our Term Loan A, the unsecured notes due in 2030, and our balance sheet to repurchase $586 million of the original $1 billion of 2025 notes, capturing a sizable discount. Since I joined RingCentral last year, I have noted that addressing the 2025 convertible notes before they go current was a key priority. We plan to utilize the remaining approximately $240 million of proceeds from our recent high yield offering, plus an additional commitment to our Term Loan A of $75 million, which we will have the option to draw upon within the next 9 months, and a portion of the free cash flow we expect to generate over the next 15 months, to address the remaining $414 million of the 2025 notes. Importantly, as the 2025 notes carry a 0% coupon and we are earning a solid return on our cash, we will remain disciplined and will balance note repurchase prior to maturity with the amount of discount we are able to capture. In addition to addressing the upcoming 2025 convert, our leverage remains very healthy. Based on our third quarter results, our trailing 12 months net leverage ratio is 3x, and based on our current outlook we continue to expect to be below 3x in 4Q. Before I provide our fourth quarter and full-year guidance, I’d like to provide you with additional details on the macro trends we are seeing in the market today. Macro trends are largely consistent with last quarter. Sales cycles remain elevated versus last year, and customer buying decisions continue to go through additional layers of approval. Linearity has also become more back-end loaded, and in many enterprise transactions, including this quarter, we have seen customers waiting until the last week or two of the quarter to close on deals. We are also seeing less upsell within our existing base as customers have slowed hiring and rationalized their employee counts. Importantly, marketing-driven lead flow remains consistently strong, demonstrating continued demand for on-prem to cloud conversion. With that backdrop, let me now turn to guidance. For the fourth quarter of 2023, we expect: subscriptions revenue growth of 8% to 9%. Total revenue growth of 8% to 9%. Non-GAAP operating margin of 20%, and non-GAAP EPS of $0.82 to $0.83. For the full year 2023, despite the incremental currency headwind, we are raising our revenue and operating margin outlook. We now expect: subscriptions revenue growth of 11%, total revenue growth of 11%. Non-GAAP operating margin of 19.0%. This is up 660 basis points versus last year, and 25 basis points above the midpoint of our prior outlook. Lastly, we expect non-GAAP EPS of $3.19 to $3.20. Additionally, given our better-than-expected profitability as well as cash conversion in Q3, primarily driven by better working capital management, we now expect adjusted, unlevered free cash flow of $290 to $300 million in 2023, up from $270 to $290 million previously. Note this excludes $20 million to $25 million related to restructuring and other payments that we have or expect to incur. Lastly, we expect stock-based compensation of $426 to $431 million in 2023, or approximately 19.5% of revenue. While this is higher than our prior guidance, this is related to the recent management changes that we undertook in August. Additionally, we put in place Performance Stock Units this year to demonstrate alignment between management incentives and company performance. These PSUs are accounted for under an accelerated expense attribution model compared to Restricted Stock Units and thus resulted in higher stock-based compensation in 2023 versus our prior outlook. We would have been at the midpoint of our prior range excluding these items. As Tarek stated, materially reducing stock-based compensation going forward is a key priority and we are implementing actions to materially reduce stock-based compensation over the next 12 months. We will share more on these actions and targets next quarter. In summary, Q3 was a good quarter. We delivered on our guidance, we continued to invest for growth, and we demonstrated a proactive capital allocation approach. While the economic environment remains uncertain, we will remain focused and committed to executing against our priorities of delivering sustainable growth and profitability. With that, let's open the call for questions.

Our first question is from Matt Niknam with Deutsche Bank. Please go ahead.

Hey, guys. Thank you for taking the question. Maybe a question for Tarek. Now that you've been in the CEO seat for a couple of months, can you maybe talk a little bit more around where you see the greatest opportunity that's untapped for RingCentral, whether it's underserved markets, underserved customer sets, or on the operating front? And I know you laid out five key priorities. But where do you see maybe the immediate opportunity to start executing against? Thanks.

Thank you, Matt, for the question and welcome to our call. I'd say since I had the opportunity to serve on the Board since December 2022, I believe I have a good understanding of the business. And I've spent most of the past 60 days talking with customers, partners, employees, and shareholders since I've taken on the CEO role. I do believe there are tremendous opportunities for RingCentral, building on the solid quality foundation of our core products in UCaaS. And there is a big opportunity to provide more to customers and particularly in certain verticals such as SMB and mid-market. We are also at this junction of the industry in a unique position to harness the power of AI given the size of our installed base. We've been investing in an AI platform for a number of years. We are infusing AI in everything we are doing. And if you really put that in perspective of the UCaaS, CCaaS industry taken as a whole, these are being disrupted by AI, and this presents us with plenty of opportunities to innovate and capture share. And that is very critical when you're considering that we have scale. And we have, again, a strong reputation of quality, which allows us to maintain our leadership in a competitive and increasingly disruptive industry. So that's what I'm looking forward to do is to continue to add scale and continue to sustain long-term profitable growth at RingCentral.

The next question is from Samad Samana with Jefferies. Please go ahead.

Hey, everyone. This is Samad. Sonalee, with existing customers buying fewer seats or reducing headcount, can you clarify if contracts permit a customer to decrease the number of seats? In other words, can a customer pay for only 900 seats if they originally contracted for 1,000 and their headcount drops by 10%?

Hi. Thanks for the question. So in terms of our contracts, no. Customers typically, our average contract length is just over 3 years, and customers typically would be contracted for the full amount of seats that they signed the original contract for. And there is not typically any flexibility for a customer to reduce seats. Of course, we always offer flexibility for them to add seats. So hopefully that answers your question.

The next question is from Michael Funk with Bank of America. Please go ahead.

Yes. Thank you all for the time and the questions. It's Mike. So, Tarek, you laid out your priorities. One of them is productivity. You said taking steps to materially reduce sales and marketing expense. Is there a good benchmark or a metric we should think about with your target for sales and marketing?

Look, I wouldn't use benchmarks for really determining and percentage of sales and marketing spend as a percentage of revenue. And the reason why this is, is that you need to retain flexibility to go and capture opportunities as you see them. And it's always important to understand productivity down to the driver level of our sales force and our channel partners and see to what extent we are acquiring growth effectively and that the growth has to come with calories, mindful of the cost of customer acquisition and the cost of retention of these customers. So we do believe there is upside in the short-term in becoming more effective and efficient in sales and marketing. And when you really look at our spend as a percentage of revenue today, it is too high for my own liking, considering the growth we are delivering. So you can determine whether or not we reduce that spend for the same growth or keep it, but we need higher growth. And that's a reflection that we have to ask ourselves as we look at this very important part of our P&L.

The next question is from Ryan MacWilliams with Barclays. Please go ahead.

Thanks for taking the question. Have you seen any material changes since the end of the third quarter on the macro front? And are there any differences into how your SMB customers compared to your mid-market enterprise customers are dealing with the current macro environment?

Look, it's a good question. Obviously, the macro is what it is, and you all know and read through the news. There is no particular change relative to prior quarters and the customer feedback that we get about RingCentral is that our product is mission-critical to their business. Yes, customers are looking for ways to save money. But where you really look at the payback from a customer standpoint with Ring, it is measured in weeks and months, not years. And just to put things in perspective for you, from a customer standpoint, UC plus CC payback period is below 6 months and the ROI that is being generated for them is north of 200%. So specifically for the third quarter of 2023, SMB growth has moderated, and this is certainly driven by continued macro uncertainty. The Enterprise segment sales cycle remained elongated versus last year. As we spoke about in the past, upsell is being impacted by slower growth in headcount at our customers, rationalization of their spend, and more scrutiny on IT costs in general. But we do believe that our new product introductions will help with upsell over time. And this is exactly why we are positioning ourselves now to emerge out of the macro softness with strength with a multiproduct portfolio. And so I would say macro goal is stable, and we have not seen any change in terms of easing conditions. Hopefully, this answers your question.

The next question is from Kash Rangan with Goldman Sachs. Please go ahead.

Thank you very much. It's great to see the stability results. Tarek, I have a question for you, and maybe Vlad can contribute as well. With the introduction of the AI functionality, how do you think it will impact sales cycles—will they be faster or slower, and how will it affect the economics of the sale? Additionally, what implications do you foresee for ARPU, retention, and the company's growth prospects? Thank you. That's all from me.

So this is a very big question you're asking, Kash. And I would say if you take the perspective of our customers and you look at what we can do with our integrated UCaaS, CCaaS offerings is we can add value to them at all steps of a conversation before the call, during the call, and after the call. And the examples of that are fairly intuitive and easy to understand. Before the call, you can make sure you understand the context in which the call is being placed. During the call, of course, you can do call summaries, but you can do much more than that. You can add a lot of value, a way of understanding what has been said in the call, the tone in which the call took place, really spearheading post-call a number of different actions moving forward. So there is a ton of things that can be unleashed for our customer, thanks to AI, and we are infusing AI throughout our offerings precisely because we see AI as an incredible opportunity for our customers to enhance their own productivity and competitiveness, and this is why we are spending a lot of time there. I will ask Vlad to chime in on this issue because he's spending and we are spending a lot of time here, and he's the power behind the AI efforts that we are deploying right now. Vlad?

Thanks, Tarek. Kash, fantastic question. Look, let me address the retention part of the question. One would think that it should improve retention in a meaningful way because these insights that are being generated or at least in part generated from customers' own data. Therefore, one would think that the whole system engagement would thus become stickier because now moving to a different platform would mean that they no longer have access to those insights. It's obviously very early, and it's too early to talk about empirical data. But in theory, it should work that way. Also just a quick comment on the sales cycle. And I don't know how to say it any other way. It's just challenging as hell. It makes a great demo. When we show our RingSense, for example, and the type of insights and type of questions that people can get looking at their calls after the call has been made. For whatever reason, it's emotional for people. They go, "Oh, I didn't know this." So AI, what I said in the prepared remarks, it truly is the next great megatrend. I called it the mother of all megatrends and that stand by it. It's going to revolutionize the world. Our industry, and RingCentral is part of it. Couldn't be more excited.

Kash, I might just add something there as well. You were asking about the impact on ARPU from these new products. Clearly, we are very excited about pricing these in a disruptive manner, but they will still be significantly accretive to our overall ARPU over time. So you heard in my prepared remarks, I talked about ARPU being stable. We would expect this to be additive to that. And in terms of incremental investment around go-to-market, we actually don't anticipate any significant incremental investments. So it should also be accretive to LTV to CAC as we look forward.

Thank you so much. The next question is from Brian Peterson with Raymond James. Please go ahead.

Hi. Thanks for taking the question. So Tarek, you mentioned in the call about partners and potential opportunity to expand there. I'd love to get more color on that. And as we think about growth vectors into 2024, how should we think about the ramp in some of your partnership efforts there? Thank you.

Thanks for the question. We do have a number of partnerships that are working very well for us right now, both in terms of global service providers such as AT&T, TELUS, BT, Vodafone, et cetera, and also strategic partners like NICE inContact, Avaya, Mitel, now Mitel Unify, and we have a great reach, thanks to these partnerships. I do believe that there is a number of additional upsides from these partnerships and also new partnerships that we can build. So in particular, we focus on partnership opportunities that will expand our partnership ecosystem, focusing on ISVs so that we can continue to expand our reach and also build more value-added offerings, particularly on an industry vertical basis where there is a lot of things that we can do to ensure that our product is connected with a broader ecosystem of verticals to penetrate those verticals selectively. So this is one of my key focus areas for the future. And in terms of the ramp, it will take time, but you know how these partnerships are. They take time to set up. But when they are in full motion, the volume that we expect there can be considerable. And so this is why it is a critical focus area for me.

The next question is from Meta Marshall with Morgan Stanley. Please go ahead.

Great. Thanks. Maybe just following up on that question. Just trying to get a sense of as you guys incorporate more direct versus channel versus some of the revisions that were made to the partnerships earlier in the year to allow them to kind of sell direct. Just is there a blend of the business where you feel you'd like to see a certain percentage come direct or a certain percentage come through the channel, through partnerships just forms as a rough guide? And is there any kind of channel conflict that's kind of coming about just given some of the changes to the sales model? Thanks.

This is a great question, and I appreciate you asking it. Instead of discussing a blend, I believe we should concentrate on our market penetration. When looking at UCaaS, we are the largest player but still hold only about 10% to 12% market share, indicating significant potential in a fragmented market. In the case of CCaaS, while it's somewhat more concentrated, my overall point remains similar—there are numerous opportunities for us to enter the CCaaS market with both our NICE inContact offering and our new RingCX offering, which is transitioning out of controlled availability and will be ramped up soon. Additionally, when considering the international aspect, we have much to accomplish. Currently, our international revenue constitutes only 10% of our total, and given the structure of the European and Asian economies, which rely on different distribution methods, we need to prepare ourselves to effectively penetrate these markets with appropriate capabilities, whether directly or through partnerships, and that is what we are prioritizing.

The next question is from Siti Panigrahi with Mizuho. Please go ahead.

Thanks for taking my question. It's good to see the sequential growth now more than 3% in subscription revenue versus 1% we saw last two quarters. So could you talk about what are the key drivers of that growth? Is it something upsell in enterprise? Or is it something churn stabilizing? What's driving that growth? And how sustainable or even we could expect any kind of improvement on that going forward?

I think it's still early in the year for me, but I'm quite happy with the progress we've made and our execution so far, nine months into the fiscal year. We are concentrating on finishing fiscal year '23 strongly, and we've just started Q4, where we need to keep executing. We feel optimistic about that. Our focus will be on my five priorities, which include continuing to innovate and develop a multiproduct business. This is where Vlad is dedicating his efforts to enhance our multiproduct portfolio. It's crucial for driving growth, both with new customers and upselling to current ones. We're also concentrating on increasing our presence in key verticals and customer segments, establishing partnerships, and expanding internationally. Additionally, I need to remain mindful of productivity moving forward. Although it's early, I appreciate the emphasis on growth. We believe that the demand for UCaaS and CCaaS integration is genuine. When you combine integrated UCaaS and CCaaS, that's the segment where we are active, and it's the fastest-growing part of the market. We're noticing competitive displacements, especially with smaller vendors losing market share. There may be heightened competition with Microsoft Teams, and we are leveraging this intensity with our Teams 2.0 plug-in, which we have just launched and is gaining traction. We will also aim to attract enterprise customers with this top-tier integration. There's much to consider here, but currently, our main focus is on finishing Q4 strong, and that is where all our energy is directed.

Thank you. The next question is from Matt VanVliet with BTIG. Please go ahead.

Hi, good afternoon. Thanks for taking the question. I wanted to dig in a little bit more on the plans for international growth. How do you feel about your current headcount in a number of those markets? Do you need to build out more of a team from both either the direct or the channel enablement side? And then secondarily, with the stable partners you already have in place, do you feel like you can reach the goals you have? Or do you need to broaden that distribution network as well?

So look, having run international businesses for a large chunk of my career, I think the way you decide to go in a particular new market is really a function of the economic fabric of that market and particularly true for software and services businesses like ours. When you really look at, for example, in Europe, the weight of small and medium enterprises, which are our sweet spot. In Germany, it's about 87% of the GDP. In France, Italy, and Spain, it's north of 90% of the GDP. And therefore, if you think about how do you go and acquire these customers in these geographies, you really have to think what is the best method, the most effective method to ramp up your access with the various routes to market to these customer segments. And I'd say that there is an opportunity there by going through partnerships, in particular, and we don't need to really build an extensive large direct sales force to capture share internationally. I think philosophically also, I'm not in favor of the approach that is about build and they will come. We need to be very pragmatic here and leverage existing partners in the market because there is, in our view, a large opportunity for us to become the first global cloud provider with our offerings, whether these are MVPs or the new offerings that we are right now developing with Vlad and the team.

The next question is from Terry Tillman with Truist. Please go ahead.

Great. Thanks for taking the questions. This is Bobby Dee on for Terry. Just one quick one for Tarek. Since being in the CEO slot, what do you think is most misunderstood about the story at this point? Thank you.

What is the least understood aspect of RingCentral? I would say that not all UCaaS solutions are the same. The strength of the foundation we've built is here to stay, and our numbers speak for themselves. Just look at our ARPUs, as Sonalee mentioned, and the number of seats we have. We serve over 400,000 customers globally and are growing faster than the rest of the UCaaS market. During times of economic uncertainty, there tends to be a shift towards higher quality solutions, and we are experiencing that, which gives us confidence in our position. However, Vlad and I are not satisfied with just that; we aim to accelerate growth and diversify our offerings. Expanding our portfolio on a solid foundation is far easier than worrying about core issues. We have significant developments coming soon. We announced a marketing event on November 14 to launch our core products RingCX and Ring Events for general availability. Our objective is to leverage our strong foundation to emerge from this economic uncertainty successfully, which is why we are investing in innovation.

The next question is from Will Power with Baird. Please go ahead.

Great. Thank you. Tarek, I was curious in some of the comments on focusing on SMB, I know that's a heritage area for you all. Also, I think, often viewed as a more competitive area. So maybe just a little more color on the rationale for kind of refocusing in some respects or focusing that much more on SMB? And where are the kind of the key investment opportunities? Are there any kind of areas of low-hanging fruit as you kind of evaluate that?

So look, SMB has always been our sweet spot, and it's not that we are refocusing on SMB for the first time. Our SMB business is over $850 million. It is still growing at about 8%, which is much more than many of our competitors are growing overall. We have the leading UCaaS offering that is differentiated that is reliable with 99.99% availability. We are rolling now out the RingCX and RingSense for sales. And we are seeing great traction, particularly for this segment of the market because for small and medium businesses, our new offerings are really around adding value to the businesses in question and making them more competitive over time. And we feel there is a lot more to do and are confident about our position in that segment of the market.

The next question is from Ryan Koontz with Needham & Company. Please go ahead.

Hi, thanks. I want to ask about product mix a little bit. I know you can't give us exact metrics, but can you kind of reflect on what's transpired over the past year in terms of Contact Center upsell? Are you seeing more of a shift toward Contact Centers? It seems like it's got a little more durable growth, obviously, than the core UCaaS space. And just as a follow-up on the Teams 2.0 opportunity, if you can give us any customer feedback you've had on that new product offering? Thanks.

Yes, I'll take that. Our Contact Center is less penetrated than UCaaS. To clarify, the transition from UC to UCaaS is still quite early, and if we consider our numbers alongside Microsoft's and Zoom's, we're likely still under 20%. Contact Center is even earlier in its migration. There are interesting opportunities in AI within Contact Center, although traditional vendors relying on human agents might face challenges as there will be a shift toward virtual agents and bots. However, for those adopting an AI-first approach, including ourselves, this presents a significant opportunity to gain market share. Contact Center is generally stickier than UCaaS, as these decisions are usually more considered. Over the past year, we've seen strong demand for contact centers, especially those integrated with UCaaS solutions. Our white-label offering of RingCentral Contact Center has shown this trend for a few years. Currently, there's renewed interest in AI-first solutions and software focused on self-service with quicker deployments. We're witnessing some large deployments, and as mentioned in our prepared remarks, Fortune 500 companies are selecting RingCX, which is still in controlled availability, but we're already achieving multi-thousand seat wins. It's been a pleasant surprise, as we initially expected lower traction, but we're seeing good momentum overall and anticipate it will continue.

One thing I would just add there is that we are still seeing very, very strong UCaaS, CCaaS attach in our larger deals. So more than 60% of our $1 million plus TCV deals again included a CCaaS component, and we continue to grow well above the overall CCaaS market.

The next question is from Tim Horan with Oppenheimer. Please go ahead.

Thanks, guys. I know the Microsoft Office Copilot was just launched, but have you had a chance to study it? And it seems like it opens like a dozen questions to you guys. I guess is that a large improvement to their Teams? Does it make their ability to integrate UCaaS and CCaaS better? Does it improve your partnership? Or on and on, I mean, there's a ton of questions and one of the key questions is they're charging $30 a month for it. And I guess it's not really clear. Are you saying you guys think you can charge for your AI over time? But I guess the most important question is what does Copilot mean for the industry at this point?

Right. Well, number one, you have to ask Microsoft, right? Look, we are not prepared yet to disclose additional details on RingCX pricing, stay tuned. It's coming soon. We do expect this pricing to be aggressive, if not disruptive. So I would just, again, urge a little bit of patience on that. Now having said this, we are not competing with Microsoft. We are leveraging what Microsoft has. We are participating in the ecosystem that they're creating. We are both using core innovation from OpenAI and that the company is in our case, okay? And we certainly expect and building our product to be an open platform. And again, not to preannounce anything, but expect that every innovation that Microsoft has that Microsoft chooses and decides to make open and interoperable with other platforms, we will be on that bandwagon, okay? So again, I would just say stay tuned. And you can also assume just in closing that our early customers for RingCX that they are also well aware of other advances in the industry, including the Copilot and given what they know of our road map and what we have today and Microsoft, they're choosing to do business. So more to come.

And that final question is from Michael Turrin with Wells Fargo. Please go ahead.

Hey, I appreciate you including me in this. Tarek, you mentioned in the prepared remarks that retention rates are not meeting the company's potential. Can you help us understand how much of this is related to macro and external factors compared to execution-related opportunities? Are there any key areas of focus you would highlight for us? Thank you.

Thank you for your question. It's a great way to conclude our discussion today. Our retention rate was about 100% in Q3. The factors that will help improve it further include our focus on upselling and customer retention to enhance net retention. With a multiproduct portfolio, we can have multiple conversations with a single customer, which greatly aids our upsell efforts. Our new products, like RingCX, RingSense, and our new Ring Events, offer opportunities for our customers. Additionally, when a customer purchases more from us, they tend to stay with us longer, positively impacting net retention. This is why we are committed to innovation, allowing us to leverage the potential of our new product offerings. We need to adjust our sales approach to help customers recognize the value of these new products. This will be a gradual process, but I am optimistic about the long-term prospects for net retention at RingCentral, given the strong focus we have on driving innovation within the team. Thank you.

This concludes our question-and-answer session, and the conference has also now concluded. Thank you for attending today's presentation. You may now disconnect.