Sprout Social, Inc. (SPT) Q1 2023 Earnings Call Transcript

Hello. My name is Chris, and I'll be your conference operator today. At this time, I'd like to welcome everyone to the Sprout Social First Quarter 2023 Earnings Call. Thank you. Jason Rechel, Vice President of Investor Relations and Corporate Development, you may begin.

Thank you, operator. Welcome to Sprout Social's First Quarter 2023 Earnings Call. We'll be discussing the results announced in our press release issued after market close today and have also released an updated investor presentation which can be found on our website. With me are Sprout Social's CEO, Justyn Howard; CFO, Joe Del Preto; and President, Ryan Barretto. Today's call will contain forward-looking statements which are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include, among others, statements concerning financial, business and customer trends, our expected future business, financial performance and financial condition, performance against our multiyear financial framework, our market size and opportunity, our planned objectives and expected results from future operations, growth, products, investments, initiatives, pricing, partnerships or strategies, and our guidance for the second quarter of 2023 and the full year 2023 and could be identified by words such as expect, anticipate, intend, plan, believe, seek, or will. These statements reflect our views as of today only, 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. For a discussion of the risks and other important factors that could affect our actual results, please refer to our annual report on Form 10-K for the fiscal year ended December 31, 2022, and supplemented by our quarterly report on Form 10-Q for the quarter ended March 31, 2023, each filed with the Securities and Exchange Commission, as well as any future quarterly and current reports that we file with the SEC. During the call, we'll discuss non-GAAP financial measures, which are not prepared in accordance with generally accepted accounting principles. In particular, references to profitability and margins refer to non-GAAP operating income, non-GAAP net income, and non-GAAP earnings per share. Definitions of these non-GAAP financial measures along with reconciliations to the most directly comparable GAAP financial measures are included in our earnings press release which has been furnished to the SEC and is available on our website at investors.sproutsocial.com. With that, let me turn the call over to Justyn. Justyn?

Thank you, Jason, and good afternoon, everyone. Thank you, as always, for joining us and for your time today. Late last year, we began making pricing changes that we believe will materially improve the long-term growth and margin trajectory of our business by better aligning around an incredibly strong core business while deprioritizing the long tail of low-value business that had begun to anchor our growth. Today, we're going to provide additional detail around our progress here and how those efforts have set us up to raise our forecast for accelerating ARR growth and margin expansion throughout 2023. During Q1, we saw new business deal sizes more than double year-over-year in addition to 46% year-over-year growth in customers paying us $50,000 or more in ARR and 59% year-over-year growth in customers paying us $250,000 or more in ARR. Leading indicators like RPO and cRPO each meaningfully accelerated during Q1, which helped drive further acceleration in ACV growth alongside record margins and record free cash flow. We also made meaningful improvement to the quality and health of our customer base with our noncore customers that spend below $2,000 in ARR, now representing 5% of our total ARR, down from 12% of ARR and 50% of logos in 2021. The healthiest 95% of our business delivered greater than 35% year-over-year ARR growth, nearly 600 basis points faster than total ARR growth, as we continue to shift our resources away from the very low end of our market. These changes are also accelerating new business and expansion momentum within our highest ACV customers with better baseline pricing and focused energy across the team. By drawing a line in the sand around the entry point to Sprout and properly aligning our focus, we've begun to accelerate the growth in the healthiest parts of our business and expect improvements across key metrics as we replace lower quality revenue with fundamentally healthier unit economics. In Q1, we shifted customer success and growth teams away from our smallest ACV customers, and at the same time, changed prices, which we believe accelerated roughly $6 million in churn of low-quality revenue. As I mentioned, our less than $2,000 customer cohort as a proxy for noncore customers is now less than 5% of total ARR. Until this quarter, these customers have been allocated a meaningful investment in sales and customer success resources, specifically accounting for more than 20% of our total customer success headcount in spite of NDR just barely over 100%, significantly lower than the rest of our customer base. This was an investment with negative ROI, and we believe removing this anchor and shifting resources will position our company for fundamental growth and margin acceleration. We've also made great progress on our top of funnel demand since making our pricing changes last November. We anticipated and initially experienced the decline in our top of funnel trial volume while we deemphasized high-volume, low-value leads. However, through the marketing team's exceptional work on content, messaging, and SEO, we've seen our overall trial volume move to pre-price change volume levels beginning in March, with further acceleration in April. At far higher price points, we believe this underscores the size of our market and a far greater near-term revenue opportunity. We believe the shift away from our inefficient low-end business, consistent growth in the healthiest tiers of our business, and renewed top-of-funnel demand through March and April positively impacted net new ARR performance in April with enterprise being a positive outlier. We expect that a healthy April performance will continue through Q2 and result in strong net new ARR growth in Q2 and ongoing acceleration as we progress through the year. In spite of accelerating $6 million in churn during Q1 from our lowest ACV customers, we're pleased to increase our 2023 ARR growth forecast as we further build on these initiatives. We're looking into Q2 with a healthier customer base, consistent new business and expansion execution, improving competitive dynamics, and healthy top of funnel demand. Our investments in enterprise also continue to deliver great results, with enterprise Q1 net new ARR growth of greater than 50% year-over-year. During Q1, our acquisition of Repustate accelerated several facets of our roadmap in social listening, and we are now quickly extending more sophisticated AI and machine learning across our platform to care, publishing, messaging, and employee engagement. Late in Q1, we further built on these advancements with a combination of OpenAI's GPT model. We're going deeper into social customer care routing and workflow functionality and allowing impactful and intuitive AI to greatly build upon existing customer workflows. We're being thoughtful and intentional with our approach to AI to bring the most valuable aspects of these technologies to our customers to tailor unique solutions to social. Premium module attach rates were again strong this quarter, improving by 100 basis points sequentially to nearly 23% of our total customer base. We see ongoing success and opportunity with customers selecting our full suite of products as we continue to see meaningful expansion opportunities to drive each of these metrics higher over time as customers unlock social data to drive business decisions. We believe our roadmap in AI, social customer care, listening, and analytics will unlock even greater value with our premium capabilities in the quarters ahead. We are also very excited today to announce an extension of our long-standing strategic partnership with Twitter. Global consumers continue to validate Twitter as one of the most valuable channels for businesses to find the voice of culture, foster authentic relationships with customers, and provide real-time engagement. Through the strength of our partnership, our customers will continue to have the tools they need to execute a holistic social strategy at scale. All said, our multiyear investments in the most productive parts of our market are coming into focus in 2023. We've meaningfully shed growth and efficiency anchors to fully benefit from our pricing evolution and momentum upmarket, which we believe will make Sprout a clear category winner. We are continuing to hire incredibly talented people across our company that will uniquely position Sprout to flex all of our competitive advantages to maximize our potential in the years ahead. With that, I will turn the call over to Ryan.

Thanks, Justyn. I'm grateful for our customers who continue to see more value in our platform, and for our teams who are consistently strengthening the foundation for the future. As Justyn highlighted, we expect that the durability of demand for our products and our strategic alignment around the most productive tiers of our market will position us to accelerate ARR growth through 2023. Our entire team is pointed at the fastest-growing tiers of our market. This is where we've already built considerable momentum, and we believe we have our strongest competitive differentiation. We believe this supports durable and even more efficient growth beyond 2023. Our competitive positioning in the mid-market and enterprise continue to strengthen, and our happy customer reviews are a key proof point. In February, Sprout was recognized by G2's Annual Best Software Awards for the seventh consecutive year. We are featured in 7 categories, including Best Global Software Companies and as a Top 20 Software Product for enterprise. We are the only social media management software recognized in the top enterprise software category and the only social media management software ranked across SMB, mid-market, and enterprise. We take great pride in this recognition because it's completely based on the voice of the customer. This type of customer feedback is grounded in delivering value and a strong return on investment. The Forrester Total Economic Impact study recently found that Sprout enabled customers to achieve a return of investment of 233% and a net present value of $1.3 million over 3 years with a payback period of less than 6 months. This commissioned study conducted by Forrester Consulting found that our product enabled customers to boost productivity, improve their organic reach on social by 85%, deliver faster response times, and save nearly $500,000 in legacy tech costs over a 3-year period. We believe our distinct advantage in the market comes from a relentless focus and leadership in social, the refined elegance of our product, our unique architecture which enables faster innovation, and our highly efficient go-to-market motion. Together, these factors create a winning combination for our company. We are incredibly grateful for our customers who continue to vote Sprout as the industry-leading software, especially in the enterprise. Also unique is our opportunity to partner with Salesforce. During Q1, we migrated 96 customers, a handful of which are leveraging our out-of-the-box Service Cloud integration. When we announced our partnership in March of last year, we shared an estimate of 3,000 to 4,000 Social Studio customers. We transitioned roughly 250 in 2022 and roughly 100 during Q1 of this year. We've also told you to expect positive seasonality from this relationship in each Q4. And looking ahead, we believe that Q1 will be the low watermark for migration this year as contributions grow meaningfully and linearly over the course of 2023. Social has also been built into Service Cloud for thousands of customers, and this functionality is also unwinding over the next 18 months, which we believe has a potential opportunity that is multiple times larger than Social Studio alone. Our data, conversations with customers, and work with Salesforce's typical multiyear contracts provides visibility into momentum as we work through the opportunity, a majority of which is still in front of us. Beyond just this transition, we are more excited for the medium to long-term opportunities presented by our product integrations that we believe have positioned Sprout as a social standard for all Salesforce customers. We'll have more to share on our work with Service Cloud later this year. We grew with an amazing list of customers this quarter, including Campbell Soup Company, Universal Pictures, Big Lots, Dave & Buster's, the Ohio Department of Health, GE Power, EmblemHealth Services, Primera, World Pool U.K. and others. Building on my conversations with customers, I'd like to share my perspective on our served addressable market and medium-term model framework, which we initially presented at our 2021 Investor Day. We're planning a second Investor Day for September 27 this year in Chicago. We look forward to welcoming many of you there. As we look ahead to this event, I'd like to help refine your expectations. Since 2021, our market has evolved as growing social teams cemented their strategic importance to businesses. These social networks emerge to further fragment the complexity that we're solving for and the use cases evolve to pull in new teams of users. We also believe we've accelerated our momentum upmarket and strengthened our competitive position while materially evolving our pricing strategy. We assessed our served addressable market at $44 billion in 2021, which was based on the addressable number of businesses on social and their segment-level ACVs. From Q2 2021 through Q1 2023, our total ACVs have grown 43%, while our mid-market and enterprise ACVs grew at an even faster rate year-over-year in Q1. We anticipate stronger ACV growth ahead as the utility of social continues to grow. We continue to see primarily new greenfield opportunities in the mid-market and lower to mid enterprise, with a mix of greenfield, legacy tool replacement, and point solution consolidation in the upper enterprise. While we're not prioritizing low ACV logos, these factors in aggregate create significant potential upside to our 2023 SAM forecast as well as our 2025 TAM forecast. We also outlined plans to grow at least 30% annually through 2025 while expanding margins 100 to 300 basis points per year. The changing quality of our customer base, broadening new business applications in the mid-market and enterprise, and expanding opportunity inside our installed base each support ongoing confidence in our ability to outperform this growth target. Meanwhile, we expect that improving total unit economics and net dollar retention as well as expanding total deal sizes over the remainder of 2023 will each contribute to anticipated upside on this margin expansion forecast. I'm proud of the way we're delivering through an uncertain time and believe we're on the path to unlock our full potential. Our partnerships have strong momentum, our pricing changes are resonating with the market, new product enhancements are delivering tremendous value to our customers, and we believe our competitive positioning has never been stronger. We are recruiting and hiring amazing enterprise sales talent, and we're focused on the most successful tiers of our market. We're excited for the work ahead as we continue to scale a category-defining company. And with that, I'll turn it over to Joe to run through the financials. Joe?

Thanks, Ryan. I'll now walk you through our first quarter results in detail before moving on to guidance for the second quarter and full year 2023. We further aligned our playbook this quarter to our fastest-growing and most efficient segments. Our aim is to provide more detail into the shift with added customer metrics disclosures. Beyond strong growth across our core customer base, we are pleased to raise our forecast for accelerating ARR growth with even greater efficiency this year. Revenue for the first quarter was $75.2 million, representing 31% year-over-year growth. Subscription revenue was $74.7 million, up 32% year-over-year. Services revenue was $0.5 million, down nearly 30% year-over-year. ARR exiting Q1 was $309.9 million, up 30% year-over-year. Enterprise net new ARR was up more than 50% year-over-year to a record percentage of our mix. This, in part, informed the decision to shift customer success resources away from our lowest-value customers, which we believe accelerated approximately $6 million of low-value logo churn that occurred over the course of 2023. The strategic change allows us to focus success, support, and growth resources around our healthiest customers while improving our total unit economics and overall profitability as we grow. We expect strong net new ARR growth in Q2 and accelerating total ARR growth over the course of 2023. The number of noncore customers contributing less than $2,000 in ARR declined in Q1 to 10,350 customers, down 31% year-over-year. ARR from these customers was less than 5% of total ARR at the end of Q1. Just 2 years ago, the number of less than $2,000 ARR customers was nearly 16,000, which accounted for more than 50% of our total customer count, more than 12% of our ARR. Less than $2,000 customer logo count and ARR have each now declined sequentially each quarter for the past 7 quarters as we focus our product and go-to-market strategies around mid-market and enterprise, a shift we've accelerated over the past 90 days. The ARR growth rate from customers that contribute more than $2,000 in ARR has exceeded our total ARR growth rate over the past 7 quarters and was consistent with Q4 2022 at greater than 35% in Q1. This focused cohort of more than 23,000 customers now represents more than 95% of our ARR. Given a healthy new business logo growth rate in this cohort, expansion on pricing changes this year, accelerating contribution from partnerships, and expanding use cases for our software, we believe that shedding this low-value growth anchor positions Sprout to optimize our growth potential. The number of customers contributing more than $10,000 in ARR grew 33% from a year ago. The number of customers contributing more than $50,000 in ARR grew 46% from a year ago, and the number of customers contributing more than $250,000 in ARR grew 59% from a year ago. We also grew with an existing customer this quarter and now have 2 customers paying us more than $1 million in ARR. Q1 ACV growth of 26% year-over-year accelerated from Q4 2022. New business deal sizes more than doubled year-over-year; the exit from a number of low-value logos; and ongoing execution on our installed base pricing changes each compounded the underlying expansion of seat counts and premium modules attach rate. We expect the ACV growth will further accelerate through Q3 before beginning to normalize to year-over-year ACV growth rates more consistent with our prior trend. In Q1, non-GAAP gross profit was $58.8 million, representing a non-GAAP gross margin of 78.2%. This is up 180 basis points compared to a non-GAAP gross margin of 76.4% a year ago. Non-GAAP sales and marketing expenses for Q1 were $30.3 million or 40% of revenue, up from 37% a year ago. We are fortunate to hire well throughout the quarter and continue to make meaningful investments in our future, particularly in enterprise and customer growth roles. Non-GAAP research and development expenses for Q1 were $14.3 million or 19% of revenue, down from 20% a year ago. We continue to make transformative R&D investments to support the future evolution of our platform. Non-GAAP general and administrative expenses for Q1 were $12.5 million or 17% of revenue, down from 22% a year ago. We expect to deliver consistent G&A leverage as a percent of revenue moving forward. Non-GAAP operating income for Q1 was $1.7 million for a positive 2.3% non-GAAP operating margin, an improvement of 440 basis points year-over-year. We are pleased to have a record non-GAAP operating income and record non-GAAP operating margins even as we continue to invest across the business. Non-GAAP net income for Q1 was $3.4 million for net income of $0.06 per share based on 55.2 million weighted average shares of common stock outstanding compared to a non-GAAP net loss of $1.4 million and $0.03 per share a year ago. Turning to the balance sheet and cash flow statement, we ended Q1 with $187.2 million in cash, cash equivalents, and marketable securities. This includes cash paid for acquisition of Repustate and is up from $185.8 million at the end of Q4. Deferred revenue at the end of the quarter was $109.8 million. Looking at both our billed and unbilled contracts, RPO totaled approximately $187.8 million, up from $163.0 million exiting 2022 and up 62% year-over-year. We expect to recognize approximately 76% or $143 million of total RPO as revenue over the next 12 months. Last quarter, we talked about an invoice impact on Q4 billings. While our billings growth rate has historically and will continue to be lumpy from quarter to quarter based on the mix of monthly and annual contracts, the difference this quarter between deferred revenue and RPO was again material. Without quantifying the impact, we continue to expect very strong billings and RPO growth. Operating cash flow in Q1 was positive $8.3 million compared to $5.4 million a year ago. Free cash flow was positive $7.9 million for a record 11% free cash flow margin. Through strong efficiency, the ongoing shift to annual and multiyear contracts continues to have a positive impact on our free cash flow as we grow. Shifting to formal guidance. For the second quarter of fiscal 2023, we expect revenue in the range of $78.6 million to $78.7 million or a growth rate of 28%. We expect a material amount of low-quality revenue for our model and expect will accelerate through 2023 with a far healthier mix of business led by enterprise. We expect services revenue to decline year-over-year. We expect non-GAAP operating loss in the range of $1.8 million to $1.5 million. This represents a non-GAAP operating margin of negative 2% at the midpoint. As a reminder, we execute a majority of our annual performance-based compensation and R&D hiring in Q2 each year. We expect a non-GAAP net loss per share of roughly $0.02, assuming approximately 55.7 million weighted average basic shares of common stock outstanding. In spite of accelerating our migration away from $6 million in low-end ARR during Q1, we are maintaining our full-year 2023 revenue forecast to a range of $332.0 million to $333.0 million. This is an expected overall reported growth rate of 31%. We continue to expect services revenue will be lower than 2022 levels. For the full year fiscal 2023, we now expect total ARR to grow at least 225 basis points faster than our reported revenue, up from our prior expectation of ARR growth to exceed revenue by 200 basis points and up greater than 33% year-over-year. For 2023, we now expect non-GAAP operating income in the range of $2.1 million to $2.4 million. This implies annual non-GAAP operating margin improvement of 225 basis points to 235 basis points, up from our prior margin expansion forecast of 210 basis points to 220 basis points. We're pleased to improve our rate of non-GAAP operating margin expansion and expect to deliver durable, profitable growth on a non-GAAP basis. We now expect non-GAAP net income per share of between $0.07 and $0.08, up from our prior range of $0.03 and $0.04. This will be approximately 56.0 million weighted average basic shares of common stock outstanding. In conclusion, we're very proud of the execution of our team, which underscores the resiliency of our business model and the value of our software. Social has never been more important or more valuable to our customers, and we believe we're in a unique position to pull away from our competitive set and emerge as a category-defining company in a $100 billion market.

I will now turn it over to Justyn, Ryan, and Joe for any of your questions.

There is a lot to process here. I believe investors are a bit confused because ARR was lower this quarter, yet the outlook for the year has been raised slightly. Can you explain what factors are contributing to your optimism that things are turning around? This does suggest some positive improvements for the latter part of the year.

Raimo, this is Ryan. I'll start here. There's a few things that have given us a lot of confidence. One, as we tried to frame, just the dynamics in the business and the differences between the sub $2,000 customers, which are now 5% of our customer base versus the 95%, and the greater than $2,000, which are growing really well at a 35% growth rate. On top of that, we're seeing just really great progress in our enterprise. From an enterprise net add perspective, we are seeing that group up 50% year-over-year. And we have the benefit here also, given the timing of the call, of some data just coming out of April as well. So a lot of the churn dynamics that we saw in Q1 were very different than what we saw in April. From a top of funnel perspective, we saw a really nice comeback, thanks to the great work of our marketing team and our inbound model, from a top of funnel perspective, getting back to pre-pricing changes volume levels, and then continuing to just see really great progress from a competitive standpoint in terms of the execution from the sales team. So all those things are really putting us in a great position to have good predictability about the year and the confidence in the team and the opportunity.

I have a follow-up question. You mentioned you have 5% remaining in that lower cohort you want to divest. How confident are you in that? Could that 5% decrease faster than you currently expect? What are your expectations for its progression for the rest of the year?

Yes, Raimo, I think you're kind of at the remaining 5% in the sub $2,000 cohort, if I understood that correctly. Yes. I think as we look at that and what we saw in Q1, there were a bunch of things that were in play there that we mentioned in our prepared remarks in terms of those customers generally are pretty price-sensitive, they're the folks that are the least mature in terms of usage of social media management and the importance of it for their business. And if we think about those folks, they're also probably the most impacted by the macroeconomic factors. And so we certainly saw a bunch of that happen in Q1. But as we look at what we saw in the data coming into and out of April, there have been really good improvement there and progress made. Our belief based on the data and what we see there is that the customers that remain in that bucket are stickier than the ones that left. We certainly think that over time, over the next few years, those will ultimately likely roll off within that pricing cohort. We also know that as we're adding new customers today, especially with the pricing changes and the opportunities we're seeing upmarket, that they're being replaced by much larger customers, much stickier customers with greater opportunity to expand.

Ryan, of the Social Studio customers that have already made a migration decision, what's your sense in terms of where they fall on the spectrum of customer size or ARR contribution? I mean, I think there's a narrative out there that it's been the larger customers that have moved first but would love to get your perspective on that? And any thoughts on kind of the ARR opportunity that remains with Salesforce.

I actually think it is likely the opposite from what we've seen both in terms of what we executed on so far and the visibility into the pipeline that we have in front of us. Obviously, we feel great about that partnership. In terms of numbers, we talked about 250 last year. We've got close to 100 in the first quarter. We went live with the integrations of Service Cloud and Tableau in Q4. So we feel like we're just scratching the surface on that opportunity. We also know that Salesforce customers are typically on multiyear contracts. And probably not many people remember this, but we certainly do. We were still competing with Salesforce ending Q4 2021 right up into the first few months of our Q1 of '22 and their end of Q4, and in some cases, losing the customers that were going on ELAs. Obviously, we won a fair share of those companies, which is why Salesforce has decided to partner with us. But we see a tremendous amount of opportunity remaining within that base today. The deal sizes are going to continue to impact our $10,000 and $50,000 and, we believe, $250,000 cohorts. But from what I'm seeing in the pipeline, I would say that we're still pretty early on in the opportunity in front of us with a lot ahead of us, and those ACV opportunities still seem like they have tremendous potential.

Yes. Makes sense. And then as a follow-up, I'd love to kind of double-click on what's happening inside the Twitter ecosystem. I mean, obviously, it was nice to see the announcement today. The press release was kind of light on details. There's been lots of changes inside that organization, lots of headlines around kind of their strategy. What is your relationship there today? How do you think it might change? And like what are the risks we should be thinking about as it pertains to kind of how Sprout works with Twitter?

Yes. Great question. This is Justyn. There's definitely a lot of commentary around some of the ecosystem changes, some of the parts of the market that they may not be prioritizing the same that they did before, and a lot of the plans that they have for the future. I think as it relates to Sprout, the key takeaway is that this is a very strategic relationship, obviously, a long-standing one that falls into a different bucket than where a lot of the commentary has been. And as far as where we are both in that relationship and with that team, upon the transition, we got to work early, making sure that we are collaborating closely with that team, making sure that we establish the mutual value and strength of that relationship. And as you saw in the announcement today, we got off to a fast start in continuing that strategic relationship. So while there may be more change happening within the marketplace, it was important for us to set the foundation for the next several years and work with that team tightly as early as possible to get that done. So we're really happy about that progress. And as I mentioned, a lot of the news and headlines that we're seeing out of the ecosystem more broadly fall into a different category of partners than where we sit.

I wanted to follow up on some of the trends related to noncore customers. When we examine what led to the churn, would you say that it was primarily due to the pricing changes or the shift in customer success resources that were previously allocated to those customers? Also, I'd be interested in hearing about how this reallocation of customer success resources might impact our core customer base in the upmarket, as it could receive more attention from the sales team.

Yes, great question. This is Justyn. I'll begin, and Ryan may have additional insights. Several factors contributed to the impact we saw in Q1. Historically, this segment has been unhealthy and declining over the years, which was a key reason for some of the changes we implemented. This segment is, as we mentioned earlier, not very advanced in their development, is less engaged overall, and tends to grow at a slower pace. The net dollar retention from this group was around 100%, which is significantly different from the majority of our business. The 95% we referenced is experiencing much different growth patterns. When we consider this alongside the macro conditions, pricing changes, and our internal resource allocations, all these elements played a role in the acceleration we observed. Regarding the internal reallocation, we believe it presents an opportunity for improved growth and new business as we focus the entire company on what we see as higher-value and higher-potential customers. This not only enhances the fundamental financial aspects of the business by moving away from lower quality revenue but also provides us with upside potential by increasing our attention on other opportunities within the 95% of our revenue base where we see significant potential. We want our talented employees across the organization focused there. We've already seen some positive developments, such as the 50% year-over-year annual recurring revenue growth in enterprise, along with solid performance in other areas of the business. Additionally, the shift in resources and the commitment of more resources in the future—whether related to product development, sales, or marketing—aligned in the same direction will be invaluable for us as a company. Yes, that's a great question. Our role is to utilize generative AI and machine learning along with related capabilities to empower our customers, making them more effective and efficient in their tasks. We aim to enhance their optimization and content creation, leading to significant improvements in their outputs over time, allowing them to expand their reach across social channels. Our focus is on developing unique tools that cater specifically to social media and are distinctive to Sprout. While we've already discussed some of these initiatives, many of the more exciting aspects are still to come, and we'll share more information as we roll them out. Ultimately, we see ourselves as a multiplier for our customers' efforts, reducing redundant tasks and enabling them to concentrate on engaging with their customers and building strong relationships, while Sprout manages other background activities.

Ryan, some really nice traction in the Salesforce partnership in 4Q and then again this quarter. Curious if you could double back to your comment on the confidence you have in the linearity of that relationship through the year and the number of migrations. Is that driven by things actively in the pipeline, some visibility into the contract durations there? Can you just dig into that a little bit more, please?

Yes. Happy to, Parker. Yes, it is a combination of those things. Certainly, from visibility into the pipeline that we're seeing now and the amount of opportunity, we feel really good about the customers that we're working with. I think I've mentioned this in the past, but we have a joint Slack channel between ourselves and the Salesforce team. And it might be one of the most active channels we have at Sprout with leads going in both directions and collaboration happening in both directions. So we're really excited about that. We're being pulled into more conversations, both from a customer perspective, but also an enablement perspective with the sales teams over at Salesforce. So what started as the marketing cloud sales teams has quickly evolved into other teams, including Service Cloud with that integration we released in Q4. On top of that, we've got a bunch of events coming up that we're really excited about. We have the World Tour next week with our Head of Solutions Engineering, Cortney, having a speaking opportunity there, and then we're going to be at Connections later this year as well. So a combination of visibility into the current pipeline as well as just ongoing traction on a daily basis in terms of lead tasks and collaboration on the open opportunities. Yes. The agency opportunity is one we're really excited about. I think in the past, we've shared in certain parts of that, especially in more of the SMB side of the house, those folks have probably had more macroeconomic pressure on them as well as more price sensitivity. The way that we're approaching that channel today is similar to what we've done in the past in terms of investing in those businesses to really have them become our best referral source, our best pipeline source. And we've continued to see that opportunity from a referral perspective, where a lot of these agencies today have great brand partnerships and great brand relationships, and they're bringing them to Sprout and then contracting directly with us. So I think a little bit of a dynamic change in terms of the way that business is getting done in the agency world. I think it will be more referral versus direct as we move forward. And we've set the team up from an org structure and strategy perspective in that way, both from a direct sales and a customer success perspective.

I wanted to ask again on the $50,000 kind of customer adds. If we just look at the absolute kind of volume of adds, it looks like the lowest level since 1Q '21 at about half the rate of adds that you had in 1Q 2022. I understand the macro was tougher, but just with the incremental resources you're putting behind large customers, can you help us unpack some of the softness from the absolute logo add perspective? If the customers dropped below that $50,000 threshold, can we see some reacceleration later, or any competition at the high end to call out?

Yes. I think it's a combination of things there. I do think that there's opportunities from a reacceleration standpoint. I think some of this is that just the linearity of the quarters for us as we think about the shape of fiscal year, Q4 being our highest coming off of that. I think that there's a healthy building of pipeline that's happening across the enterprise. I do want to point back to just the comment that we shared before around our net ARR being up over 50% from the enterprise perspective. So we feel really good about the opportunity in front of us here, the way that the teams are both building pipeline as well as executing on the deals. And part of the reason we just disclosed a little bit more about things like the $250,000 opportunities in front of us as well in terms of the relative size of those opportunities that are coming in.

Yes. This is Joe, Elizabeth. Happy to answer that. I think what gives us the confidence here is really what we've kind of been talking about is our move up into the mid-market enterprise and the investments we're making. If you think about it, we've just started making those investments over the last 12 months or so, and it's probably the area where we're hiring and focusing the most. If you look at, for example, the 50% increase in net new ARR from enterprise, if you look at the fact that our new ACVs across the organization doubled on a year-over basis, we just feel like the deals we're getting into now are much larger, and we believe we're just scratching the surface of that part of our business and those investments. And so as we get into the back half of this year and we get into 2024 and then we also think about, for example, some of the investments we're making on the R&D side and the momentum we have in customer care and social listening and some of the other things that we've talked about, we just feel like the growth that we're seeing in the most healthy part of our customers, and then we also look at the NDR that we're driving the expansion of those customer base, I think all of those give us a lot of confidence going into 2024.

Thank you for providing insight into the Salesforce additions and the linear growth and net additions moving forward. I would like to know how you perceive the opportunity ahead. Do you think it is mainly a 2023 opportunity, or do you anticipate the Salesforce migrations will continue into 2024? Additionally, how significant do you expect the impact in 2024 to be compared to 2023?

This is Ryan. I do see it going through '24. I mean the public announcement on that date is the end of '24. From what we know of Salesforce contracts, they're usually multiyear contracts. From what we've seen in terms of conversations with customers, they are spread out over the next 18 months to 2 years. So if we just think about the Social Studio opportunity, I do think that we're going to see it through '23 and we're going to see it through '24. I would also just highlight, and we shared this a little bit before as well in terms of our perspective around the overall Salesforce ecosystem, the low-hanging fruit is with the Social Studio customers, but we're building this partnership and our integration strategy and our product strategy to be one where, if you're a Salesforce customer, Sprout Social is the very best solution for you. And we know that there's a couple of hundred thousand customers in Salesforce. So yes, the Social Studio one end of '24, and the Salesforce opportunity itself and the ecosystem opportunity itself is much larger and goes well beyond '24. Yes. From a competitive perspective, we have not seen anything in the data. Looking ahead to Q2 and beyond, there hasn't been any change in the data or customer feedback regarding that product. We're definitely seeing increased activity in our enterprise segment, participating in more deals than ever before in that space. We feel very positive about the win rates we've achieved there. Many of the customers we can discuss are transitioning to the Sprout platform. Additionally, I think it will be interesting to see how this develops over time. We have confidence in our go-to-market strategy that we've refined over more than 13 years. Our 30-day free trial remains a key asset in the industry, allowing most of our customers to interact directly with the product. We are excited about the chance for others to do the same so they can compare Sprout directly. So, we are not witnessing any significant changes or differences in the market, especially in the enterprise sector. We are involved in more deals against major competitors like Sprint than ever before.

Maybe, Ryan, a follow-up on the last one from a little maybe different viewpoint. I guess, what mix of your deals go to a more formal sort of RFP process or at least a multivendor evaluation from best that you can sort of surmise from the data? And maybe more importantly there, how have win rates tracked since prices were raised? Are you seeing any major changes in that, albeit only a few months? But I'm curious what you're seeing on sort of both of those fronts.

Yes, thanks, Matt. From the perspective of requests for proposals, it's definitely more common in the enterprise sector. We have been participating in more RFPs recently compared to what we experienced a few years ago, which reflects our progress in the enterprise arena. We feel very positive about this opportunity. Over the past couple of years, we have enhanced our resources in solution engineering and legal support to better respond to these RFPs and secure deals, and we are optimistic about our success in this area. We also encourage our customers to look beyond the traditional RFP process and to truly engage with our product, rather than just ticking boxes. It excites us when customers utilize the technology to guide their decisions instead of solely relying on a checklist approach. In the enterprise segment, there is considerable activity, but for mid-market companies, small to medium-sized businesses, and agencies, RFPs are much less common. When it comes to competition in RFPs, we typically see several competitors involved, usually around three or four main players. Even below the enterprise level and among mid-market companies and SMBs, we face competition unless the customer has previously used our product. This previous experience often works to our advantage, as our free trial and the volume of users contribute to strong word-of-mouth referrals. We can observe this in trial surveys where customers mention they evaluated us based on their prior experience with our product. Regarding competitiveness, we are pleased with our win rates. The first quarter was another strong period for us, and we feel very positive about our competitive standing moving forward.

Yes, Matt. So I think you saw a little bit of this in Q1. We overperformed on our Q1 guidance. And then we didn't raise the full year on operating income as much because we wanted to reinvest some of that back in the business. So I think you're going to continue to see that throughout the year. I think we have a high level of confidence to continue to outperform and reinvest that money because we just see the opportunities. So I think to the extent that we continue to do that, you'll see us reinvest a majority of that money into the business, but not to the extent that we have to not stay within that 100 to 300 basis points. I don't think you'll see us go backwards from the guidance we've given. So we expect upside to the guidance we expect, to the extent that we overperform, but you'll see us still invest a majority of that back into the business right now, just given the opportunity in front of us.

I wanted to clarify that for noncore customers, the annual recurring revenue contribution from that segment may end the year flat to down, which aligns with the guidance on the ARR number. Additionally, could you help us understand how many of those noncore customers are monthly versus annual in relation to when they churned or were up for renewal, to gauge the pricing effect?

Yes. So Clarke, regarding your question, we aren't going to specify the percentage of that 5% that is monthly versus annual. It leans more towards monthly, but we can't provide a direct percentage. You can make some assumptions based on that. As for how this affects the rest of the year, we believe it's going to take several years for those customers to cycle out of the business. Therefore, we don't anticipate it significantly affecting this year's ending ARR. You might see it slightly decrease from the 5%, but it won't have a major impact on 2023.

This is Justyn. I think it's important to note that our organization of the customer base is a bit more detailed. For example, we observe that some segments of the SMB market are more socially advanced and are spending more like mid-market businesses. This portion remains very attractive to us, especially as they move past the variable price points we are starting to eliminate. Similarly, in the mid-market sector, there are companies that actually outspend some enterprises. Therefore, when we consider the total opportunity and where we are directing our resources, we want to ensure that we do not confuse the less than $2,000 segment with the entire SMB market. We don't really see it that way. Does that make sense?

Maybe one last data point that we're excited about. If I think about one of the recent deals that we closed in the SMB space is a $100,000 ACV deal. So to Justyn's point, those sophisticated customers can exist in these spaces in SMB and agency as well. And we're certainly winning those businesses and supporting those customers.

There are no further questions. At this time, I'll turn it over to Justyn Howard for any closing remarks.

Great. Yes. I just want to thank everyone again for the time today and specifically for the opportunity to get a little more nuanced around this duality that exists in our business with the 95% of our revenue performing incredibly well and where we saw the opportunity and kind of the impetus around the realignment and the pricing changes to really focus and accelerate there and how that's been playing out so far. Certainly more to come over the next several quarters as that continues to accelerate and as we continue to drive the performance that this was all meant to drive. So appreciate your time and energy, and we look forward to chatting with a lot of you more over the next couple of weeks. Thanks, everyone.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.