Box Inc (BOX) 2021 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the Box, Inc's. Second Quarter Fiscal 2021 Earnings Conference Call. (Operator Instructions) Please be advised that today's conference is being recorded. (Operator Instructions)

I would now like to hand the conference over to your speaker today, Alice Lopatto, Head of Investor Relations. Thank you. Please go ahead.

Good afternoon and welcome to Box' Second Quarter Fiscal 2021 Earnings Conference Call. I'm Alice Lopatto, Head of Investor Relations. And on the call with me today, I have Aaron Levie, our CEO; and Dylan Smith, our CFO. Following our prepared remarks, we will take questions.

Today's call is being webcast on our Investor Relations website at www.box.com/investors where supplemental slides are now available for download. We'll also post the highlights of today's call on Twitter at the handle @boxincir.

On the call, we will be making forward-looking statements, including our Q3 and FY '21 financial guidance and our expectations regarding our financial performance for fiscal 2021 and future periods; timing of and market adoption of our products; our markets and market size; our operating leverage; our expectations regarding maintaining positive free cash flow, gross margins, operating margins, future profitability and unrecognized revenue and remaining performance obligations; our planned investments and growth strategies; our ability to achieve our long-term revenue and operating model targets; expected timing and benefits of our new products, pricing and partnerships; and our expectations regarding the impact of the COVID-19 pandemic on our business and operating results. These statements reflect our best judgment based on factors currently known to us, and actual events or results may differ materially.

Please refer to the press release and the risk factors and documents we filed with the Securities and Exchange Commission, including our most recent quarterly report on Form 10-Q, for information on risks and uncertainties that may cause actual results to differ materially.

These forward-looking statements are being made as of today, August 26, 2020, and we disclaim any obligation to update or revise them should they change or cease to be up to date.

In addition, during today's call, we will discuss non-GAAP financial measures. These non-GAAP financial measures should be considered in addition to, not as a substitute for or in isolation from, our GAAP results. You can find additional disclosures regarding these GAAP measures, including reconciliations with comparable GAAP results, in our earnings press release and in the related PowerPoint presentation, which can be found on the Investor Relations page of our website. Unless otherwise indicated, all references to financial measures are on a non-GAAP basis.

With that, let me hand it over to Aaron.

Thanks, Alice, and thanks, everyone, for joining the call today.

Let me begin by saying that I hope you and your families are all staying safe and healthy. Many months into COVID-19, the environment continues to be a challenging and unprecedented time. Through it all, we continue to provide support for our employees and their families, our communities and our customers. I'm proud of all of the teams at Box globally who strive to provide tremendous support for our customers and for continuing to drive our product innovation during this time.

We delivered a strong quarter in Q2 with revenue of $192.3 million, up 11% year-over-year; more than 15% non-GAAP operating margin compared with 0% a year ago; and non-GAAP EPS of $0.18 compared to $0.00 a year ago, both well above our guidance. We also generated more than $13 million in positive free cash flow, an improvement of more than $32 million versus a year ago. Over 100,000 customers now rely on Box to power secure collaboration and critical processes across their businesses. And in Q2, we closed wins and expansions with leading organizations such as Hitachi High-Tech, Lord Abbett & Co. and Stanley Black & Decker. More customers are leveraging the full power of Box, and we are very happy with our second quarter results and the stability we've had in this highly uncertain time.

Our Q2 results were driven by expansion within our existing enterprise customers, which has remained consistent through the COVID-19 environment and growing demand for products like Shield and Relay that drove more Suite adoption, including a 30% attach rate of Suites in our 6-figure deals.

We were proud to deliver strong revenue growth, significantly expanded operating margins of more than 15% and substantially improved cash flow.

The world today is fundamentally different than it was just a few months ago. As IT strategies are evolving from only thinking about remote work to now managing their entire future of operations and work in this new normal, our opportunity has never been greater. The vast majority of enterprises are still dealing with content that's fragmented across the legacy systems like SharePoint, FTP sites, Documentum and many other technologies. More and more enterprises are seeing the productivity, security and cost challenges that exist with this legacy approach to managing content. And as enterprises look to modernize how their employees work, securely share with their partners and enable secure content access across all other cloud applications, Box is building the only platform that combines secure content management, collaboration and workflow in one place.

Q2 highlighted another quarter of great customer wins. Just to give you a few examples. A medical school and hospital who has been a Box customer since 2013 made the decision to expand their use of Box through our ELA program to support their collaboration and communication with external parties around their COVID-19 research. An enterprise technology company selected Box to help them standardize on a single content platform to replace SharePoint and various consumer tools as their primary content repository for teams. An American multinational investment bank, in an effort to consolidate many disparate content silos, selected Box with the goal to replace legacy systems like Alfresco, Documentum and regulated FTP sites.

Over the past few years, we've methodically been building the category-defining cloud content management platform focused on 3 key differentiators: the first, frictionless security and compliance; second, seamless external and internal collaboration workflows; and third, world-class integrations and APIs that extend the value of Box into any application.

In Q2, we delivered more product innovation than ever to ensure our customers have the most secure and collaborative experience when working remotely. The all-new Box, which featured an updated simplified design and much faster performance, became available to our customers in Q2 and includes enhancements such as Collections, which provides the ability to organize files and folders around the topics and work streams important to that individual user. And we released annotations, which allows users to leave freeform markups and text comments directly in Box on all of their content. Since Annotations became available to customers in late July, the feature has been used to increase productivity on everything from marketing campaigns to legal contract reviews.

With Box Shield, we announced auto classification, which leverages advanced machine learning to automatically scan files and classify them based on their content, helping businesses detect and secure sensitive data. Today, some of the world's most security-conscious and highly regulated organizations like NASA and Sierra Oncology are using Box Shield to secure their data in the cloud.

And with Box Relay, we significantly expanded our library of templates to simplify workflows in sales, marketing, HR, legal, finance and more and added an integration with file requests. With remote work driving the need for more digital business processes, we are doubling down on workflow to automate and digitize content-centric processes across the enterprise.

One longtime customer, Heidrick & Struggles, a global executive search firm, recently deployed Relay to transform their manual processes for rolling out new application templates for candidates. By using Relay, they have been able to decrease cycle times with the automated approval process.

And State Street, another longtime Box customer, recently rolled out Relay to their employees to enable them to digitize workflows as the company moved to a remote work environment. With Relay, less time is spent on manual workflows that were difficult to manage out of the office.

As organizations are adopting more cloud systems, customers are emphasizing the need for more integrations across applications. With our over 1,500 integrations, we continue to expand on our open and interoperable platform by creating a seamless experience for our customers. Last month, we announced a strategic partnership with Google Cloud to further expand upon our existing integration with G Suite, including additional features to create a seamless customer experience between our apps.

Our seamless integrations with applications such as Microsoft Teams, Slack, Zoom, Salesforce, IBM, G Suite and all the cloud applications in our customers' IT stack remain critical in strengthening our remote work strategy. Looking ahead, we have an exciting road map of innovation and enhancements that will continue to drive adoption and enable our customers to work in all new ways. And we'll be sharing some of these advancements at this year's BoxWorks on September 17, which will be an all-digital event for the first time ever. This year will be our biggest event with tens of thousands of attendees who will be hearing from an incredible slate of speakers, including Arvind Krishna, the CEO of IBM; Chuck Robbins, the CEO of Cisco; Cheryl McKinnon, a principal analyst at Forrester, the CEOs from Zoom, Okta and Slack, and customers, including Nike, Schneider Electric, USAA, Battelle, State Street and NetHope.

Now turning to our business model. Last year, we laid the foundation to improve our balance between growth and profitability for FY '21 and beyond. Our focus was on delivering growth more efficiently and implementing significant cost discipline in the business. In the first half of this year, we have clearly delivered on this commitment.

While the future macroeconomic impact of COVID-19 remains uncertain, we believe we are in a strong position to continue delivering long-term healthy growth with increased profitability. To drive efficient and consistent revenue growth, we will continue to execute on our multiproduct strategy and drive more efficiency into our go-to-market initiatives.

We are going after one of the largest markets in enterprise software, and our focus is on growing existing accounts by driving add-on product adoption and seat expansion with Box Suites as well as efficiently driving new logo acquisition in key markets.

To drive greater profitability, we are focused on 3 key initiatives: optimizing workforce expenses; improving gross margin; and taking an ROI-based approach to all areas of spend. We have implemented greater cost discipline across the business, and this is evident in our significant operating margin and cash flow improvements. With our rigorous approach to overall cost discipline, we are now committed to delivering 12% to 13% operating margin versus our previous goal of 11% to 12% for the full fiscal year, up significantly from 1% in FY '20. We laid the foundation to significantly improve our margins a year ago, and we are confident that our focus on efficient growth and cost discipline will continue to be an advantage in today's uncertain environment and in the future when COVID-19 is behind us.

Before I conclude, I want to take a moment to share some of our recent environmental, social and corporate governance initiatives, which has always been an important area for us. Some recent areas of focus for us include enabling our customers' business continuity as they moved to remote work; doubling down on our employee resource groups and events as well as values-based professional development courses by moving them virtual; giving to organizations that are working to make progress toward racial equality through our Box.org fund; and evolving our Board and management and maintaining strong corporate governance practices to enable us to drive accountability.

To conclude, our strong Q2 results further demonstrate the significant progress we've made in delivering increased value to our customers even during this time of uncertainty. By powering a new way to work for enterprises of all sizes, we are confident we will deliver increased value to stakeholders in both fiscal 2021 and beyond.

With that, I'll hand it over to Dylan.

Thanks, Aaron. Good afternoon, everyone, and thank you for joining us today.

As Aaron mentioned, we had a strong quarter with both revenue and non-GAAP EPS exceeding the high end of our guidance. We're seeing healthy expansion within our existing enterprise customers, stable customer retention rates and continued momentum in Suite sales. At the same time, we delivered significant operating margin improvements as we continue to focus on driving long-term profitable growth.

For FY '21, we are raising our expectations for non-GAAP operating margin to be 12% to 13% of revenue, 100 basis points higher than our previous expectations and up considerably from 1% in FY '20.

Let's now move on to our quarterly results. We delivered revenue of $192.3 million in Q2, up 11% year-over-year. 28% of this revenue came from regions outside of the United States, up from 25% a year ago and driven by continued strength in Japan.

Our remaining performance obligations, or RPO, represent noncancelable contracts that we expect to recognize as revenue in future periods. This metric consists of deferred revenue and backlog, offset by contract assets. We ended Q2 with RPO at $726.7 million, up 13% year-over-year. We expect to recognize approximately 65% of our RPO over the next 12 months.

Second quarter billings came in at $188.8 million, representing 9% year-over-year growth. As we mentioned on our last call, we still expect billings growth to slightly lag revenue growth for the remainder of FY '21. As a reminder, our billings outcome is impacted by a variety of factors, including payment durations and the timing of large renewals. Due to COVID-19 headwinds, this year, we also expect to see continued softness in our professional services bookings and our small business segments. Customer contract durations have remained stable. And even in the current environment, our customers continue to view Box as a critical component of their long-term IT strategies.

In Q2, we closed 64 deals worth more than $100,000 versus 68 a year ago, 3 deals over $500,000, which is in line with a year ago and no deals over $1 million versus 2 year ago. Looking at our pipeline, we are seeing stronger demand for 6-figure enterprise deals, and we expect to see solid year-over-year growth in our large deal counts in the third quarter.

We ended Q2 with an annualized net retention rate of 106% versus 105% a year ago and 107% in Q1. As you might expect, COVID-19-related dynamics, particularly in our smaller customers, could cause this metric to fluctuate over the course of this year. In Q2, our full churn rate was 5% on an annualized basis in line with Q1 and an improvement from 6% in the year ago period.

Turning to margins. Non-GAAP gross margin came in at 73.5%, up from 71.3% a year ago and 73.1% in Q1. Our focus on reducing infrastructure costs and gaining economies of scale is paying off. Q2 gross profit of $137.0 million was up 15% year-over-year, outpacing our revenue growth by 400 basis points. While the timing of certain infrastructure projects will create some quarterly variability, we expect this upward trend in gross margin to continue over the next couple of years.

During Q2, we once again successfully drove increased leverage across the business by executing on several of the cost and productivity initiatives that we identified entering this year. Total Q2 operating expenses represented 58% of revenue, a substantial improvement and reduction from 71% a year ago. As a result, in Q2, we generated a 1,500 basis point improvement in our non-GAAP operating margin year-over-year, coming in at 15.6% versus roughly 0% a year ago.

Sales and marketing expenses in the quarter were $57.1 million, representing 30% of revenue, significantly down from 41% in the prior year. We are seeing success in achieving higher overall sales productivity driven by improvements in our enterprise segment and the reallocation of resources into higher-performing regions. We're also generating increased marketing leverage by shifting our focus towards more efficient digital channels.

Research and development expenses were $35.8 million or 19% of revenue, down from 20% in the prior year, even as we continue to further differentiate our platform in Q2 with offerings such as automated malware detection capabilities and controls in Box Shield and an all-new Box experience.

We are on track to open our first engineering center of excellence outside the U.S. in the back half of this year in Poland, which will contribute to our ability to scale our R&D investments more efficiently going forward.

Our general and administrative costs were $18.4 million or 10% of revenue, in line with a year ago. We expect to drive leverage in G&A through greater operating discipline and automation as we scale.

Non-GAAP EPS came in at $0.18 compared with 0 cents a year ago and well above the high end of our guidance. $0.17 of this year-over-year improvement came from the 1,500 basis point improvement that we delivered in our non-GAAP operating margin, with the remaining $0.01 coming from foreign exchange rate benefits.

Let me now move on to our balance sheet and cash flow. We ended the quarter with $272.4 million in cash, cash equivalents and restricted cash. Cash flow from operations was very strong at $32.3 million in Q2, a $37 million improvement from negative $4.7 million a year ago.

Combined CapEx and capital lease payments were 9% of revenue in Q2. Total CapEx was $2.7 million versus $1.6 million a year ago. Capital lease payments, which we factor into our free cash flow calculation, were $14.2 million versus $10.0 million a year ago. This year-over-year increase reflects higher capital lease liabilities from a migration to lower-cost data center locations. We expect CapEx and capital lease payments combined to be roughly 8% of revenue in Q3, and we still expect this to be roughly 8% of revenue for the full year of FY '21.

As a result, we delivered free cash flow in the second quarter of $13.3 million, a significant $32 million improvement from negative $19.0 million a year ago.

With that, let's now turn to our guidance. Our revenue guidance reflects our expectations of seeing continued strength within our enterprise customers while also accounting for the softness we expect from smaller business customers and our professional services business in this uncertain environment.

For the third quarter of fiscal 2021, we anticipate revenue of $193 million to $195 million, representing approximately 10% year-over-year growth at the midpoint of this range. We expect our non-GAAP EPS to be in the range of $0.13 to $0.15 and GAAP EPS in the range of negative $0.10 to negative $0.08 on approximately 163 million and 157 million shares, respectively.

For the full year of fiscal 2021, we are raising our full year revenue guidance. We now expect our FY '21 revenue to be in the range of $767 million to $770 million, representing roughly 10% year-over-year growth at the midpoint of this range. We are also raising our full year EPS guidance by 15% at the midpoint of the range. We now expect our FY '21 non-GAAP EPS to be in the range of $0.56 to $0.60 on approximately 163 million diluted shares. Our GAAP EPS is expected to be in the range of negative $0.39 to negative $0.35 on approximately 156 million shares. We expect our non-GAAP operating margin to be in the range of 12% to 13% of revenue.

Based on our revenue guidance and strong free cash flow generation, we remain committed to achieving a combined revenue growth rate plus free cash flow margin of 25% in FY '21.

In summary, in Q2, we delivered strong financial results in a dynamic and challenging environment, highlighted by operating margin of more than 15%. Our product innovation around remote work, large market opportunity and resilient business model put us in a strong position to deliver healthy long-term revenue growth and profitability improvements as we continue to build on our leadership position. We look forward to further discussing our strategy and our resilient business model during our virtual investor breakout session at BoxWorks Digital on September 17.

With that, I would like to open it up for questions. Operator?

(Operator Instructions) And your first question comes from the line of Josh Baer from Morgan Stanley.

Congrats on the strong quarter. Cash flow was very strong this quarter. I'm just wondering if you're still seeing a shift toward quarterly billings from customers. And if so, if there's any way to quantify that impact for either this quarter or expectations for the year.

Sure. So as we mentioned on our last call, we do expect to see a bit of a shift, which drives the commentary we expect billings growth to slightly lag revenue growth for the remainder of FY '21. So our expectations have been pretty consistent with what we laid out on our last call. I would note that we are seeing that dynamic a bit in terms of the payment durations, particularly with some of our smaller customers, although it was not a material impact to our overall payment durations in the second quarter and would also note that primarily the free cash flow outcome -- the strong free cash flow outcome and cash from operations performance that we put up in the second quarter was more driven by a lot of the renewals and customer payment duration that we have seen in earlier periods.

Got it. If I could just sneak in one more. I believe you touched on this a little bit, talking about the med school customer but was wondering if you have any additional insights in Q2, in the performance of the new sales program for the enterprise-wide license agreements that should help customers expand wall to wall.

Yes. Josh, this is Aaron. We are starting to see more momentum with the ELA program. It's something that we've had kind of renewed interest in from the customer base right now, especially as companies want to be able to go more wall to wall. Q2 is really when we kind of kicked that off in earnest. And so it's becoming a greater focus of our sales motion, both to be able to sell Suites across the enterprise as well as being able to sell core Box as well. But the ELA program is really, more than anything, a way for customers to be able to deploy Box across their enterprise and us to simplify the sales motion and contracting motion to be able to do that. So we're seeing emerging momentum. It's still pretty early days, but we call out one of the examples. We had many others in the quarter, but it was great to see one of our long-time customers elect to go to an ELA with us.

And your next question comes from the line of Phil Winslow from Wells Fargo.

Congrats on another great quarter. Dylan, Aaron, last quarter, you called out record upload volumes and just activity trends on the platform. Wondering if you give some color on just sort of what you saw this quarter. And also one of the things you did talk about in Q1 was sort of the extended burst capacity for some customers that needed to -- that needed sort of the extra receipts to handle the shift to work from home. I wonder if you could give us a sense of a conversion of those users. Are they still in the pipeline? Just sort of what you're seeing. And then one quick follow-up after that.

Yes. Great. Great question. So I think from an activity standpoint, that initial first wave of everybody moving to remote work really kicked off in the middle part of Q1. So by Q2, I think we saw kind of normal kind of seasonally driven activity levels, so sort of steady activity on the platform that was off that new baseline from that increase and healthy activity overall in terms of product adoption, usage of our new collaboration features, as I mentioned in the earlier conversation. We launched a bunch of new features that really help customers better collaborate, better organize their share, their content on Box. So we're now focused on really driving the adoption of the all-new Box, which we're seeing early signs of having some very, very kind of sticky and enhanced features that we're super excited about. So that's on the activity front.

In terms of monetizing that burst of usage, as we kind of talked about in the last call, that was sort of modeled into our guidance of where we thought the deals would come from. And overall, I think we've been very happy about the customers that have elected to expand their usage of Box over the past quarter. So definitely a quarter driven by expansion of seats as well as our Suites within existing customers. The number of 100,000 deals, up about 60% quarter-over-quarter, so showing kind of just healthy volume of customers electing to go broader with Box.

Got it. And then also just a follow-up on go-to-market. Obviously, you've had some new leadership there over the past year. Wondering if you could give just an update on how you feel about just, call it, your go-to-market capacity, just sort of your efficiency. Just any sort of update there would be great.

Yes. I think in general, we're really happy with the leadership team that we have in place. It has evolved over the past couple of years to make sure that we're well aligned with the model that we're pursuing right now, both how we want to drive a really efficient engine at the core of the business as well as drive a land and expand motion within customers of all sizes. So I think we've got an incredible team on the field right now at all layers of management across go-to-market.

And then what we did kind of at the tail end of last year that we obviously talked a lot about in coming into this year was making sure that when we looked at territories, when we looked at sales segments, that we felt like we were making the right investments in markets that were going to be most productive, where we had healthy, existing customer traction that we can go drive upsell as well as regions or territories where we felt very confident in the demand in Box. And so a lot of that shifting happened in the early part of the year. Obviously, well time kicking off this year where we could go and drive a lot of expansion within the customer base. And I think that motion is now playing out really nicely across the sales force.

Yes. And then to add to that, we are certainly seeing this have a pretty significant impact on the overall leverage that we've been able to drive across go-to-market with sales and marketing spend kind of down 11% year-on-year as a result of a lot of the changes that we've talked about. At the same time, we've been pretty pleased in terms of the sales productivity improvements that we've seen, particularly with enterprise sales productivity, which in the first half of this year was up about 10% year-on-year, and that's been driven by strong customer expansion as well as the reallocation of resources into higher-performing regions. So that segment of the business is performing very well for us even in this environment.

And another area that we've been really pleased with, both the productivity as well as the efficiency, is around the efforts and the investments we've made in our digital selling across the customer base, really revamping that edge in, and that's allowed us to generate increased marketing leverage by shifting a lot of our focus and energy into these more efficient digital channels as well.

Our next question comes from the line of Brian Peterson from Raymond James.

I'll echo my congratulations on the strong results. So Dylan, you made a comment on the third quarter, expectations that on the pipeline that the enterprise numbers or at least the deals look pretty favorable, at least in the third quarter and potentially in the back half. Any color on what gives you guys the confidence in that?

Sure. So as mentioned, we are seeing healthy pipeline and do expect to deliver solid growth in terms of those 6-figure deal counts in the third quarter and really seeing that strength across all of the categories of deals that we talk about. And a lot of it is just some of the -- because of some of the kind of additional rigor and process improvements that we put in place over the last several quarters, we have been able to drive much more predictable kind of forecasts and pipeline management. And so that's what gives us the confidence, already seeing some of the deals that are coming in throughout this quarter as well as just the general conversion rates and predictability that we see. And on top of that, would note -- and most of that is driven by the healthy enterprise demands that we called out.

And then the other note I'd make just as it relates to the big deal counts and big deal dynamics, even though those overall counts in the second quarter weren't where we would have liked, we have seen an increase in the average contract value of these 6-figure deals. So in the second quarter, that was up more than 10% year-on-year, which helped drive the Q2 RPO and billings outcomes.

Got it. That's great color. And maybe one for Aaron. Just on Relay. I know that's been a big product for you guys. Any feedback or any usage? I know that can be used through a lot of different processes, but I'd be curious what you've learned and what you've seen from customers as they're looking to deploy the product.

Yes. So I think as we -- as our initial thesis that we had going back a couple of years now, why we got into the workflow space is playing out, the core IDN premise was you have so many workflows right now that are happening inside of e-mails. They're happening in paper-based processes. They're happening in legacy document management systems. And there really hasn't been a simple, highly usable, scalable solution for being able to automate those types of processes. So things like document review and approval, digital asset review and approval, being able to onboard customers or partners in a very streamlined way. So the launch of Relay now about a year ago as well as the addition of that in our Suites as well as some of the new features between our template gallery as well as some of our file request features that let customers and partners submit content to our clients in a very simple and automated fashion, those types of use cases are now really playing out in a healthy way.

So we're seeing customers in highly regulated industries begin to adopt Box Relay because they want to be able to have auditability of their workflows. We're seeing customers that previously maybe wouldn't have normally gone out and purchased a separate BPM solution or kind of heavy-duty workflow solution. But because it's built directly in the Box, they can now go and automate more of their processes.

So I think as we go into the second half of this year and next year, our whole strategy really revolves around this idea that companies are going to want to have one platform that brings together their content management, their collaboration, their workflows in a secure way, integrated with all of their apps. And we're now seeing more and more of that demand begin to play out as customers sort of zoom out from just the initial remote work push and focus more on the long-term business process optimization and workflow automation that they need to be able to drive in their enterprises.

Your next question comes from the line of Mark Murphy from JPMorgan.

It's Adam Bergere on for Mark. Congratulations on another great quarter. So my first question is, is there any commentary you guys can provide on upsells versus selling to new customers? I believe last quarter, you mentioned this was, I think, 70% of bookings came from existing customers.

Yes. So I mean, overall, I'll give you the kind of customer dynamic in general. And I think we are -- we're certainly benefiting in this environment from now reaching 100,000 customers globally on the platform where we have a significant installed base that still has, in many cases, limited penetration of Box, where they're using us in certain departments, they're using us for secure file sharing or collaboration, but now they want to be able to automate workflows, and they want better data security. So we're seeing a very, very healthy increase in our existing customer expansion, especially in the enterprise segment. But now coming into the second half, the pipeline is looking strong on our kind of SMB business overall. And this is really happening across the board, certainly more predominantly in industries that maybe are less impacted by COVID, but -- financial services, health care, life sciences, certain digital technology companies and some select retailers and consumer brands. But overall, just very healthy expansion rates again from the customers that are growing right now, and we're seeing nice pipeline in the second half as well for that.

Got it. Appreciate the detail there. And just as a quick housekeeping question. Is there any update on how the number of paying users trended this quarter?

Yes. We did see a healthy growth in the number of paying users. I believe we added about $0.5 million of paid users in the quarter. And if you're talking about seats, that is where that was up about 500,000 to 14.5 million overall paying users. And then from a paying customer count, we now have more than 100,000 paying customers, which is up about 2,000 quarter-on-quarter.

Your next question comes from the line of Rishi Jaluria from D.A. Davidson & Co.

Nice to see some continued strong execution and margin expansion. Wanted to maybe drill a little bit into the margin expansion that you saw both on the operating margin and on the gross margin. And that is to what extent -- or how much of a benefit are you getting from effectively having $0 of T&E? And maybe looking forward to post-pandemic when hopefully things are back to normal, the ability to get on planes and travel is there, how long-lasting do you see these cost savings? Do you expect more of a shift to kind of remote and virtual selling? And I think kind of same question apply to the gross margin line, right? I'm sure you're getting some benefit from infrastructure improvements, as you mentioned, and I'm sure a little bit of benefit from not having to do on site professional services. So maybe kind of walk through your philosophical thoughts there. And then I've got a follow-up.

Sure. So what I'd say in terms of the expense side and the overall impact, as a reminder, prior to COVID, we had expected our operating margins for this year to be in the 9% to 10% range of revenue. We now expect that to land in the 12% to 13% range. So of this 3% improvement annualized, a little less than half of that is driven in the areas directly impacted by COVID. That includes T&E facilities and marketing events primarily, whereas a little more than half is coming from strong execution against the cost and productivity initiatives that we've been focused on, particularly around workforce expenses, gross margin and overall cost discipline.

And while we do expect some of these areas to come back once we get through the current environment, I think because of the results we've seen, even on a go-forward basis, once we get into the new normal, we don't anticipate travel and events or some of the areas around marketing spend to fully return to the pre-COVID level. So we do expect to see durable savings just given how effective we've been able to run in the current environment.

And then in terms -- and I think from a duration and all of those things for when that'll start to show up is probably largely dependent on the overall macro environment. And then as it relates to the gross margin, there actually has not been any sort of material impact in terms of those expenses because of the current dynamics of the pandemic.

Okay. Got it. And then just to go back to the 6-figure deals. So down slightly year-over-year. And I know, Dylan, you had said you wanted that number to be higher, but also expect Q3 to come up year-over-year versus Q3 of last year. Just was there any impact on that number being down year-over-year because of a shorter duration of deals in this environment versus in Q2 a year ago? And maybe help us understand what is it that's giving you confidence that, that number is going to increase in Q3, both year-over-year and sequentially?

Yes. This is Aaron again. I think -- in general, I think we're very happy about the 100,000-plus deal metric, 60% growth quarter-over-quarter, which I think is more reflective of kind of the current environment and kind of comparing the demand at the start of the year to where we are now. Obviously, on a year-over-year basis, the years are completely different in terms of just the environment and various industries and segments that have different dynamics at play. But overall, we're seeing very strong pipeline.

There are some specific instances where you might have kind of customer decision-making dynamics in an evolved way. And so some of those deals kind of coming from Q2 into Q3. So we're seeing some of those deals get closed and play out nicely. But overall, I think when we look at the pipeline, for the second half of the year, when we look at the year-over-year growth even on that 100,000 plus metric, we feel pretty confident that we're going to be able to put up growth from here and again continue to put up strong results overall on the customer expansion that we're driving.

Your next question comes from the line of Chad Bennett from Craig-Hallum Capital.

Great. So it looks like -- and you guys indicated that churn stabilized roughly 5 percentage points this quarter and last quarter. And you talked about healthy expansion in the base, probably, like you said, due to the circumstances we are in right now and Suite adoption. I guess if you look at -- and I realize everything is kind of trailing 12 months. But if you look at net retention that ticked down a touch, I guess, the 106% from 107% sequentially, I guess, should we expect that number in the second half to kind of reaccelerate as again we monetize kind of the users and Suite adoption becomes more prevalent? And like Dylan said, your 6-figure count in third quarter grows healthy. Just kind of how you think about both churn going forward and net expansion going forward or retention, however you want to put it, for the second half of the year would be great.

Sure. So we'll start with -- on the churn front. As you noted, that remains strong and stable even in this environment, coming in consistent with 5% on an annualized basis where we were last quarter and a bit better than where we were a year ago at 6%. And we do expect that metric to be -- to continue to be stable going forward. But as you might expect, with the COVID-19-related dynamics, particularly in our smaller customers, that is having somewhat of an impact on the expansion rate, and that could cause the overall net retention metric to fluctuate over the course of this year. So that is -- has created some pressure, particularly in those customers and ultimately in terms of where things shake out this year, we think, is going to be more a function of that expansion.

So we do expect that our net retention rate is going to end this year above where we ended FY '20, but -- at 104% is where we were. So north of that. But ultimately, the dynamics around expansion and kind of the timing of the recovery that we see in some of these segments that are more challenged as well as the tailwinds on the enterprise are what's going to drive that net retention metric for the balance of this year.

Okay. And then maybe one quick follow-up just on that, Dylan, is so -- and maybe this is an obvious answer also. But should Suite adoption be a tailwind for your net retention rate?

So what I'd say is, yes, absolutely, to the extent that the adoption of Suites drives customer expansion. And in a lot of cases, as Aaron mentioned, we see that actually kind of streamline and, in many cases, increase the upsells that we see with our customers. Suite adoption, alongside just general adoption of -- especially of some of our newer products like Shield and Relay will absolutely be a factor in that customer expansion rate.

(Operator Instructions) And your next question comes from the line of Brett Knoblauch from Berenberg Capital Markets.

Congrats on the quarter. Just one question for me here. I know you guys increased your non-GAAP operating margin target from -- or to 12% to 13%. When I look at the first half margin profile there, you got at around 12.5%, 12.6%. And you're not really expecting any sequential improvements for the remainder of the year. I guess is there anything in that? Are you guys planning on any incremental investments? And maybe if you could just help me with that dynamic.

Yes. So I'd note there that the same dynamics that we've been seeing that have allowed us to increase and make those significant increases and improvements in operating margin and non-GAAP EPS throughout the course of the first half of the year, particularly in the second quarter, we do expect to hold. So as, mentioned -- for those to hold true for the balance of the year, I would note that there is some seasonality that we see in certain line items of expenses. So if you look at historically, we generally do see slightly lower margins in the third quarter versus the second quarter, for example, and then there are other dynamics around different components of areas like Salesforce compensation. So the expenses do -- certain categories of expenses do fluctuate a bit.

But overall, we would expect to see the continued improvements in our bottom line trajectory. And while we will be making investments, particularly in the go-to-market areas that have really been performing well and showing productivity gains as well as continued investments in areas like our engineering team, you can expect to see us make those investments throughout the back half of the year, but at the same time, continue to drive leverage through all the different areas that we've mentioned. So we do expect to continue that trajectory of strong operating margin improvements as we move through the back half of this year and into next year.

And there are no further questions at this time. Alice Lopatto, I turn the call back over to you for some closing remarks.

Thank you, everyone, for joining our call today. We look forward to speaking with you again on our investor breakout session at BoxWorks Digital on September 17. Please note our start time for the event will be at 2 p.m. Pacific, and BoxWorks Digital will be an all-day event. Thank you again for your time today, and we look forward to speaking with you again soon.

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