8x8 Inc (EGHT) 2013 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the 8x8 Incorporated third quarter 2013 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 call is being recorded. I would now like to introduce your host for today's conference, Ms. Joan Citelli, Director of Corporate Communications. Ma'am, you may begin.

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 Chief Financial Officer, Dan Weirich, to discuss our results for 8x8's third quarter of fiscal year 2013 and December 31, 2012. If you have not yet seen today's financial results, the press release is available on the investor's 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 provision 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, anticipate, predict, forecast, and expressions which reflect something other than historical facts, 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 section 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.

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

Thank you, Joan, and welcome, everyone, to 8x8's first earnings call of the new year. I'd like to begin by providing an overview of our third quarter of fiscal 2013 ended December 31, 2012, which will be followed by Dan's discussion of the financials in greater detail. We will then be happy to answer any questions you have for us today.

I'm pleased to announce that 8x8 finished calendar 2012 with a strong third fiscal quarter, recording a 22% year-over-year increase in revenue from business customers, the expansion of our service margins, and the continued growth in monthly ARPU resulting from the addition of larger sized business customers.

Total revenue for the quarter was $27.3 million, up from $23.3 million in the same period last year.

Our non-GAAP net income was $3.8 million, or $0.05 per diluted share, and the Company generated an impressive $6.6 million of operating cash flows during the quarter to end December 2012 with $46.5 million of cash, cash equivalents, and investments.

We increased the net number of new businesses subscribing to our services by 975 companies during the quarter, with the average new business subscribing to 17 lines and services. This increase in new customer size is substantial, up from 14.7 lines and services in the September quarter and 14.0 lines and services in the June quarter, and demonstrates the continued success we are having winning larger, midmarket business customers.

Correspondingly, the average monthly revenue per business customer increased to $260 per month, up from $256 in the September quarter, and $239 in the same period a year ago. Over the entire customer base, our average business customer subscribed to 11.2 lines and services, up from 10.6 in the prior quarter and 9.4 in the same period last year.

Service gross margin also expanded nicely to 78.1% for the quarter, and Dan will provide additional details on our progress towards realizing our previously stated service margin goals.

The subsidy on the hardware we sell increased in the December quarter and product margins came in at approximately negative 34%.

Sales through our midmarket and channel team continue to make progress, growing 147% compared to the same period last year, and representing 17% of new monthly recurring revenue added during the December quarter. Last quarter, this group generated 12% of new monthly recurring revenue and 9% in the June quarter, so I'm very pleased to see the significant sales progress we have made during the last six months.

We ended 2012 with 101 channel partners on our program and continue to rotate new channels and partners into the mix as non-producing partners are moved to our Referral Rewards program.

We achieved our best monthly customer churn level ever at 1.6%, despite some seasonality for increased churn in the December quarter, due to business closures at the end of the tax year. Business closures and other economic churn maintained its post-2008 levels at 51% of total business customer churn during the third fiscal quarter. Revenue churn during the quarter increased to 2.6%, versus the 1% record low we saw in the September quarter, due primarily to specific issues with a handful of customers unrelated to 8x8 service. Without the service reductions at these handful of customers, revenue churn would have been approximately 1.8%, more in line with our historic revenue churn levels. We have seen a wide range of revenue churn percentage over the last four quarters and Dan will be providing you some guidance on what we believe we will see on a more macro go forward basis.

Having said that, both business customer churn and revenue churn are figures that fluctuate quarter to quarter, and we do expect that these figures will continue to see some volatility with each of our earnings reports.

On the marketing front, our acquisition cost for new service increased to $98 per service, up from $89 per service last quarter as we engaged in some new marketing and growth initiatives to drive our core micro business growth strategy in parallel with our midmarket efforts. We are planning to continue to invest in these new marketing initiatives as we believe that this is a very cost-effective strategy to continue our sales reach and growth.

We also remain convinced that our software development assets and ownership of our own communications technology are keys to maintaining our leadership position in the industry. During the December quarter, 8x8 was awarded two new patents for a total of 85 patents to date. Additionally, 8x8 was named a market leader and was positioned as the most visionary service provider in the Gartner Unified Communications as a Service Magic Quadrant.

Earlier this month, we launched our business services in Canada, the first region to roll out in our new Global Reach initiative. 8x8 is now offering business telephony and unified communications services to all Canadian businesses, including offering Canadian telephone numbers, number porting, and E911 emergency support. Canadian telephone numbers are now automatically provisioned and build through all of 8x8's Web portals, and customers in Canada will experience the same call quality and feature set as customers with service addresses in the United States. Businesses of all sizes, including 8x8's midmarket customers with employees located in Canada, will benefit from these new services in our global reach initiative.

I'm now going to turn the call over to Dan Weirich, the Company's Chief Financial Officer, who will walk you through our detailed financial results, provide additional information regarding our business. Dan?

Thank you, Bryan. Revenue growth from business customers was 22.2% compared to the same period last year. This compares to the 25% organic growth rate in revenue from business customers that we reported last quarter and the 23% and 22% growth rate in service revenue from our Cloud PBX business we reported in the first quarter of fiscal 2013 and the fourth quarter of 2012.

As Bryan mentioned, during the quarter, we had a handful of customers cancel or substantially reduce the number of services they subscribe to, which negatively impacted our growth rate. Also, in the third quarter of fiscal 2012, we recognized a $154,000 nonrecurring engineering fee related to the completion and launch of a private label solution for a large US-based carrier.

Removing this $154,000 one-time revenue item, revenue growth from business customers would have been 23.1% from the same period a year ago.

On the topic of churn, in the past five fiscal quarters, revenue churn has been as low as 1% and as high as 2.6%. Churn similar to what we experienced this past quarter happens from time to time, and you should expect that events like this will happen in the future. For modeling purposes, I suggest forecasting it between 1.5% and 1.8%, but there could be quarters when it is above or below this range.

Non-GAAP net income for the quarter increased slightly to $3.8 million, or 14% non-GAAP net income as a percentage of revenue, consistent with the prior quarter. This non-GAAP net income as a percentage of revenue was flat, with the September quarter's 14% number, because we increased our investment in sales and marketing during the quarter, bringing this expense to 42.6% of revenue.

As a percentage of revenue, R&D and G&A were unchanged from the second quarter. For the nine months ended December 31, 2012, non-GAAP net income increased 48% to $10.9 million from the same period a year ago.

GAAP net income was $1.9 million, compared with $2.6 million in the same period a year ago. GAAP net income was down year over year because this year it's fully taxed at approximately 40%, and last year was not fully taxed because we did not release our valuation allowance until the fourth quarter of fiscal 2012.

Income before the provision for income taxes during the December quarter was $2.8 million compared to $2.6 million in the same period a year ago. Fiscal year-to-date net income was $12.3 million compared to $5.4 million for the first nine months of fiscal 2012. Year-to-date income before the provision for income taxes was $20 million compared to $5.1 million in the same period a year ago.

Service margin improved to 78.1%, compared with 75.9% in the second quarter of fiscal 2013, and 76.9% in the third quarter of fiscal 2012. As we stated the past two quarters, our goal is to get service margins to 80% as quickly as possible. To achieve this goal, we have turned up multiple new network vendors and continue to optimize our network and network operations activities.

Overall gross margin was 68.3% compared to 67.8% in the second quarter of fiscal 2013, and 67.9% in the third quarter of fiscal 2012. Contribution margin, defined as service revenue less billing and customer service expense, improved to 63.1% in the December quarter compared to 61.7% last quarter.

Payback, defined as the number of months of contribution margin to pay back the subscriber acquisition cost, was 6.7 months.

Gross additions of 2,617 business customers were down compared to 2,915 in the second quarter of fiscal 2013, and 2,836 in the same period a year ago.

As Bryan noted, the average number of services sold in the quarter increased 20% to 17 services from 14.1 in the same period a year ago.

Business subscriber acquisition cost per service was $98 compared to $89 in the second quarter of fiscal 2013, and $92 in the third quarter of fiscal 2012. The company's cash, cash equivalents, and investment and balances increased $6.4 million in the quarter and $24.6 million in the past 12 months, and remains very strong at more than $46.5 million. Cash flow from operating activities was $6.6 million in the quarter and $26 million year to date.

The Company does not have any debt.

Our solid balance sheet coupled with continued strong cash flow from operations reassures our larger prospects of our ability to continue to deliver innovative technologies and outstanding service on a long-term basis.

Capital expenditures of $515,000 were back to our historical level at 1.9% of revenue.

In the first six months of this fiscal year, we invested $3.7 million on tenant improvements in our new corporate headquarters. As you can see on our non-GAAP reconciliation table at the bottom of our press release, the move-related expenses have stopped.

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

Thank you, Dan. For your reference and convenience today, we've posted a transcript of our prepared remarks on the events and presentations section of 8x8's investor website at investors.8x8.com.

With that, we'll be happy to take any questions you may have. Kate, please open the line for any questions.

(Operator Instructions). Barry McCarver, Stephens.

Good evening, guys, and great quarter. Thanks for that.

Thanks, Barry.

So, a couple of things. On the revenue churn that we saw in the quarter, could you provide just a little bit more color on what was driving that? Was that related to the customer churn we saw in the previous quarter or is it something completely new?

It's separate from the customer churn in the prior quarter. That was a small amount of recurring revenue from those customers. But it's -- what we've experienced is we have roughly six customers that either their service was terminated or they reduced services, and it represented approximately half of the increase from the prior quarter.

And two of those customers were terminated by us for nonpayment. One was a hosting customer and one was a contact center customer.

We had another that terminated services at their choice because they had a project that failed effectively and they were hosting customer.

And then we had three customers that just reduced their services with us. And we kind of attribute those changes due to kind of year end and potentially economic-related decisions.

So they weren't picking up services from anybody else. They just maybe saw a reduction in maybe their headcount and they cut it back?

Yes.

Okay. All right. That's helpful. And then, you've mentioned now for several quarters that 8x8 is moving upstream. You are seeing slightly larger customers come into the mix. I think we are seeing that in a number of services they're picking up and ARPU as well.

Could you give us an idea of what you are seeing in terms of adoption trends and what you are expecting in terms of additional larger customers moving in, say, over the next 12 to 18 months?

Yes, Barry, this is Bryan. We are continuing to see that trend. I think the Gartner, including us and a couple of our industry peers in the Leaders Quadrant for the first time was significant as well. Because if you think about the typical Gartner client, they are a larger customer and those customers are clearly expressing interest in hosted unified communications like those that we offer.

I think the sweet spot we continue to see is the distributed workforce within those larger customers. So as those employees become more mobile, do more bring your own device, and some of it is just plain rolling us out at these distributed branch offices and remote locations that are away from the corporate headquarters location, if you will. That's where we do very well, both from a -- certainly from a price perspective, but probably more important from the features we offer to title those remote workers together into a single instance that looks like they are all working from one location, and they can be as efficient as if they were working from one location.

So that's the overriding trend that we just continue to fulfill very well with our solutions.

Okay. And then, just lastly, on that number of services per customer going to 17 from 14.7, that's a pretty significant increase. We've not seen one like that, at least recently.

Again, is that just maybe larger customers this quarter or what specifically are they picking up new there that we haven't seen before?

Yes, so it's primarily just from larger customers, so the mix is staying fairly consistent from what we've seen in the past in terms of what types of services they are buying. But we're just seeing customers that have more employees sign up for service today than we had in days before this. So, just larger and more established businesses are adopting our solutions.

Okay. Great. I'll get off and let somebody else asked questions. Thanks, guys.

Thanks, Barry.

Dmitry Netis, William Blair.

Good afternoon, guys.

A couple of questions here. So as I look at the growth rate, certainly it's been pretty stellar over the last quarter. It has decelerated slightly this quarter. How do you feel about sort of 2013 fiscal? Is it still sort of in that 25% growth rate we? I mean, I know you've expressed the confidence around that number. Is that still sort of the number you were thinking about for maybe the near-term?

Yes, Dmitry. So in the last four fiscal quarters, we've had growth rates that have ranged from roughly 22% to 25%. And in the quarter that we just announced, we mentioned that we had some deceleration in our growth rate, which related to the kind of anomaly revenue churn items. But, I mean, that's just a fact of life of a recurring revenue business so I'm not going to say that that's not going to happen again. But if you just compare it to a year ago, we had this one time NRE revenue and, just adjusting for that, we are at 23% growth rate and so we are very comfortable kind of in this range that we've been of 22%, 25%, but we are not like dead set on any specific one of those numbers.

But, I mean, that's the range that we've been in and we feel, with great confidence, that we'll continue to be in that range. We just received a recent data point is the FCC recently just published some data on the penetration of our services into US businesses as of December 31 of 2011, and there is 9.5% penetration and year over year through a year ago the market grew at 24.7%

Yes, we saw that. That's kind of still a lot of runway left there. But thanks for that sort of color. That's helpful.

But another question I would have here is kind of the -- I saw the net new customers have rebounded nicely from last quarter. I think you are at 975. Still sort of below the kind of the average rate you've been in the last two years.

So I'm trying to -- if you could ease our concerns a little bit with the net new customer adds. It's clearly the size of the customer has grown. You could judge that by the ARPU number. So you're getting more money from your existing customers and your net new customers seem to be larger so I'm just trying to -- if you could parse that a little bit for us and tell us maybe what percentage of the new customers fall into your traditional voice category under 20 feet bucket, and what percentage the new customers are, perhaps, above that line number.

So maybe there's a way, also, to quantify that from the total dollar amount that they spent with you and perhaps you can also maybe compare it to a year ago period. Where it's been and where it is now.

Dmitry, this is Bryan. The only breakdown we are giving is the percentage of new monthly recurring revenue that came out of our, we call it, midmarket and channel team. And those are customers -- our definition of a midmarket customer is a customer with at least 50 seats with us and, if you just assume, just to make the math easy, $20 per seat per month. They bill more than $1,000 per month recurring. And so we broke down that 17% of our new revenue came from kind of that segment. So obviously, it suggests that our inside team that's targeting the 50 and below are also selling to larger opportunities.

And obviously, number one, I think it's a good thing. Number two, we're still looking at why or maybe how to possibly encourage our inside team to continue to -- maybe the lure of a larger customer means when a salesperson comes in in the morning, they're going to -- you know, the first call of the day and the call they make before they go to lunch and the call before they go home is going to be to these bigger opportunities. And so we are still looking internally at kind of the mechanics of what we want to do to make sure we don't lose focus on our core, what we call, micro business, which is the 10 line and below customer. And we are in progress with that right now, so I think that's what I would attribute some of the slowdown in gross adds to.

I don't know that it's an entirely bad thing to the extent that we are signing up fewer, maybe one- and two-person businesses, than we did sequentially or that we did a year ago. But that's something that we are working on kind of in real time here is what we want to do about that.

Okay. Okay. That's helpful. And maybe just -- I wanted to touch quickly on the federal and one other housekeeping question on the tax.

So on the federal side, if you could maybe give a little bit of an update what's going on there. I know you have six existing contracts and there is a number of opportunities you are working on. I think that number was closer to 28 or maybe even 30.

So if you could give us an update where you are and what progress or status is within each of those opportunities. I don't expect to hear each 28, but just kind of in broad strokes where you are and how that is tracking.

Yes, so I would just characterize it as the -- during the third quarter the new kind of, what you would call, new bookings or maybe the release is a more accurate description, or some of the deals that we've been verbally told by our partners or the federal customer that we won, it was extremely slow. It was an extremely slow quarter. We obviously had the turn up of the Presidential Transition Committee because of the timing of the election, and that service was installed and in use.

But, other than that, it was a very, very slow quarter from the federal -- on the federal front. We still are very optimistic that we'll see the release of these deals in calendar 2013, but it's a very -- it's a slow waiting game so we'll keep updating as it goes. But, overall, it was a very -- the federal contribution to the recurring revenue is extremely small (multiple speakers).

Okay. Have you lost any of the opportunities you were working on or you still have about the same number?

No, lost is probably too strong a word. There are constantly contracts that are getting rebid or they go around for a second go or whatever, so, I mean, there was some of that. But it was just, you know, I think that business in particular is an extremely lumpy business for us and so you're going to hopefully see some very large quarters in the future and then you may see none for a couple of months or a couple of quarters. And so that's just the nature of that business right now. It's still very, very small for us.

Okay. Great. And then, last one for Dan, on the tax. So when -- I know you just [released] the valuation allowance at the start of this fiscal year. So when would you expect to be a cash taxpayer? I don't think it will be for some time, as you had noted last quarter, but can you maybe give us an update there? What fiscal year can we expect you to pay cash taxes and what is the status of the NOL?

We released all of our valuation allowance except for approximately $2 million related to California state tax that in our forecast it was uncertain whether we were going to be able to utilize that remaining $2 million. And so, our fourth quarter is when we do our review of that analysis each year. So we'll have a formal update in May when we announce our year-end numbers.

But, our approximate estimates are -- is that the later part of this decade, maybe 2018 to 2019 we could start to become more of a cash taxpayer. We expect that cash taxes for the current year that we are in will be approximately 2% and then next year in the 2% to 3% range and we expect that for the foreseeable future, barring some tax rules changes or something of that sort.

Okay. Thank you so much. That's it for me and keep up the good work, gentlemen.

Thanks, Dmitry.

Greg Burns, Sidoti & Company.

Good afternoon, guys.

Hi, Greg.

Just wanted to dig into the Canada initiative a little deeper. What is your go-to-market strategy there and will you be able to support that out of your current, I guess, infrastructure or inside sales force or are you going to have to expand in any meaningful way to support the growth in Canada? And how should we think about the growth rate there and how that's additive to the subscriber growth numbers and maybe any potential impact on margins?

Yes, great question. This is Bryan. The go to market is -- you know, the immediate need that we're going to fulfill is the need of -- I'd say they tend to be midmarket customers again. Some of our larger customers that have employees located in Canada that we have, through the years, been unable to -- you know, we've essentially handed out US phone numbers in some instances or, if that wasn't sufficient for the application that the customer had in mind, we weren't able to service those employees. And so we are in the process of shipping equipment and provisioning service to a lot of customers that we knew had a built-in need for a more localized Canadian experience.

We do have two partners that our channel partners up there. One is Bell Canada and the other is SaskTel, which is in Saskatchewan, which is the location as well as our data center where we are carrying some of this signaling media and certainly storing the Canadian customer data. And so I don't foresee any immediate changes to the composition of our sales force or the resulting margins. So we're not going to go build a new salesforce to address that market.

But we will overlay it on the team that we have. I think you'll see the major contributions there coming from the midmarket team and the channel team, and then, as much as possible, we want to leverage the relationships we already have in place in Canada that, historically, have only sold some of our call center services and see if we can't expand those relationships to provide some of the other unified communications we are now offering there.

Okay. So and maybe could you give us kind of an idea of how we should think about the growth there from the incremental contribution, potentially for Canada over the next year or so?

Yes, I would forecast it will still be small, but it's even hard for us to forecast. We know there's demand. We know that if you look at the footprint, the census data, number of businesses, even population density up there, it's a fraction of the opportunity here in the United States.

But, again, I think there have been plenty of consumer offerings available with Internet telephony in Canada in the past. I don't think there's been the richness of business applications and services like those that we are offering on the basis that we are offering them, with the cloud-based approach and very limited investment into equipment. So we're going to play it by ear and see how it goes, but it's just nice to be able to go to our midmarket customers that have a vast footprint of distributed employees and be able to tell them now that we are now available and up and running in Canada, and it's a trend that we expect to continue as we roll out in other regions of the world.

And, beyond just being able to hand out a Canadian phone number, it's really about making sure that a call from that region is going to have the same call quality and high-fidelity voice that we are able to offer in the US because we do have local media handling capabilities up there. We have some local termination capabilities.

And so, I think it's a significant event for us. It's the first time the Company has formally expanded outside of the US as a service provider since our inception as a service provider.

Yes, in the press release, I think -- in the write up you talked about this being the first in a series of expansions. Should we expect to hear more announcements this year in terms of moving to additional countries or is that a longer timeframe?

No, that is our plan is to continue to expand into additional regions. Again, it's literally a regulatory patchwork as we do this. So there are -- it takes me back to my old days of having to wear a regulatory hat. There are as many regulatory issues as there are kind of technological issues in terms of how to expand our network and our media services into these regions. And so I can tell you the Canada launch took a lot longer than we thought it would and a lot of that was surrounding some of those challenges. But the goal is certainly to continue to expand into other regions of the world as well.

Okay. Thanks. And, Dan, I don't know if you mentioned it, but what percentage of revenue came from the cloud data in the quarter?

So we're just going to keep that in total business revenue, so it's 97% of all of our revenue came from business customers. And the reason we are doing that is we get a lot of questions of like, how often -- how much revenue does a lot of different elements of our service represent. And at the end of the day, we are selling a bundled solution to customers and the building is all integrated together and, in some instances, we discount items very aggressively and raise the price of other items.

And so, as I've mentioned in the past, I think of it as kind of like a derivative of our overall business and it's grown at a comparable growth rate. And so it's not too different than what it was in prior quarters, but on a go-forward basis we're just going to talk about revenue from business customers.

Okay. Thank you. I'll hop back in the queue.

Rag Sarathy, Dougherty.

Good afternoon. Thanks for taking my questions. I want to get some color on the larger customers that you are selling now. Do you see any sort of a common thread among these customers in terms of adopting the resolution? Are they replacing legacy solutions and consolidating several locations? Can you give us some color around the success you're having with larger customers?

Hi, Rag. It's Bryan. I think the -- I gave you kind of the common characteristic of them being these, or at least the use of our services being to fulfill the needs of a distributed workforce, multiple locations, sometimes many, many locations. And I would say it's very typical in these accounts to see them replacing some very old legacy infrastructure. Sometimes it's a patchwork of infrastructure where there is different systems at different sites. And we even see quite often now, especially as you get into companies that have offices kind of spread throughout the US, that they even have a patchwork of service providers. So you may have -- we have an example in the investor presentation that's up on the website where, not only was it a patchwork of equipment, but it was six different service providers that were replaced by a single bill from 8x8 each month.

So I would say that's typical. There are certainly greenfield installations, especially if some of the customers that have been with us for a while, and as they roll out employees in new locations or moved to a new office, we become kind of the go-to for that installation, but I would say that typical quote that we are sending out is kind of comparing total cost of ownership under the 8x8 brand to what the legacy usually fully depreciated; but again, usually quite expensive and difficult to manage solution [as it's in] place.

And then from a competition perspective, sort of in the midmarket, are you seeing similar competitors -- the Verizon, AT&T -- or do you see the different competitors? Can you give us some color on that -- who are you going up against?

Yes, it hasn't changed. I mean, it's still AT&T and Verizon a large percentage of the time. Bigger customers that have installed a phone system, especially in the last 10 years, can be with the CLEC, so they may have better pricing in the move to 8x8 -- you know, we still save money, but it may be a little less on an absolute sense than if they have an old relationship with an incumbent carrier.

In terms of the PBX people that are out there, again, same kind of grouping of people. So, again, there is a slide in our investor deck that just lists the 10 most populous PBX vendors that's ranked by a number of sites they installed last calendar year. And that's who you see out there in the field, typically, at these accounts.

Okay. And then in terms of the average number of services subscribed, it's up between 18%, 20% through the three fiscal quarters. What should be we expect going forward? Is it -- we should expect similar trend based on the customers you're engaged now with?

It's hard for us to tell ourselves because it's been up and to the right almost every quarter. I mean, we did include in our operating statistics table these figures from a historical standpoint for the last five quarters, for your reference the last line in the operating statistics. And so, other than one fiscal quarter, where it's slightly dipped down, which I believe was the March quarter, it's been up and to the right.

And it is a little bit hard to predict because we had a really good quarter in improvements that we just reported. And I would say just overall, on a macro theme, looking at it on a year basis rather than a quarterly basis, we think that the trends are definitely moving upwards and to the right in the similar growth rates of what they've been doing. But, on a quarter-to-quarter basis, it occasionally could be due to anomalies, of a deal or two, kind of skewed the numbers a little bit. But I think if you just look at it on a multi-quarter basis, it's just continuing to move up.

And then, Bryan, you talked about it from in regards, the business customer addition. What sort of goals do you have in growing those business customers. And obviously you are adding a lot of customers, but both of you, sort of with your own business sort of [up 10], it seems like there's some inefficiency there.

Could you ask the question again? I think I missed the last part.

So you are obviously signing larger customers, but do you talk with the growth subs being down year on year for the last few quarters and you kind of talked about improving productivity of inside sales. What kind of goals do you have in terms of increasing growth of ads? What kind of timeframe are you looking at?

Right. So, yes, that's a good question. We continue to focus on that effort and I talked about one element of it, which is how we continue to focus on very small customers, but essentially this quarter you saw the per line acquisition cost come up a little bit -- again, within our historical range, but we have certainly done some new marketing programs, some of which we haven't seen any sellthrough as a result of. And so some of that increase is being driven by some new marketing. We have some new processes and procedures and selling practices that we've rolled out to the sales team.

And so, I think it's unfortunate we haven't seen any real tangible results in these numbers from those efforts, but we are very committed to seeing this through. And, as I said last quarter, really trying to get our micro-business and our inside sales team -- telesales -- really to deliver more than they have historically been able to deliver. I wish I knew the timeframe on that. It's something that we are very focused on on a day-to-day basis and we expect to see results in the short term.

This is not -- this is certainly not a marathon. So we are working very diligently on that and, again, hopefully we will be able to update you in May with some more tangible results.

Okay. Then just one final question. So you mentioned we should be thinking about 1.5% to 1.8% of revenue churn, if I heard correctly. Can you give us some color around the customer churn?

Yes, customer churn, as Bryan mentioned in his prepared remarks, was 1.6%. And so if you look at a year-ago period, it was 2% and six months ago was 1.7%. We had a record low, but it's come down in the last six months at a slower rate than it has in the last year.

We definitely think that on customer churn we definitely have room for improvement there. Once again, it's something that is hard to predict and can kind of bounce up and down on its way down. But it is definitely an area where we do feel that we have room for improvement and on our onboarding process we have made significant changes in the way that we onboard customers and the way that we reach out to them immediately after the point-of-sale to begin the process of getting the customers installed quickly and to their satisfaction. So that is definitely something that we do feel that we have continued room for improvement.

Okay. Great. Thank you.

Thank you, Rag.

George Sutton, Craig-Hallum.

Hi, guys. Most of my questions have been answered, but I did wonder on the channel side, you suggested you have been kind of moving new partners in and moving some of the older partners out that haven't been productive. Can you just give us a little more of a sense of how the channel partner program is working versus your expectations?

Yes. Hi, George. It's still slower in the macro sense than my expectations. So, you know, everyone told me it would take a very long time to build and it's taking a very long time to build, but I am extremely encouraged by the numbers our team and working with our partners have been able to put up, like I said, in the last six months. I think it's very good progress towards where we want to be. We are continuing to regularly sign up new partners, so a partner that has not sold anything or, in some cases, even quoted anything and have been on our program for a year, we thank them and politely introduce them to our referral program where they can get paid a one-time value. We also send a lot of those partners to some of our kind of master agents, telecom aggregators where they can kind of participating in that program.

So the partners we are bringing in, we are kind of bucketing them into three different types of folks. They are either kind of hardware sellers who traditionally sold PBXs and other equipment and are now starting to sell cloud services. That group contributed quite significantly to our sales in Q3.

The second bucket is people that kind of sell circuits. They are kind of telecom sellers. They sell connections to ISPs. That group had a significant contribution during the quarter.

And then the third group, which had a much smaller contribution -- and, to me, this is a little, somewhat puzzling, or at least counterintuitive to what I would have expected, are kind of the IT consultants and the people whose businesses helping businesses run their IT and pick how they're going to manage their networks, how they're going to deal with viruses and spyware, and, oh, by the way, how you're going to hook up to unified communications in the 21st century. So it's a significant portion in terms of the bucket, but their contribution in new sales was significantly weaker than the other two categories during the quarter.

It surprises me just because that is, in a lot of cases, a business that's trusted resource for their IT needs of all different shapes and sizes and it may be just that it's not translating into communications yet. So I would expect that group to be able to contribute more in the future, but it is what it is today. I'm very happy with what Don Trimble and the team have put together for Q3.

Okay. Thanks for the detail there. And then, lastly, you see the same consolidation that we are seeing and your cash balance continues to build. I'm wondering, how do you view consolidation relative to customer lists/other vendors, or are you predominantly looking at other services kind of like we saw with contractual?

Yes, I think, we are always looking for opportunities so I don't want to discount anything, but I think, in general, our thinking is that this space is an extremely strong segment. It has almost no penetration. You know, again, referenced the FCC 9.5% penetration in the US. And we are orders of magnitude of sales away from having even 1% of the market. So I don't view it -- I view it at a stage where there is significant growth that had -- we can continue to grow organically very strongly. So it would take kind of a special situation for me to look at a customer base rollout. If you look at the three acquisitions we've done in the last 24 months, in all cases, there was a technology or service enhancement component to the strategy as to why we are acquiring the company. And I would guess, at this point, that would continue to be the case in any future acquisitions.

But, yes, I don't want to rule anything out because the space is consolidating at a tremendous rate and just a reflection, I think, of what the funding environment is out there post 2008.

Very good. Thank you.

Thank you.

Mike Crawford, B. Riley.

Thank you. Bryan, I think at a recent investor conference, you talked about cloud data being about 5% of your revenue. So if that's, say, $5 million, do you think that is something that we should expect to grow faster than service revenues in the future as you have larger customers? Or do you think it should remain at that same percentage?

I think, as Dan commented, Mike, it's growing and historically has grown at roughly the same rate as the rest of our business. And so we've kind of, I think, in our models taken the position that it'll be around that number that you quoted -- the 5% number is what it was last quarter. We are trying to segment a little less because we do see application of those services, especially at a lot of these midmarket types of customers.

We also see significant interest in the industry at large there around some of the virtualization and kind of larger enterprise cloud types of applications that we've been involved with. We've been involved with different B block services and so forth. If you look at some of the companies that people like Cisco have acquired in the last quarter, there's just a lot of interest in that space. And so I think that's an interesting area that we are continuing to focus on with R&D dollars and kind of developing new services there.

We've certainly backed away from kind of the commodity of managed hosting where we just rack up 1 to 1. You need 10 servers and suddenly 10 boxes appear in our data center. We've backed off of sales in that area but we are continuing to see very good interest, and I think we have some good opportunity with larger customers around some of these virtualized and different services that are more of a niche and have a little more higher margin value for us and for the customer.

Okay. Thanks. And then, on sales, there's been a lot of discussion of inside sales, channel sales. First, I don't know if you can quantify what your channel partner churn is and then, more broadly, if you just take a step further back, what are you finding that has been the most successful means of reaching larger customers?

Any idea on partner churn?

Well, our channel group was just over 100 active channels at the end of the quarter and our channel profile is kind of 80/20 so it's like 80% of them are generating 20% of the sales. And the remaining 20% are actually really good and generating the 80% of the sales. And as we've been told from our channel team, that that's just like kind of the classic breakdown.

So I'm not going to say that our channel churn is like 80% or something like that, but we definitely have a large number of unproductive ones that we are continuing to kind of recycle through. So we've been at roughly around 100 channels for the last few quarters.

And then on, where do we get our bigger opportunities, is what we've done over the past year is that if an opportunity comes in and it's above 50 seats, we have determined that the point of sale needs to be made at a different touch level than out of a telesales environment. And so that lead opportunity migrates straight to our channel and midmarket group. And in some instances, we will sell it direct and close it. And in some instances we will give it to a channel and they will assist us in closing and fulfilling the opportunity.

So the bulk of the lead generation is coming from our more traditional lead generation of online related advertising, a little bit of print, and areas such as Southwest Airlines. And then the channels are actually starting to generate some deal activity themselves and it's still small, but the encouraging signs that we saw this quarter is that some of the traditional hardware vendors who are used to just getting a big lump sum check for selling a big piece of hardware, are starting to adopt the subscription-based or think of it as an annuity revenue stream business that we are offering in our subscription-based offering.

Okay. Thanks, Dan. And then have you seen any changes in the effectiveness of your online advertising, which has been you're probably best and lowest cost source of lead generation? I ask because, relative to some other channels like, say, investor conferences that seem to be getting a little bit more saturated, how is the online advertising performing?

It's been very comparable over the years and even in recent quarters. I mean, we see like consistent kind of close rates from those channels. And so the dominant player there is Google and it's just a function of how many businesses are out searching for replacing your business phone system or terms such as that on Google is the primary function. But, once they get over to us, we are very, very, very comparable close rates to the past few years.

All right. Thank you.

Thanks, Mike.

Mike Latimore, Northland Capital.

Hi. Thanks a lot. Hi, guys.

Just on the channel, you mentioned sort of 20% of the partners doing 80% of the sales. Are those channel partners taking the payment structure where they get kind of the more of the upfront payment style or are they doing kind of the recurring revenue over the long horizon there?

So the structure that they have is all of them have a residual component so they're getting participating in a percentage of the subscription revenue. And the way that we have it structured is, is that depending on the price of the hardware and/or the price of the activation-related fees, there could be a bounty or an upfront component, but it's not in all instances.

So, It's interesting, when we move up in selling into larger customers, some businesses have a business mentality that they're going to go and pay for the equipment and they want a lower service fee. And so, in instances like that, we will make profits on the equipment that we sell. And in those instances, we will share a portion of those profits with the channel.

And then we do have some opportunities where it could be a big (technical difficulty) and they have a business philosophy that there are no capital expenditures whatsoever and they want the equipment advertised over the life of the agreement. And in those instances, will work with the prospective customer and charge them nothing up front and will charge them a higher subscription fee at a favorable interest rate to 8x8. And in those instances, the channel is not going to receive upfront compensation.

But we are kind of quite flexible in the way that we structure these and we have standard plans, but as we are convincing some of these traditional hardware folks to migrate over to subscription-based services, we kind of mix it up to meet their needs.

Okay. And then, ARPU has been growing kind of $6.00 a quarter. Is that the way to still think about it going forward?

Yes. I mean, Rag asked the same question about where do we see services coming in on new customers and we see it as kind of up and to the right. And ARPU has been much more consistent because it's kind of working over a much larger base, rather than just that new customers are signing up in that period. But, yes, we've got tremendous confidence in kind of the historical figures of what we've done that will continue to happen in the future.

I guess is the ARPU of the gross adds going to be accelerating maybe and that might lead to ARPU acceleration at some point or is it all -- does it all balance out over time?

The only thing I can say is that, I mean, you look at our growth adds, they are down year over year; they are down sequentially, but the new monthly recurring revenue that we sold in this quarter was higher than any quarter in the past. So we are just -- the theme of the more established, larger businesses adopting solutions such as ours is continuing and it continued even at a more rapid rate this quarter.

And just lastly, what should we use for stock comps in the fourth quarter?

Stock compensation was roughly $765,000 in this most recent quarter. And I would say, roughly a conservative estimate is kind of in the $800,000 to $850,000 range.

Great. Thanks a lot.

I'm not showing any further questions at this time. I'd like to turn the call back over to Bryan Martin for closing remarks.

All right. Thank you, Kate. I just want to thank Dan and Joan for their presentations. Thank you, everyone, for joining us on the call today.

This quarter, 8x8 will be presenting at Stifel Nicolaus Technology Conference on February 5 in San Francisco; the Northland Capital Markets 2013 Technology Conference on March 13 in New York; the Sidoti & Company 17th Annual Emerging Growth Investor Forum on March 18, also in New York; and at the 25th Annual ROTH Conference on March 19 in Dana Point, California. We hope to see you at one of these events.

And, also, if you are not already a customer, again, you can see these larger businesses and businesses of all sizes are adopting these services. Please visit our website to learn about the different services we can offer to your business. You can also call us at 1-866-TRYVOIP and we'll be happy to assist you there. With that, we'll conclude today's call. Go ahead, Kate.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone, have a great day.