Similarweb Ltd. Q3 FY2022 Earnings Call

Thank you, operator. Welcome, everyone, to our third quarter 2022 earnings conference call. During this call, we will make forward-looking statements related to our business. These statements may include the expected performance of our business and our future financial results, our strategy, the potential impacts of the COVID-19 pandemic and its associated global economic uncertainty, our anticipated long-term growth and overall future prospects. These statements are subject to known and unknown risks, uncertainties and assumptions that could cause actual results to differ materially from those projected or implied during the call. Again, actual results and the timing of certain events may differ materially from the projected results or the timing predicted or implied by such forward-looking statements. Further, reported results should not be considered as an indication of future performance. Please review our Form 20-F filed with the SEC on March 25, 2022, in particular, the section entitled Risk Factors therein. For a discussion of the factors that could cause our actual results to differ from the forward-looking statements. Also note that the forward-looking statements made on this call are based on the information available as of today's date, November 16, 2022. We undertake no obligation to update any forward-looking statements we make today, except as required by law. As a reminder, certain financial measures we use in presentations of results and on our call today are expressed on a non-GAAP basis. In particular, we referenced non-GAAP operating loss, which represents GAAP operating loss less share-based compensation adjustments and payments related to business accommodations, amortization of intangible assets and certain other nonrecurring items. We use this and other non-GAAP financial measures internally to facilitate analysis of our financial and business trends and for internal planning and forecasting purposes. We believe these non-GAAP financial measures when taken collectively, may be helpful to investors because they provide consistency and comparability of the past financial performance by excluding certain items that may not be indicative of our business, results of operations or outlook. However, non-GAAP financial measures have limitations as an analytical tool and are presented for supplemental informational purposes only. They should not be considered in isolation from or a substitute for financial information prepared in accordance with GAAP. A reconciliation between these GAAP and non-GAAP financial measures is included in our earnings press release which can be found on our Investor Relations website at ir.similarweb.com. Today, we will begin with brief prepared remarks from our CEO, Or Offer; and CFO, Jason Schwartz. Then we will open up the call to questions from sell-side analysts in attendance. Please note that we published a detailed discussion of our third quarter 2022 results in a letter to shareholders for investors to reference as well as an updated investor presentation with a strategic overview of the business, both of which are available on our Investor Relations website. With that, I will turn the call over to Or Offer, CEO of Similarweb.

Thank you, RJ. And also thank you to everyone joining the call today. We reported solid results in our third quarter as we navigated the challenging macroeconomic environment. Revenue grew 41% over Q3 last year to $50 million in the third quarter. The expansion of our global customer base consisting of SMB, enterprise, and strategic accounts remained steady. Our customer base grew 21% year-over-year to 3,900, and our average account spends about $52,000 with us annually, up 15% over last year. Furthermore, over 53% of our annual recurring revenue comes from customers who spend more than $100,000 per year with us. Today 37% of our relationships consist of multiyear contracts, a metric that has expanded year-over-year since 2020. When we look back to 2020, digital transformation has become mission-critical for every business, and we benefit greatly. At that time, we became a public company, we nearly doubled our revenue and focused on continuing our rapid growth. Despite the incredible trajectory we have been experiencing since the outset of the pandemic in 2022 and other plans, we are facing the impacts of the continued war in Ukraine, rising interest rates, global inflation, and customers with leaner budgets. We now believe that the macroeconomic condition will take longer to recover than we assumed and are looking at an entirely different economic climate in 2023. To succeed in this environment, we must adjust our priorities, sharpen our focus, and take the right action for our company. This leads me to a truly difficult change I'm sharing with you today. We have decided to reduce the size of our workforce by about 10%, saying goodbye to Similarwebers who mean a lot to us. The incredibly talented Similarwebers that we have to say goodbye to, I’m deeply sorry. Over the last couple of months, we made a lot of adjustments trying to adapt to the quickly changing market conditions. However, now I know that we were overly optimistic in our estimate of the duration of the recession, and it seems the market will take much longer to recover. With that in mind, we certainly need to make this change. In addition to changes in our headcount, we will be reducing expenses across the company. Though changes will align to one key decision: accelerating our timeline to become free cash flow positive during 2023. To achieve this, we will match the pace of our investment with the realities around us. We will sharpen our focus and deploy resources carefully on the core activities that create revenues. What is great about Similarweb is that our solution is very valuable in times like this. The visibility we give into the digital world is critical for companies to make decisions in those times. We will double down on our customer needs to survive and win in this unpredictable economy. As we adapt to the macroeconomic environment with our customers, we greatly appreciate the support of our shareholders who are navigating with us. Jason, I will turn the call over to you.

Thank you, Or. And thank you to everyone joining us on the call today to discuss our third quarter results. I will briefly address our financial performance, and then we will open up the call to questions. Our results in the third quarter continue to demonstrate our disciplined execution. Revenue reached $50 million for the quarter and exceeded our outlook of $49.2 million on the high end of our range. Our overall dollar-based net retention rate, or NRR, increased to 112% as compared to 110% in the third quarter of 2021. For our $100,000 ARR customer segment, NRR increased to 123% as compared to 122% in Q3 last year. Our remaining performance obligations, or RPOs, increased 39% year-over-year to $158 million, 86% of which will be realized over the next 12 months. As we exceeded our plans on the top line, we also exceeded expectations on our bottom line. Our third quarter GAAP operating loss was $20.6 million, while our non-GAAP operating loss was $13.3 million, which was much less than the $20.9 million loss we had anticipated on the lower end of our guidance range. Importantly, our non-GAAP operating margin improved over 1,200 basis points versus the prior year. In addition to increased sales, we deployed broad-based operating efficiency measures across the business. As a reminder, this result includes non-comparable expense impacts from our acquisitions as compared to the prior year. Turning now to Q4 2022, we expect total revenue in the range of $50.5 million to $50.9 million. For the full year, we expect total revenue in the range of $192.4 million to $192.8 million, representing 40% growth year-over-year at the midpoint of the range. Non-GAAP operating loss for the fourth quarter is expected to be in the range of $14.5 million to $15 million. And for the full year, it will be between $67.4 million and $67.9 million. Compared to last year, our outlook includes impacts to cost of goods sold relating to our data partnership and to the acquisition of Embee Mobile. We anticipate non-GAAP gross margin will be approximately 75% to 76% in Q4 2022 and approximately 75% for the full year 2022 as a result of these impacts. As we finish 2022 and plan for 2023, we anticipate a different growth trajectory next year than we have experienced to date, influenced by recessionary conditions that will persist for an indeterminable amount of time. As Or mentioned, we are adjusting our strategic priorities as we, along with our customers, prepare to face these increasing challenges globally. Today, especially, is a trying day in our history as we restructure our organization to balance our expectations for moderating growth with accelerating our path to profitability. Our team, our business model, and our balance sheet remain resilient as we navigate these challenges. The decisions we are making and the actions that we are taking reflect our focus on becoming free cash flow positive during 2023. With that, Or and I are ready to answer your questions.

Thanks for taking the question. Or, given your insight into current market trends and through speaking with your customers, what are some of the things that you're seeing that could indicate prolonged changes in demand for Similarweb? And are you seeing any more pressure on existing customer growth or new customer acquisition? Thanks.

Hi, Ryan, good to hear from you. Thank you for the question. What we're seeing, I think, is similar motion that is in the market for most software companies is that there is a slowdown in making business. What that means is that the process of approving a deal is now getting much longer, needing to go higher in the organization to get approval from the C-level, the CFO, or CEO. A lot of clients are pushing to the end of the year or pushing into next year's budgets. The pressure is mostly coming from new business. We're seeing stability in the current book of business, but new business is tougher. The KPIs there are totally different than what it used to be.

Appreciate the color. And then, Jason, pleased to see the guidance for Similarweb becoming free cash flow positive move up the year to 2023, along with the new focus on profitability. How should we think about the benefit to free cash flow from the reduction in workforce? Is there any particular segment or area where the employee headcount changes are primarily impacting? Thanks.

Are you able to hear me now? Okay. Sorry. The reductions are actually all across the business. I think you're seeing efficiencies already in this quarter in Q3 in terms of that 1,200 basis point improvement in the operating expenses. You see the margin come down on R&D, sales and marketing, and G&A. That was before we implemented the restructuring that we announced today, which will come through towards the end of the year. We're looking to just drive the business to be more efficient, and we think that that's the right way for us to be managing going into 2023.

Perfect. Thanks, guys.

Hey, thanks, guys. Or, I'm curious, just as you look at the business, obviously, you're seeing a slowdown and that's not unique to Similarweb. We see that across the space. But when you think about your business, what are the different areas where you think you may be more resilient? And where do you think the impact may be more pronounced from a macro perspective, whether you break that out by industry or customer size between enterprise and SMB? Any color you have there would be helpful.

Hey, Arjun, good to hear from you. Thank you for the question. When we're analyzing the different segments that are getting tougher, I would say that Europe is more challenging than the rest of the world. I think the U.S. is okay, and in APAC, it's also good. The phase of doing business may be a little bit tougher, but we see that it's still rolling. From the motion side, around SMB, I think SMB is still doing good, so we see good traction there. Enterprise is tougher, and strategic accounts are becoming more complex. We see a lot of budgets shifting from centralized teams to decentralized. We're still closing deals, but it's a bit more complex. I think enterprise is getting hit harder than SMB and strategic.

Okay, got it. And Jason, maybe one for you. When you think about – obviously, you're not going to guide 2023 at this point. But when you think about the margin expansion that's available, looking ahead, where do you see the most leverage, or the most incremental leverage in the model versus how you're operating the business today?

Sure, Arjun. We actually see it across the lines. When you look at gross margin, if you recall at last year, it was already at 78% to 79%. We took a hit on that earlier this year because of the acquisition of Embee Mobile and the deal that we did with data.ai. As that stuff gets blended in, we're already starting to see the leverage of that coming through as the gross margin continues to improve, already up at $76 million. We think that’s one thing that you'll see going into next year. And we think that you'll see efficiencies all across. I mean, look at the improvement we were able to achieve on the sales and marketing side, taking that to 55% of revenue consistently. We've consistently been about 65% to 66% over the last seven quarters. So I think that you're going to see more and more efficiency coming through while we continue to maintain our unit economics. Our unit economics are still very positive, inherently driving a profitable business over a two-year lifespan of a customer. We don't have to wait for three, four years to get recovery and profitability on the customer. We feel very good about that.

Okay, got it. Perfect. Thank you very much, guys.

Thanks. And maybe I have two questions. So first, can you talk about the e-commerce product adoption in the quarter versus perhaps what you saw a year ago? And are you still as bullish on this opportunity as you were in the past? And then the second question, when business – just from the cost reduction perspective, I'm assuming you're reducing headcount to right-size the current opportunity. How do you think that impacts sales though coming out of this? Obviously, things will presumably rebound late in 2023. How do you think about that? Do you then have to rehire on the other side of that? And consequently, with R&D, are you pushing out new product development that then you rehire on the other side? So how much of this do you think about as driving permanent productivity gains versus rightsizing for the current environment and then needing to rehire when the opportunity is right? Thanks.

Thanks, Jason. So the first question around the Shopper Intelligence product, we still see strong momentum. We had a really good quarter from lower acquisition and overall growth. So we still have good momentum. We're focusing now on the U.S. market. And disregarding the Shopper product, e-commerce one. Regarding the reducing workforce, I think that when we look at it, the strategy there was not to protect the revenue-generating schemes in marketing sales and to honor innovation and product – so, basically, G&A was hit hard, as well as some things in R&D that are more internal and development. We think we're very bullish on our product and product-market fit that our customers need more than ever now to adopt their plans for next year. We're still closing businesses; we’re just aware that it's taking longer and is tougher to grow new deals, but we remain bullish on continued execution. As I mentioned, we didn't cut in a way that we think we need to hire back next year.

Thank you.

Yes. Thanks for taking the question. Maybe I just wanted to better understand the timing of how you saw this play out because I think it's obviously a pretty big tone change from the investment posture that you indicated at the beginning of the year. So was this something that you saw play out in terms of a slowdown in new customer acquisition in the quarter? And are you expecting it to get worse? Or are you just kind of proactively adjusting for the macro environment that you may anticipate over the next year, just given the headlines out there?

Thanks, Tyler. When I look historically at the quarter, I think Q1 was looking good for us. We were optimistic and were still hitting our internal targets. In Q2, we already started seeing the slowdown. We didn't know exactly what this meant. I think it was just the beginning of the slowdown, specifically to our sector. We made some adjustments in Q2 to improve efficiency and marketing budgets. By Q3, we had a stronger indicator that there was a slowdown, and I think there might be more of the same by the end of the year, leading into next year. I foresee a potential recovery in our sector. We decided that we needed to adapt and adjust our strategy according to the market conditions and overall sentiment. It feels much better to position the company for the challenges we expect in the next few quarters.

That's helpful. And maybe a question for Jason; just as we think about cash flow breakeven next year, I think that's a much bigger change than at least the consensus numbers are indicating. Maybe just help us frame how we get there. Should we think about revenue growth of around 20% and OpEx flat? Or just help us understand the underlying assumptions to get us there? And then secondly, if you could indicate your view on when you would expect things to get better. Obviously, this is a difficult decision to reduce the headcount. But presumably, you're not expecting things to improve anytime soon. Just any thoughts on when you think you would look to see improvement?

Yes. Tyler, thanks for the call. Our philosophy here has always been balancing growth and profitability. Even before we went public, we ran the business efficiently and got to cash flow profitability breakeven and slightly positive right before going public. The investment thesis was about accelerating this growth while knowing we could return that investment over the next 24 months after deploying that capital. We've done a good job at that, showing growth. However, we’ve now seen the slowdown. The leadership team wants disciplined execution and efficiency. We've shown our ability to adapt to market changes, demonstrated by the improvements seen in Q3. The decision to reduce headcount is tough but necessary given today’s macroeconomic climate. Demand remains; people are still buying and locking in multiyear deals, indicating that our solution is essential. From a planning perspective, we're ensuring operational flexibility to be cash flow positive in 2023, accelerating from 2024, as we believe this is the right approach.

Thank you.

Hi Or and Jason. Thanks for taking the question. Given the growth reset, it seems like we're walking back that $450 million ARR target that you previously guided to by the end of 2024. Should we expect the growth rate that you guys are guiding to in the fourth quarter, kind of low 20% range, to be the more normal over the next two years? Or should we expect additional deceleration over the coming quarters or years? Just any help framing the pace of growth over the coming quarters would be appreciated.

No. We would expect that looking ahead, we might experience a couple of tough quarters, like Q1 and Q2, but we hope that Q3 and Q4 bring some recovery. We remain optimistic about our execution. We'll provide more guidance in the next earnings call once we can assess the full year results more thoroughly.

Got it. That makes sense. And should we expect, I guess, a majority of the growth over the medium term to primarily come from you pushing on your existing customers? To that extent, could you talk about the adoption of any premium add-ons and what you're seeing with that and how receptive customers are to that product?

Yes. We believe the right strategy going forward is to double down on our existing customers. We are fortunate to have a broad product portfolio we can introduce to them. The upsell model you discussed is one of them, and we see good traction there. We already have hundreds of customers upselling in this model and a strong pipeline. We also have good innovation internally; the Shopper product for e-commerce is doing well, and we just launched a new investor platform with alternative data that is performing excellently with a lot of new onboarded customers.

Perfect. And maybe just one last question on my end. Have you guys been more accommodating on the pricing levels for your range of products, or have you held firm? Would you be more accommodative on a pricing standpoint going forward?

Yes. It’s a good question and one we discuss internally. We're considering now whether it might be time for some price increases due to the forex situation. Some companies have taken that approach, which we are evaluating. However, right now, we haven't finalized a decision; we’re much more flexible about payment terms. We understand our customers want to achieve cost savings, thus we offer yearly contracts but are open to quarterly or monthly payments to make it more comfortable for them.

We have no further questions. This will conclude today's conference. You may disconnect your lines at this time. Thank you for your participation.