Earnings Call Transcript - SEMR Q2 2025

Operator, Operator

Good morning, and thank you all for attending the Semrush Holdings Second Quarter 2025 Results Conference Call. My name is Brika, and I will be your moderator for today. I would now like to pass the conference over to your host, Brinlea Johnson of The Blueshirt Group. Thank you. You may proceed, Brinlea.

Brinlea C. Johnson, Host

Good morning, and welcome to Semrush Holdings Second Quarter 2025 Conference Call. We'll be discussing the results announced in our press release issued after market close on August 4, 2025. With me on the call today is our CEO, Bill Wagner; and our CFO, Brian Mulroy. Today's call will contain forward-looking statements, which are pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include, but are not limited to, statements concerning our expected future business and financial performance and financial condition, expected growth, adoption and existing and future demand for our existing and any new products and features, our expected growth of our customer base and specific customer segments, the continued development of our products, industry and market trends, our competitive position, market opportunities and growth strategies, sales and marketing activities and strategies, future spending and incremental investments, our guidance for the third quarter of 2025 and the full year 2025, statements about future pricing and operating results, including margin improvement, revenue growth and profitability, assumptions regarding foreign exchange rates and plans and expectations and statements regarding our share repurchase program. Forward-looking statements are statements other than statements of fact and can be identified by words such as expect, can, anticipate, could, plan, seek, believe and will. These statements reflect our views as of today only and should not be relied upon as representing our views at any subsequent date, and we do not undertake any duty to update these statements. Forward-looking statements address matters that are subject to risks and uncertainties that could cause actual results to differ materially from these forward-looking statements. For a discussion of the risks and important factors that could affect our actual results, please refer to our most recent annual report on Form 10-K filed with the Securities and Exchange Commission as well as our other filings with the SEC. And finally, during the course of today's call, we refer to certain non-GAAP financial measures. There is a reconciliation schedule showing the GAAP versus non-GAAP results currently available in our press release issued yesterday after market close, which can be found at investors.semrush.com. Now let me turn the call over to Bill.

William R. Wagner, CEO

Thank you, and good morning. I'm pleased to share that Semrush had another quarter of strong revenue growth and solid margins. Revenue in the quarter was $108.9 million, representing 20% year-over-year growth and non-GAAP operating margin came in at 11%. We once again reported very strong performance in our Enterprise segment, a major area of focus for us in 2025. We continue to see strong demand for our enterprise search engine optimization products in this segment, and our enterprise SEO solution grew to 260 customers with an average ARR of approximately $60,000. We believe this growth underscores the compelling value proposition and the continuing importance of SEO for larger organizations. Importantly, enterprise SEO is now the largest contributor to overall company growth. Continuing on the enterprise theme and building on the success of enterprise SEO, in June, we introduced our enterprise AI search product, AI optimization. In a few short weeks, we had over 30 enterprise customers purchase this new AI product for a total ARR of nearly $1 million, underscoring the relevancy and timeliness of this solution. Overall, this success moving upmarket in the enterprise segment is reflected in the company's average ARR per customer, which is up 15% year-over-year, while the number of customers paying over $50,000 per year grew by 83%. Despite this early success, we believe we are at the beginning of our journey and see a long runway for continued growth. As a reminder, we have approximately 9,000 enterprise accounts using Semrush for SEO and fewer than 5% are on our enterprise SEO solution today. Another top priority that I outlined on our last call was doubling down on AI. The strong growth in our AI products also continued during the quarter. As I just mentioned, we successfully introduced AI optimization in Q2 and we'll be introducing significant enhancements in the second half of the year. AI toolkit, which we launched at the end of Q1, is the fastest-growing product in the company's history, growing from 0 to $3 million ARR in a few months. We believe we are approaching a time when every SEO expert will need to add AI search capabilities. Our usage data shows that when customers purchase AI toolkit, we see a 20% increase in their activity in our SEO toolkit, showing the highly complementary nature of these products. For Semrush, we believe AI toolkit is the tip of the spear, and we plan to make new AI search capabilities available to our customers in the upcoming quarters. To underscore our success in both enterprise and AI, we expect ARR from these products to approach $50 million by the end of the year. While we are excited by the growth and adoption of our enterprise and AI products this quarter, we continue to experience softness at the lower end of the market. This customer segment includes freelancers and less sophisticated users who have historically had the highest churn rate of our customer cohorts. We also saw a dramatic increase in paid search cost per click in the quarter, which increased our cost to acquire these customers. In the face of the declining unit economics for this lower-value customer segment and given the strong returns we are seeing from our investments in AI search and the enterprise segment, we made a strategic decision to not increase our marketing spend, which would have pursued volume and near-term revenue at the expense of long-term value. Instead, we directed more of our marketing and engineering resources toward our high-growth, high-retention areas, specifically enterprise and AI search, where we are seeing rising customer demand and compelling returns. Now this deliberate resource shift may contribute to near-term revenue headwinds, but we are confident it positions us for stronger, more sustainable growth. As Brian will outline shortly, we are adjusting our full year guidance to reflect these near-term market conditions and our prioritization of resources on higher-value segments. Before wrapping up my comments this morning, I want to share our view of the changing landscape in digital marketing and why we remain so bullish on the opportunity in front of us. We believe, and the data shows, that ChatGPT and Google's AI mode are increasing the size of the opportunity. We agree with Google's perspective that overall search is growing. AI is powering an expansion in how people are searching and accessing information. Our own data shows a positive correlation between the use of ChatGPT and the use of Semrush products. We believe this is because today's marketers understand that they have to get their brands to show up in classic search results and in answers generated by a user's prompts into an LLM. It's because the things that marketers had to do to rank in search, namely build credibility and authority, are the same things they need to do for LLMs. The big difference is that the number of sources has grown by an order of magnitude. This means that marketers have to better understand the prompts that people are using to find their products or brands, and understand how those brands show up in answers, optimize their content for those prompts, and make sure their message is showing up not only on their website or in their blog, but also in videos on YouTube, in local reviews, and on sites like Reddit and Quora. This is exactly what Semrush does, and we believe the shift to LLMs and answer engines creates an enormous opportunity for us. With the changes we've made to accelerate our innovation in AI search, I'm confident Semrush will emerge as the leader in this field. In summary, we are very excited about our position in the market and the opportunity in front of us. We have made an intentional shift in our allocation of resources to capitalize on the largest opportunities in front of us, including the changing search landscape and the large and untapped enterprise segment. With that, I'll turn the call over to Brian to walk you through the financial results of the quarter and discuss guidance.

Brian Mulroy, CFO

Thanks, Bill. Let me start with our second quarter results, and then I would like to reinforce a few key points Bill made and provide additional context on how they shape our 2025 outlook. We delivered on our commitments in the second quarter, achieving revenue of $108.9 million, exceeding the midpoint of our guidance and representing 20% year-over-year growth. Notably, our enterprise SEO solution, just 1 year after general availability, became the single largest contributor to our revenue and annual recurring revenue growth in the quarter. Additionally, we saw continued momentum cross-selling our broader digital marketing platform within our existing customer base, underscored by sustained and accelerating year-over-year growth in average ARR per paying customer. As of June 30, 2025, we had approximately 116,000 paying customers, down sequentially from the prior quarter, primarily reflecting continued softness among freelancers and less sophisticated customer segments. Our dollar-based net revenue retention at the end of the second quarter was 105%. Over the mid- to long term, we remain confident that our net revenue retention will strengthen further, driven by our ongoing shift towards more sophisticated and higher-value customers. However, in the near term, we anticipate some temporary pressure as softness in our less sophisticated customer segments continues. As our intensified focus on enterprise and AI customers increasingly influences our business mix, we expect this pressure to ease and ultimately become a significant source of strength. We achieved positive non-GAAP operating income of $12 million in the second quarter, in line with our guidance, resulting in a non-GAAP operating margin of 11%. This result is down approximately 240 basis points year-over-year, driven almost entirely by a weaker U.S. dollar. Cash flow from operations was $0.7 million in the second quarter, representing a cash flow from operations margin of 0.6%. Free cash flow was negative $3.6 million in the quarter, resulting in a free cash flow margin of negative 3.3%, primarily due to the timing of cash tax payments, collections, and prepaid expenses. We continue to expect a 12% free cash flow margin for the full year 2025. And as a reminder, we encourage investors to evaluate our cash flow performance on an annual basis given the inherent quarterly variability driven by annual subscription renewal cycles and the timing of tax payments and prepaid expenses. We ended the quarter with cash, cash equivalents and short-term investments of $258.5 million, up $27 million from the prior year period, reflecting the strength of our free cash flow generation. Annual recurring revenue grew 15.3% year-over-year to $435.3 million, reflecting some deceleration consistent with the segment dynamics I mentioned earlier. Despite this, our average ARR per paying customer increased to $3,756, representing growth of more than 15% compared to the same quarter last year, which is the highest level of growth we've achieved in 12 quarters. This growth was driven by strong adoption of our enterprise and AI products, ongoing success in cross-selling our solutions, and our strategic focus on engaging more sophisticated and higher-value customers. Turning now to our guidance. I'd like to reinforce a few key points Bill made and offer additional context on how they impact our outlook for 2025. First, as Bill highlighted, our enterprise customer segments and our enterprise and AI product portfolio continue to become increasingly meaningful contributors to our business, demonstrating clear momentum across several key metrics. Dollar-based net revenue retention within our enterprise segment remains strong, consistently above 120%. Additionally, we're seeing rapid growth among our largest customers with the number spending over $50,000 annually increasing 83% year-over-year. Our recently launched enterprise SEO, enterprise AI optimization, AI toolkit, and AI content toolkit products are also scaling impressively, together reaching nearly $25 million in ARR by the end of the second quarter. Second, given the traction we are seeing and the future opportunity ahead, we are further accelerating resource allocation towards these areas to capture market share and strengthen our leadership position. Our investments will fuel product innovation, expand go-to-market capabilities, and deepen support for our highest-value customers. We are funding these strategic investments primarily through resource reallocation and efficiencies across our business rather than expanding our overall cost structure. Our strategy is about investing thoughtfully and with discipline, positioning us to drive sustained profitable growth. Finally, while we remain very encouraged by the momentum in our enterprise and AI offerings, we continue to see softness at the lower end of the market, amplified by a significant increase in paid search cost per click. As Bill highlighted, given the declining customer acquisition economics in this segment and its historically lower net retention rates, we made the strategic decision not to pursue incremental marketing spend in response to elevated CPC levels. Instead, we focused our resources on areas with significantly stronger unit economics, specifically our growing enterprise and AI portfolio. While we believe this decision positions us well for long-term success, it contributes to near-term revenue headwinds and is reflected in our revised annual guidance. Taking all of these factors into account, we are adjusting our full year 2025 revenue guidance. We now expect revenue in the range of $443 million to $446 million, representing approximately 18% growth at the midpoint, down from our previous guidance range of $448 million to $453 million. We are reiterating our previous full year guidance of 12% for both non-GAAP operating margin and free cash flow margin despite the reduced revenue outlook and a significant foreign exchange headwind due to a weaker U.S. dollar. Our non-GAAP operating margin guidance now absorbs an incremental expense headwind of about $9 million resulting from recent exchange rate movements. Our initial guidance assumed a euro to U.S. dollar exchange rate of 1.05. And while we are currently modeling 1.16, rates during the first half reached as high as 1.18. Approximately 30% of our expenses are denominated in euros. And since our revenue is almost entirely in U.S. dollars, our margins are effectively unhedged against these currency fluctuations. Absent these exchange rate impacts, our full year operating margin would have reflected meaningful leverage inherent in our model. Said another way, excluding these currency impacts, our margin guidance would have implied a year-over-year expansion of nearly 200 basis points. Similarly, we continue to expect our full year free cash flow margin to be approximately 12%, representing a 260 basis point improvement compared to 2024. This expansion is driven by improved profitability as well as continued growth in our enterprise segment, where we typically structure deals with a minimum annual commitment and annual billing, resulting in favorable cash flow dynamics. For the third quarter of 2025, we expect revenue in a range of $111.1 million to $112.1 million, which at the midpoint would represent growth of approximately 15% year-over-year and non-GAAP operating margin at approximately 11.5%. In closing, our enterprise and AI products continue to show remarkable strength, adoption, and momentum, exceeding our early expectations. We have thoughtfully accelerated investments and resource allocation towards these high potential areas, guided by disciplined financial management and supported by our strong balance sheet and robust free cash flow generation. Looking ahead, I remain energized and optimistic about our ability to drive durable growth, profitability, and strong cash flow. We believe we are strategically aligned with where the market is headed, not where it's been, and we're in an excellent position with the right products, customers, and strategy to capitalize on the significant opportunity and deliver durable long-term shareholder value. Reflecting our conviction in this strategy, the strength of our balance sheet and free cash flow generation, and our confidence in the long-term opportunity ahead, we are announcing a $150 million share repurchase program that will commence this quarter. This program demonstrates our strong belief in the business and the attractive valuation opportunity we see today, reinforcing our commitment to delivering durable shareholder value. With that, we'd be happy to take your questions.

Operator, Operator

The first question comes from Scott Berg with Needham.

Scott Randolph Berg, Analyst

I guess the first question I have is on the low end of your customer segment and some of the pressures that you're seeing there. Is the buying pressure, I guess, kind of pretty broad-based and widespread? Or are you seeing some of those pressures outside of the paid click items? But is the pressure pretty broad-based across all your products? Or is there something that's still selling reasonably well even in this environment?

Brian Mulroy, CFO

Yes, a good question. It's fairly contained. It's something we've been talking about for some time about freelancers, which are impacted by a number of macro factors and then less sophisticated customers. That's been something we've been talking about for about a year that persisted through the second quarter. And in the second quarter, it was particularly impacted by the rising cost per click that Bill and I mentioned earlier. So it’s fairly contained to that particular segment.

Scott Randolph Berg, Analyst

Got it. And then from a follow-up, Brian, I know you and I have been talking for a couple of years around the liquidity of the stock, and I understand the buyback program relative to where you all expect the valuation to trend here in the short term while the business goes through some of these transitions. But if you fully execute on your buyback program at $150 million, how does that change your viewpoint on the liquidity of the stock? Because I think that's still been a challenge for some institutional shareholders.

Brian Mulroy, CFO

I think at this point, share repurchase gives us an opportunity to share our conviction about where the company is going, the momentum we're building in enterprise and AI, and the overall conviction we have about our future potential. That's paramount for us, to make sure that’s expressed and something that we can execute on as we advance forward.

Operator, Operator

We now have Elizabeth Porter with Morgan Stanley.

Elizabeth Mary Elliott Porter, Analyst

I wanted to follow up on the downmarket piece. I believe around the Analyst Day, we've been talking around the opportunity for that down market to start to stabilize or maybe even get a look better, but it sounds like it's getting worse. And kind of we put that against an overall macro that seems to be holding in better than feared. So I just wanted to get a finer point of what drives your view that the down market weakness is something that is just more temporary in macro? Or what's the risk that you're seeing any changes in competition or that pressure could be actually more secular?

William R. Wagner, CEO

Thank you for the question. First, the data indicates that the issue is limited to that specific segment of the market. After the pandemic, there was a significant increase in freelancers in marketing, but that trend has mostly faded. I don’t believe it's connected to the broader macroeconomic landscape, which seems quite stable. We haven't observed any issues in the other segments. Moreover, SEO demand remains strong, as evidenced by our enterprise segment, where customers are purchasing our enterprise search engine optimization product, which has become our largest growth driver. We believe this dynamic reflects the post-pandemic trend of individuals leaving the lower end of the marketing space, while larger customers continue to invest in marketing. This context helps explain the current situation.

Elizabeth Mary Elliott Porter, Analyst

Got it. And then just as a quick follow-up. I think the implied kind of Q4 revenue growth assumes some modest improvement. And so what drives the view on kind of that exit rate closer to kind of 16% year-over-year, a little bit of improvement from kind of the Q3? And second, when I look at the Street kind of closer to 19% growth for fiscal '26, anything that we should be mindful of as it relates to maybe the mismatch between the implied exit rate and Street's current fiscal '26 view? Just anything factors to call out there would be helpful.

Brian Mulroy, CFO

Yes. Elizabeth, we are assuming that in our guidance, and it's a function of the momentum that we're building with enterprise and AI. We mentioned earlier that the combined annual recurring revenue across enterprise SEO, enterprise AI optimization, our new AI toolkit, and then the AI content toolkit products achieved $25 million in ARR by the end of the second quarter. And Bill mentioned earlier that we expect that to rise up to $50 million by the end of the year. So it's the momentum in that product portfolio and within the Enterprise segment that gives us confidence in our ability to deliver our guidance for the year and continue to deliver strong growth and momentum within the enterprise segment and enterprise and AI products.

Operator, Operator

We now have Luke Horton with Northland Capital Markets.

Lucas John Horton, Analyst

Just wanted to touch on that new product pipeline. You've launched several AI and enterprise-focused products and tools. And Bill, I think in your prepared remarks, you mentioned growing these to about $50 million by year-end. Just wondering if we can get a sense of how much of this is coming from your existing customer base with those 9,000 enterprise customers versus kind of net new customers?

William R. Wagner, CEO

Yes, that hasn't changed from last quarter. In the enterprise space, about 60% of our customers are upgrades and roughly 40% are new to the portfolio. This split continues to hold. Looking ahead, a significant portion of the growth we discussed for reaching $50 million in annual recurring revenue from the AI and enterprise portfolio by the end of the year will likely come from the products we currently have in-house, especially following the launch of our AI optimization products in the enterprise space. However, we will also be introducing new products in both the third and fourth quarters, targeting the enterprise segment as well as our product-led growth initiatives.

Lucas John Horton, Analyst

Could you provide an update on the competitive landscape? Are you experiencing any increase in competition with the shift to AI-based search or any notable trends from a competitive perspective?

William R. Wagner, CEO

No, I wouldn't say we've seen any significant change in the competitive landscape.

Lucas John Horton, Analyst

Okay. Lastly, can you share any insights on the performance in the U.S. compared to regions outside the U.S.? Are there any notable trends or observations from customers in these areas?

William R. Wagner, CEO

Again, we really haven't seen a change in that. That remains largely 50-50 right now across the U.S. versus the rest of the world. So yes, and that trend continues both in PLG and in enterprise.

Operator, Operator

We now have Jackson Ader with KeyBanc Capital Markets.

Jackson Edmund Ader, Analyst

Are customer acquisition costs on the low end, and is their increase being driven by AI search trends? Is this linked to the very challenge you aim to assist your customers with? If so, do you anticipate these rising acquisition costs will also affect other companies, both within your sector and beyond?

William R. Wagner, CEO

Jack, this is Bill. Let me address that question. I think, as you may have noticed from Google’s earnings a couple of weeks ago, their ad business is experiencing significant growth. Artificial intelligence is now around 30% of Google searches, according to our analysis, which means there are fewer traditional blue links and the paid search space has become more competitive. Brands will need to figure out how to position themselves effectively, especially in the AI-generated search results. This is precisely what we focus on, and we notice this reflected in the usage statistics of our products. I mentioned earlier that there’s a strong correlation between our SEO tools and AI toolkit usage. I believe this is a challenge that all brands will face, and it aligns well with our strengths.

Jackson Edmund Ader, Analyst

Okay. Just following up on that, and I apologize if I’m missing something. If Semrush is the company that should be helping customers figure this issue out, what does it indicate that you are making the strategic decision not to pursue customer acquisition growth and are moving away from this top-of-funnel problem, while also providing tools that are supposed to help solve the issue? What makes your approach different from what you might be telling your customers, which is to stay engaged and use our tools?

William R. Wagner, CEO

I believe the focus is more on that segment than other factors. Our enterprise SEO remains our top growth driver, with companies purchasing SEO at a robust rate and showing strong demand. The key issue is the dynamics in the lower end of the market. However, we will continue to attract customers across all segments. Our emphasis lies in assessing our unit economics and determining where to allocate our capital and resources most effectively. This includes both organic and paid search, which remain critical areas for us. Our clients rely on us to enhance their visibility in organic search, and paid search is just one avenue. As paid search increases, we need to reassess our capital allocation to ensure we achieve the best return on investment. We are committed to this approach and expect our customers to maintain it each quarter.

Operator, Operator

Our final question comes from Adam Hotchkiss with Goldman Sachs.

Adam R. Hotchkiss, Analyst

If I go back to Analyst Day, I think 50% of the business is still SMB or that solopreneur and freelancer part of the business. Brian, I know you said that the expectation is once you get beyond this year and some of the near-term softness, the expectation is that, that piece of your customer base is still a priority and you expect some stabilization there. How should investors think about that piece of your ARR and what the trajectory of that looks like going forward? And maybe just some of the puts and takes around that.

Brian Mulroy, CFO

As of now, the small to medium-sized business, solopreneur, and freelancer segment accounts for about 40% of our annual recurring revenue. This segment remains robust, although we are seeing challenges primarily among the very low-end business owners, such as untrained marketers and freelancers. However, we continue to see strong growth and momentum with SMBs who are actively adopting our SEO solutions and broader digital marketing platform. Our commitment to scaling and enhancing our SMB business remains steadfast. Currently, we are also witnessing positive momentum in the mid-market and enterprise sectors, particularly among those embracing AI, which will continue to be a key focus for us. The pressures are mainly affecting the lower-end segment, a trend we've been discussing since Analyst Day.

Adam R. Hotchkiss, Analyst

Okay. Got it. Very helpful. And then just to follow up on the last question on customer acquisition cost efficiency. Was there a cutoff that you saw that really come into the fold? Is it really just that lower end solopreneur freelancer piece of the market? Or would you say that, that customer acquisition cost efficiency also eked into the SMB and mid-market side of the business? I guess I'm just trying to understand whether this is a everyone but the enterprise conversation or this is just a really low end of the end market conversation around the customer acquisition cost?

William R. Wagner, CEO

The unique aspect of the lower end market is that, as Brian pointed out, it has the lowest annual recurring revenue and retention rates, which are the highest churn rates among our customers. While paid search remains effective for other segments, it becomes less viable for this group as prices rise. Therefore, it’s essential to evaluate where we allocate our resources to ensure maximum return. This is the key dynamic we are observing.

Operator, Operator

We now have another question from Surinder Thind with Jefferies.

Surinder Singh Thind, Analyst

Just following up on the last set of questions here. Is there a longer-term consideration that we should be thinking about as search itself evolves and we see fewer of those blue links beyond just kind of what we're seeing in the near term here?

William R. Wagner, CEO

Well, there's been a lot of developments since our last discussion. Our research indicates that Google processes approximately 14 billion searches, while ChatGPT handles around 1 billion search-related queries. Overall, AI appears in about 30% to 40% of search results. Interestingly, while traditional blue links still convert, links within LLMs have a conversion rate over four times higher. For brands, it's crucial to understand how they appear in these answers. As mentioned by Google recently at a search engine roundtable, the strategies effective in SEO will also be beneficial for visibility in LLMs. We're confident in our ability to assist brands in optimizing their presence in LLMs, given the significantly higher conversion rate from clicks on links in answers compared to traditional search. Brands are actively working to navigate this change.

Surinder Singh Thind, Analyst

That's helpful. And then big picture, when we think about just the enterprise business here, the focus on that. Was there any detectable change in behavior, I guess, I would say, from a purchasing perspective? I hear the results of the results, but just any behavior that might be worth highlighting of how we went from 1Q to 2Q and what you might be seeing this quarter so far and maybe the expectations for the rest of the year as we kind of think about how trends might evolve into 2026?

William R. Wagner, CEO

Yes. As I mentioned last quarter, when I first took on the role, I aimed to focus on both AI search and enterprise. Now that I have a full quarter of experience, I feel even more confident about that direction. As CEO, I’m particularly focused on capital allocation, ensuring we invest in the right areas of the business, considering M&A opportunities, and evaluating whether we should return capital to shareholders. We've discussed the softness in our market for several quarters, as Brian has pointed out. While examining our paid advertising costs, I realized we needed to assess our resource allocation in the lower-end segment. Consequently, we decided to reduce marketing spending in that area where unit economics were weaker. Instead, we are increasing our investments in AI and enterprise, where we see strong demand and believe we hold a competitive advantage. We are quite confident in our future direction and think stock repurchase is a sensible move given the attractive valuation opportunity. Those are the decisions we have made.

Operator, Operator

I can confirm that does conclude our question-and-answer session. And I would now like to hand it back to the management team for some closing remarks.

William R. Wagner, CEO

Thank you all for joining us today. We reported a solid quarter with our positive momentum in the enterprise segment and our AI solutions continue to build. We are excited about our position in the market and our future prospects.

Operator, Operator

Thank you. Thank you all for joining. I can confirm it does conclude the Semrush Holdings Second Quarter 2025 Results Conference Call. Thank you all for your participation, and you may now disconnect, and please enjoy the rest of your day.