8x8 Inc (EGHT) 2011 Q2 法說會逐字稿

Good day, ladies and gentlemen, and thank you for standing by, and welcome to the second-quarter fiscal year 2011 8x8 Inc. earnings conference call. At this time, all participants are in a listen-only mode. Later we will conduct a question and answer session, and instructions will follow at that time. (Operator Instructions). As a reminder, this conference may be recorded.

And now I will turn the program over to Joan Citelli, 8x8's Director of Corporate Communications. Please go ahead.

Thank you and welcome, everyone, to our call. Today I'm joined by 8x8's Chief Executive Officer and Chairman of the Board, Bryan Martin, and 8x8's President and Chief Financial Officer, Dan Weirich, to discuss our results for 8x8's second fiscal quarter ended September 30, 2010. If you have not yet seen today's financial results, the press release is available on the Investors tab of 8x8's website at www.8x8.com. Following our comments, there will be an opportunity for questions.

Before I turn the call over to Bryan, I would like to remind all participants that during this conference call any forward-looking statements are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Expressions of future goals, including financial guidance and similar expressions, including without limitation expressions using the terminology may, will, believe, expect, plans, anticipates, predicts, forecasts and expressions which reflect something other than historical fact are intended to identify forward-looking statements. These forward-looking statements involve a number of risks and uncertainties, including factors discussed in the Risk Factors sections of our annual report on Form 10-K and our quarterly reports on Form 10-Q and in our other SEC filings and Company releases. Our actual results may differ materially from any forward-looking statements due to such risks and uncertainties. The Company undertakes no obligation to revise or update any forward-looking statements in order to reflect events or circumstances that may arise after this conference call except as required by law.

Please note that management will be continuing our corporate practice of not offering or providing any forward-looking guidance on the Company's financial results, forecasts or similar future expectations, and your cooperation is appreciated in not asking any questions in this regard.

Thank you. And with that, I will turn the call over to Bryan Martin, Chief Executive Officer and Chairman of the Board of 8x8.

Thank you, Joan, and good afternoon, everyone. I'm very pleased to report that 8x8 continued to generate all-time record revenue for the second quarter of fiscal 2011 ended September 30, 2010 as we saw strong metrics across all of our business service offerings. Total revenue for the quarter of $17.4 million was the highest quarterly revenue in the history of the Company. This achievement was coupled with net income of $2 million, the highest quarterly net income we have reported as a publicly traded entity.

The Company's operating margins also grew to 11% for the September quarter, demonstrating the increasing leverage we have in our business model as we grow our revenue.

Part of our success this quarter was due to an improvement in the churn rate of our services. We saw record low churn of 2.2%, down from 2.5% churn in the prior quarter and 2.7% churn in the same period a year ago. We attribute this improvement to our obsessive efforts toward initial customer satisfaction, including ease of plug-and-play, simple activation and self-provisioning. All of these improvements are the results of our stellar efforts in research and development. Our sales results are a function of any improvements in the products and services coming from R&D, as well as the customer support, quality and reliability of our services in the field.

During the quarter our enterprise group won and installed a second government contract with our teaming partner to provide voice services to the Administration Conference of the United States or ACUS. The ACUS was created in 1968 as an independent agency of the federal government for the purpose of developing recommendations to improve the fairness and effectiveness of the rulemaking, adjudication, licensing and the investigative functions of federal agency programs. We saw our subscriptions with the Federal Maritime Commission -- another government customer -- expand, and we also added five new large customers via our enterprise sales efforts.

Some of these new customer announcements will be forthcoming this quarter as their services are deployed and accepted, and we gain permission from these customers to jointly announce their selection of 8x8 for their cloud-based communications and computing solutions.

Overall our enterprise and government customers contributed 3% of total new monthly recurring revenue added during the quarter as compared to approximately 2% of total monthly recurring revenue for the June quarter.

Our managed hosting sales team contributed 8% of new monthly recurring revenue during the quarter as compared to approximately 2% in the June quarter.

At the end of the September quarter, we had 22,167 business customers in service, up from 18,199 customers a year ago. Our overall new business customer acquisition cost was slightly higher than in past quarters at approximately $826 per new business customer, largely due to increased subsidies that were applied to our mid-range IP telephones during the quarter in order to discount these phones down to levels that were required to win new primarily small deals. We depleted our supply of low-end IP phones and analog telephones from two manufacturers during the quarter and are working on transitioning our product line over to new products manufactured by Polycom at both the low-end and the high-end of the IP endpoint market.

On October 13 we announced our new partnership with Polycom, and on October 12 we began shipping new Polycom equipment at the low-end of the product price spectrum. We expect this shift to restore our product margin to historical levels and lower the per business acquisition cost for these smaller customers. We believe that Polycom equipment is providing some of the industry's best high-definition voice and video solutions at some of the most affordable prices, and we're very excited to get this partnership into high gear.

On October 4 we announced the second generation of our hosted unified communication services, including a new 8x8 softphone offering that can run in any flash-enabled web browser to completely eliminate the need for a physical desktop IP phone. We believe that many of these very small businesses will adopt software only solutions to save on initial subscription costs, as well as promote greater mobility which would in turn further improve our product margins at the low end of the market. This is the first time in 8x8's history where we have not required a voice customer to purchase at least one hardware endpoint from us in order to utilize our virtual office services. We're excited at the transition that this represents for the hosted voice and unified communications industry.

8x8 put some of this excess cash to work during the quarter by buying back approximately 1.6 million shares of EGHT stock at a total cost of approximately $2.7 million as of September 30, 2010. We did not repurchase any shares on the open market month to date in October. We ended the quarter at September 30 with $17.9 million in cash, down approximately $217,000 from our cash balance at the beginning of the quarter. Given the current interest-rate environment, we continue to believe that buying back our stock on the open market is one of the best uses for our excess cash. And we announced today that our board approved a new stock share repurchase plan authorizing the Company to repurchase up to $10 million of its outstanding common stock. Approximately 2 million shares have been repurchased by the Company between July 2009 and September 30, 2010.

With that, I am going to turn the call over to Dan Weirich, the Company's President and Chief Financial Officer who will walk you through our detailed financial results, provide additional information regarding our business, and then after that, we will take any questions you may have.

Dan?

Thank you, Bryan. Total revenue for the six-month period ended September 30, 2010, was $34.2 million, an increase of 8% compared to revenue of $31.6 million for the same period of fiscal 2010. Net income for the six-month period ended September 30, 2010, was $3 million, an increase of 71% compared to net income of $1.8 million for the same period of fiscal 2010. This is the 11th out of the past 12 quarters we have generated net income.

As we have discussed for some time, we have tremendous leverage in our business model with the large percentage of each additional dollar of revenue falling to the bottom line. Between the second quarter of last year and the second quarter of this year, we increased revenue by $1.3 million and operating income by nearly $600,000. The flow-through of 42% at the additional revenue falling directly to the bottom line illustrates this leverage.

Gross margin was 68% in the quarter compared to 67% in the same period a year ago. Service margins were 78%, and product margins were negative 57%. Average monthly service revenue per business customer was $209 in the September quarter, up from $201 in the September 2009 quarter.

Our advertising expenditures totaled $1.3 million for the quarter versus $2 million in the prior quarter and $1.1 million in the same quarter a year ago. The Company's $2 million of net income includes $56,000 of stock compensation expense and a $9000 non-cash benefit to account for the change in the fair value of our warrant liability.

Depreciation and amortization during the quarter was $326,000. Capital expenditures for the quarter were $450,000. A copy of the cash flow statement is included with the earnings announcement this quarter.

In the second quarter in the six-month period ended September 30, 2010, 8x8 generated $2.2 million and $4.3 million of net cash from operating activities. In the six-month period ended September 30, 2009, the Company generated $361,000 of net cash from operating activities. As of September 30, 2010, total shares outstanding were 62.6 million -- sorry, total shares outstanding were 62.6 million, and total shares fully diluted, including stock options, stock purchase right to award grants and warrants were 74 million shares.

The fully diluted share count includes 1.8 million warrant shares with a strike price of $3.00 and an expiration date in December 2010.

That concludes my prepared remarks, and I will now turn the call back over to Bryan.

Thank you, Dan. For your reference and convenience, we have posted as we always do a transcript of our prepared remarks on the Events & Presentation section of 8x8's Investor website at investors.8x8.com.

We're pleased to announce that 8x8 was awarded its second consecutive Technology Fast 500 Award last night at an awards dinner hosted by Deloitte, recognizing 8x8 as one of the 500 fastest growing companies in North America.

We will be presenting on November 4 at the Moss Adams Telergy Conference in Sonoma, on November 9th at the AeA TechAmerica Classic Financial Conference in San Diego, and on November 17 at the Deutsche Bank conference in Palm Beach. We hope to see you and meet you at one of these events.

With that, we will now be happy to take any questions you may have. Huey, please open the lines for any questions.

(Operator Instructions) Mike Crawford, B. Riley & Co.

Thank you. First, it's only been a couple of weeks since your VO Pro 2.0 became available, but have any customers taken you up already on the soft client only for the full feature service?

It's still pretty early in the sales cycle for that product. But we're in kind of the small numbers or subscribing to it to date with no telephone. So still, we rolled it out on October 4, I believe, so it is still quite early.

Okay.

My guess is that that option will mainly appeal to very small businesses that might by the very nature of their business be mobile anyway, someone like a real estate agent that is primarily driving around all day and is never really in the physical office or a salesperson that might have the same thing.

But I think it is a great option to have as well for the larger businesses, you know, larger or smaller businesses that are in this economic climate whereby they have been balking on the cost of switching because up until now we have required you to buy a device from us and put that around your office. And so that requirement has been lifted for some of the employees in your office. If you don't need a phone on every desk, this is certainly a very viable option.

Okay. And maybe Bryan and Dan further in that regard, do you think now that you are able to ship these Polycom phones in this quarter that you would expect your incremental [sack] to decline a little bit or is it hard to say?

Yes, I would expect that. We looked at the effect, and I tried to convey that in our comments that we were effectively at the very low end of the kind of price point. The phones that we are selling for typically something in the range of between $50.00 and $100.00 per telephone. We were effectively selling a much more expensive phone and just discounting it down because we didn't have any other options to provide to those subscribers.

We've only been selling the Polycom phones for literally since October 12, but I can tell you they are selling very well, and that is fulfilling that need down there. And again, we don't have a lot of customer feedback, but I have zero negative customer feedback on the phone so far.

So I think we will be able to provide a good update, and as we mentioned, we have plans to kind of expand and roll out additional devices through this quarter. So I think when we get to the call in January, we should be able to give you a pretty good picture of how that is performing for us and what effect it is doing to improve that product margin.

Okay. Thank you. A couple of more quick ones, if you don't mind. One, are there any metrics you can give us on Central Host, how that is performing compared with your expectations?

Do you want to comment?

In the script it represented 8% of our new monthly recurring revenue sold during the quarter compared to 2% in the first quarter. The first quarter only had two months of the business, but it is tracking to plan, it's growing, and it has been accelerating.

We've invested -- I don't think we've released this, but we've very recently had an opportunity to take over some space in a data center, a very large space about 900 square feet that was vacated by a company that went out of business. And we're planning on utilizing that completely for these managed hosting customers. So we're expecting some very good things out of that business.

Okay. Thanks. So, more strategically or bigger picture, you have this VoIP industry where there's a number of players now that look like they have viable business models. So that is certainly helping everyone. But what, if anything, keeps you awake at night worried about what might change going forward that would change these dynamics where you are continuing to add these 300 or so businesses every month at very attractive economic value to the Company.

I think that's a great question, and we've talked a lot in the last quarter about the provisioning model and how we've completely, you know, from the ground floor up rebuilt the entire foundation of how a customer comes onto our service, what that flow cycle looks like. We've gotten religious about constantly monitoring our customer satisfaction metrics, and so I think you're beginning to see the results of a lot of that work. And we're continuing to see those customer satisfaction metrics improve as we incrementally improve these processes.

But we're not done. I think one of the highest priorities here in the Company is to continue to iterate and improve further. We're doing some massive overhaul of our local number porting processes right now that our new customers will start to see the benefits of in a few weeks. And we're just continuing to try to iterate and make our services that much easier to install and operate and really just start the flood gates going to get a lot of customers who may have never even thought about using their Internet connection to run their business voice service to get those customers on board and into our service with a very good experience so that they can tell all their friends about it.

And so I can tell you that I think every executive here is tasked with that project at a macro level, and we are encouraged. It's kind of like you go on a diet and you get those first five pounds off, and then you are really into the diet. In our case we made these improvements. We thought we would see very tangible improvements. We're seeing that in churn rate. We are seeing it in the customer satisfaction. So now we are -- we were overzealous before, but now we're just focused like a laser on continuing that improvement so that we can get this churn number cut down again.

Okay, thanks. Last question relates to scale, what is it that 8x8 has that enables you to provide a robust service that is so scalable when others like some of these companies we saw at that IT Expo a couple of weeks ago and even Google with their Google Voice seemed to be running into difficulties with once they try to scale up the service? That's my last question.

From my perspective, Mike, it's very simple. We've developed and own and have patented all of the software that makes our services run. We're not perfect. When we introduce a new product, we have bugs in it. But we go and work all night and get those bugs fixed and get those customers up and running. And I think a lot of the innovation you're going to see in this space as kind of these cloud concepts become more entrenched in how businesses do their everyday business or they are going to be driven by companies like 8x8 that are developing that software. We are not just repackaging someone else's software and putting our name on it. We're actually developing it from the ground up.

So, if the service does not work, the blame lies here. And if the customer comes to us and needs a new feature, there's no reason -- it is all software here. So anything a customer wants, we can develop and deliver to them. And I think you're just starting to see us pull away from the masses who do not have that business model working in that way. They're tending for the most part to resell someone else's stuff.

Thank you.

Mike Latimore, Northland Capital.

Nice job on the quarter there. In the past you've given some break out between economic and noneconomic churn, do you have any of those data points?

Yes. So, in this most recent quarter, the cancellations due to economic-related reasons was up a bit. It is represented approximately 44% of our total cancellations. I say up a bit relative to the June quarter.

Right, okay. And where do you I mean assuming there is some economic churn always there, where do you think the churn can -- what is the optimal churn level?

I think we have said for quite some time we think that our model 2% is optimal. But, as Bryan was just discussing, we've made great strides recently, and we're definitely shooting for a number below 2%.

And yes, on the economic churn, I mean I just don't think we can predict it. I think one of the things we saw in December last year, Mike, was a lot of businesses for tax reasons deciding they wanted to shut down and not roll into the next tax year. And so everything I read in the headlines, it sounds like we can see some of that effect again in the December quarter.

And then historically you said you're not going to -- you didn't want to go over $800 in acquisition costs. Is that still kind of the goal? I know you are over a little bit because of these subsidies, but is that still kind of the goal to be in that range?

Yes, I mean I would say that the goal. I would say when we tabulate the metric at the end of the quarter, I can tell you I saw the number once we calculated it, and I was kind of disappointed we had once again kind of breached that level. I don't think I'll be satisfied unless we can get that acquisition cost back down under that level.

I think last quarter we did a lot of experimental advertising, in which we really fine-tuned and optimized and didn't spend nearly as much on experimental. We kind of plowed the money into things we knew were working with some of the new approaches we were doing. Things like direct mail we continue to do.

But this quarter, if I look at really why it overshot, you can see the advertising spend was down quite significantly. But I would put most of the blame on this low-end hardware subsidy where our sales people didn't have access to an appropriately [costed] product to provide those low-end price points to customers, and we've rectified that as of October 12, and the December quarter, that should not be an issue.

And are there any new marketing initiatives that you're going to undertake here. I think some of these traditional media routes or the experimental routes were maybe not successful. I guess are there new areas that you're going to look at, and do they have any costs associated with them, or is it just the shifting of dollars?

I think primarily shifting of dollars. We do have new initiatives, and I'm going to be very tightlipped about what they are. Because I did notice some of our smaller competitors after we jumped into radio. I heard a couple of other radio ads appear.

So we don't only league in the technology side. I think we lead in sales and marketing and customer service. I think I'm going to stop broadcasting a few of our winning strategies quite so loudly.

Bryan Horey, Aurelian Management.

Thank you for taking my question, and congratulations on the quarter. I was wondering if you could give me a few housekeeping items. How many quota-carrying reps do you have at this point?

66.

And what was headcount?

Headcount was 256. That's right.

And can you make any comment on kind of the trajectory of churn or revenue in the residential side of the business this quarter?

So, Bryan, you've known this story for quite some time. So you would recall three years ago we signed up roughly 25,000 of these SunRocket customers, and 60% of those subscribed to annual plan. So we renewed those remaining annual plan customers this quarter. So we are tending to see still like a 72% to 75% renewal rate of those customers. It's been fairly constant over the last couple of years.

So we did see a little step down in the revenue because of that. Because in the way you recognize the revenues, you take the cash up front, you recognize it over the subsequent 12 months, and so the renewal rate of that we were saying essentially call it a 25% step down on that revenue. But the churn rate we're starting to see on the residential side has been moderating a bit. So we're seeing I would say overall kind of adjusting for this seasonality related to the annual planned renewals we just experienced. We're starting to see the rate of decline moderate.

Okay. Can you talk a little bit about the -- add a little more color on the enterprise sales efforts. How many reps do you have in that effort now, and what are you seeing in terms of the pipeline build and any other color you can provide in terms of size of accounts that you're looking at and the length of the sales cycle, and just what does that process look like now that you guys have been added for six or nine months?

Our enterprise group there are two quota-carrying salespeople as of the end of the quarter and approximately six total people in the organization, including sales engineers as well who are not quota-carrying and kind of product manager type people.

The pipeline looks pretty good. The sales cycle is longer than we would expect. The size of the opportunities are on average above $2500 a month. We have roughly a little more than 50 customers in that category today. So you could just kind of -- we mentioned today that we signed up five new ones in the most recent quarter. So we have since added another head to this group since the end of the quarter. We are looking to add additional people here.

(inaudible - microphone inaccessible)

But I think the answer to your question is that the sales cycle is pretty long. The opportunity is there, but it's still quite small.

The churn rate of businesses we win continues to basically be zero, so that's the one good thing. I would say the last few installations, as we mentioned, you know we're in the process of getting clearance to press release some of these.

But the installation process has I would say the last two that we've done has gone extremely well with no issues at all and an extremely tight installation cycle, tight meaning usually typically a couple of days to roll the phones out and then maybe a week where we are on-site just dealing with training issues and transition issues. But I think we're getting pretty good at doing it. And, as Dan mentioned, I am sure if you look on our website, you will see we are hiring for both salespeople and field support people because we want to step on the gas and get some more irons in the fire here.

Okay. And then just lastly, do you guys have any comments you want to make on how you think the economy is doing or how your customer base is affected by the economy just based on what you're seeing?

I don't.

I will probably stay silent on that.

Yes. Okay, so we had 44% of our cancellations in the most recent quarter were economic related, and a year ago it was 45% of our total cancellations. And so if I just pulled this absolute numbers, a year ago it was 747 customers and this most recent quarter it was 705. So for all intents and purposes, it's a lower percentage of our overall customers because we have gotten a bigger base, but it is effectively the same number.

I personally have been negative on the economy for five years or so, and I actually think it is starting to get a little bit better personally. But I still think the small business customers are having a hard time is the bottom line. And we see a lot of customers objecting to paying three digits for a telephone. They don't want to pay over $100. They want to pay $50 or $75 or something like that. We see a lot of that.

So we see significant changes in our close rates based upon the price of the telephone that we sent to end customers. So it shows me or tells me that people they don't have a lot of money in their bank account for some reason, or they are still hesitant to make decisions.

Okay. In terms of the noneconomic churning, you guys had pretty good improvement in that. Is there any one or two things you can point to that stand out as the driver of that reduction?

We've kind of broken it into three categories. We had lower gross adds in this quarter. Seasonally this has been historically a low quarter for us in gross adds. We had a very weak July in sales, and so I think a third of it just relates to our churn figures are after 30 days. So a third of the improvement churn is just from the people that we signed up fewer customers in July, and so we have fewer cancellations in that 31 to 60 day category. Because that is 31 to 60 days is still kind of a higher than average cancellation rate, and day 61 forward is the cancellation rate kind of gets to a much more predictable and reasonable figure.

So we attribute a third of it to that. About a third of the improvement is related to what we discussed about just kind of simplifying our activation process, which we kicked in in earnest the third week of July. And then the remaining third, we cannot attribute it to anything specific, but it just kind of there is just a lot of work going on to just improve customer satisfaction with the service.

Okay. Thanks very much, and congrats again.

Aaron Martin, AIGH Investment Partners.

It is Orin Hirschman. Congratulations on all the progress. Two quick questions. One is, in terms of the hardware gross margins, over time can we expect you to actually transition more and more to Polycom for across the whole line? Can you actually get a positive gross margin over the next few quarters in hardware or at least making a breakeven business?

I don't know that I would go that far. If you look at it, our product gross margin has been as -- I guess looking back to fiscal Q3 of 2009, we eked out 9%. But that's the only quarter I see in recent memory that we've gotten it positive.

I would expect that we'll continue to subsidize, but I just don't think -- I think when we see this figure like negative 57% margin, that's just -- we don't need to subsidize that much to sell the services we are offering. These services have tremendous value, and we would like to see it more -- historically it has kind of been in the negative 30-ish range. That is something we can stomach very well in terms of how it translates into acquisition costs.

Okay. And the second question just in terms of cross-selling on the hosting services, it sounds like the hosting business is doing well. Have you actually started to try and cross-sell? Is that going to be an area of focus to grow the whole thing or not necessarily?

Yes, this is definitely working.

So that is definitely one of our strategies is to do some cross-selling there. So we've actually had a little bit of cross-selling both ways. Granted the hosting business came with 49 customers, so the cross-selling one way is smaller.

But we are definitely having some success there. We are definitely having some very good success in growing the existing hosting customers that came with the acquisition. The company that we acquired was very small, and the customers are -- they are quite impressive their names for the size of company that we bought. And these customers are getting much more comfortable with 8x8 and 8x8's kind of financial structure. And so they are starting to move some of their spend from elsewhere over to us, and some of these customers are getting very large in size.

Great. Thank you very much.

(Operator Instructions) John Hickman, MDB Capital.

Congratulations. Great quarter. I was wondering if you could comment on the trend or where you think it might go in the near future the service dollars from your business customers? It was up again in the quarter to I think you said $220 per month?

$209 in this most recent quarter. So we're continuing to sign up larger customers. So, if you look at our average revenue per customer that signed up in the most recent quarter, it is above our average. So overall, it is driving upwards. It is $209 in this quarter compared to $201 a year ago. It has obviously taken some time to move upwards, but we continue to see interest from larger customers, and we've had some success in rolling out features such as our Virtual Office Pro add-on feature that we've been selling into our installed base. We're seeing pretty good uptick on new customers accepting that product as well.

Okay. So you don't seem see any reason why this should like turn down and go the other direction in the foreseeable future?

No.

No.

Thank you. At this time, I'm showing no further questions in the queue. I would like to turn the program back over to Bryan Martin and management for any closing remarks.

Alright. Thank you. Thank you, everybody, for listening, and if you're not already a customer of ours and you would like to learn more about our customers services, you can visit our website www.8x8.com or give us a call and we will be happy to chat about what we can do for you.

Go ahead, Huey.

Thank you, sir. Ladies and gentlemen, this does conclude today's program. Thank you for your participation, and have a wonderful day. Attendees, you may now disconnect.