Five9 Inc (FIVN) 2016 Q2 法說會逐字稿

Good day and welcome to the Five9 Inc. Q2 2016 earnings conference call. Today's conference is being recorded.

At this time I would like to turn the conference over to Tony Righetti. Please go ahead.

Thank you, operator. Good afternoon, everyone, and thank you for joining us on today's conference call to discuss Five9's second-quarter 2016 results. Today's call is being hosted by Mike Burkland, CEO, and Barry Zwarenstein, CFO.

During the course of this conference call Five9's management team will make projections and other forward-looking statements regarding future events or the future financial performance of the Company. We caution you that such statements are simply predictions and should not be unduly relied upon by investors. Actual events or results may differ materially and the Company undertakes no obligation to update the information in such statements.

These statements are subject to substantial risks and uncertainties that could adversely affect our future results and cause these forward-looking statements to be inaccurate. A more detailed discussion of certain of the risk factors that could cause these forward-looking statements to be inaccurate and that you should consider in evaluating Five9 and its prospects is included under the caption "Risk Factors" and elsewhere in our filings with the Securities and Exchange Commission.

In addition, management will make reference to non-GAAP financial measures during this call. Management believes that this non-GAAP information is useful because it can enhance an understanding of the Company's ongoing performance and Five9, therefore, uses non-GAAP financial information internally to evaluate and manage the Company's operations.

This non-GAAP financial information should be considered along with and not as a replacement for financial information reported under GAAP and could be different than the non-GAAP financial information provided by other companies in our industry. The full reconciliation of the GAAP to non-GAAP financial data can be found in the Company's press release issued earlier this afternoon and available on the investor relations section of Five9's website.

Now I would like to turn over the call to Five9 CEO, Mike Burkland.

Thank you, Tony. Welcome, everyone, to our second-quarter earnings call. Our second-quarter results were truly outstanding, with further acceleration on the top line, as our revenue growth increased 28% year over year, resulting in record revenue of $38.9 million.

This revenue growth was driven primarily by the continued acceleration in our enterprise business, which delivered 41% growth in LTM enterprise subscription revenue. Furthermore, we continued to enjoy exceptional leverage in our business model, resulting in record adjusted EBITDA of $2.3 million.

Since our IPO eight quarters ago, our adjusted EBITDA margins have increased by nearly 34 percentage points to 6% in the second quarter. This trajectory gives us confidence in our intermediate-term goal of 20%-plus adjusted EBITDA margins.

Our results continue to be driven by our strong enterprise gains, which deliver high marginal profitability. We are also pleased to report our first quarter of positive non-GAAP operating income, our second consecutive quarter of positive operating cash flow, and our third consecutive quarter of positive adjusted EBITDA.

We believe we are still in the early days of a massive push towards modernization of customer service and contact center technologies. Given our leadership position in this market and the strong momentum in our business, we are raising 2016 guidance.

I am also extremely pleased that our bookings and pipeline reached new highs for both enterprise and commercial. Our exceptional bookings were again driven by continued sales execution by our direct salesforce, coupled with the increasing leverage we are getting from our expanding ecosystem of partners, including CRM vendors, resellers, master agents, referral partners, systems integrators, VARs, and ISVs. This expanding ecosystem of partners influenced more than 45% of our enterprise deal flow in Q2.

Our recently-expanded channel program is yielding significant, tangible results and is exceeding our expectations. For example, the number of master agents and resellers increased by 44% from Q1 to Q2 and we continue to add more channel partners. Of particular note is our recently-announced partnership with Westcon-Comstor, a prominent value-added global distributor.

Bookings through master agents and resellers grew 90% from Q1 to Q2, but as a reminder, we are still in the early days of building out these channels. In addition, the pipeline from master agents and resellers grew by more than 50% during the second quarter.

My commentary today will again focus on our faster growing and more profitable enterprise business, as that is where we are concentrating our investments and generating most of our growth. As a reminder, the enterprise contact center market is very large, underpenetrated, and represents a significant ongoing growth opportunity for Five9. There are 15.8 million contact center agents around the world, representing an estimated TAM of $24 billion in annual recurring revenue, three-quarters of which are enterprise and where cloud penetration is still under 10%.

Not only is there an ongoing opportunity in this massive market as penetration continues to increase, there is also a perceptible increase in the rate of cloud adoption underway. Unlike three to four years ago, enterprise customers are now presold on the benefits of cloud. The evangelizing phase is clearly behind us as the cloud has become mainstream, cloud solutions have matured, and trust has been generated in terms of uptime, scalability, and security.

In addition, the legacy on-premise vendors continue to be stuck in transition and have underinvested. The following highlights demonstrate our accelerating momentum in this enterprise market.

First, 41% growth in LTM enterprise subscription revenue and continuing acceleration from 39% last quarter and 38% and 35% in the fourth and third quarters of last year, respectively. We believe that this is a key metric that reflects the payoff from our ongoing enterprise go-to-market investments.

Second, enterprise revenue has grown to 67% of LTM revenue versus 62% a year ago. Third, we estimate our win rate against two key cloud competitors averaged over 70% in the quarter. Fourth, we continue to move upmarket as our average deal size continues to increase, as does the number of deals over $1 million.

Now that I have shared some of the key metrics from our enterprise business, I would like to remind you of some of the specific reasons why Five9 is being selected by enterprise customers for both new and expansion deals, starting with our key product and platform differentiators.

The first is user experience. Our award-winning agent interface built on HTML5 and intuitive browser-based design provide an easy visualization of customer profile, context, and cross-channel history. Second, our omnichannel solution is designed to deliver a consistent and personalized user experience and common rigor across channels and touch points. Omnichannel experience helps our customers reduce costs, achieve consistency through a single application experience, provide modern modes of communication, and greatly improve the customer experience.

Third, our deep CRM integrations with Salesforce, Oracle, Zendesk, and Microsoft help our joint customers modernize their contact centers. Fourth, our predictive analytics offering through Five9 Connect, which is based on our robust natural language processing, that helps route end-customers to the right agents based on sentiment and reasons for contact. Five9 Connect provides agents with predictive assistance and next-best actions based on customer context.

Fifth, our Freedom platform, an industry-differentiating, micro services-based, open enterprise architecture enables customers, partners, and developers to leverage over 300 rest APIs and powerful SDKs to deliver new solutions that integrate the Five9 products. This open architecture has enabled us to provide deep integrations with CRM, unified communications, and ISV partners.

Sixth, we offer guaranteed voice quality with our Agent Connect service and our call-by-call carrier optimization routing, all as a managed service from Five9. Seventh, we provide multitenant cloud WFO, offering industry-leading best-of-breed solutions to our customers.

Eighth, our mobile solution delivers customer engagement integrating voice and digital channels with self-service capabilities, providing a personalized omnichannel experience. And ninth, we continue to deliver best-in-class reliability, security, compliance, and scalability that meet the standards of large enterprises, including some of the leading financial services and healthcare companies. We are extremely proud of our uptime performance, which averaged 99.990% over the last 12 months.

In addition to these differentiators, I am very excited about our innovative upcoming summer 2016 release focused on contact center modernization to keep pace with the expectations of today's consumer. With this release, we believe Five9 will leapfrog the competition by delivering four key differentiators.

The first is our deeply-enriched comprehensive omnichannel offering. Given the digital transformation, consumer power is on the rise. Mobile devices put all the channels in the pocket of the consumer in an always-on and connected manner, with the ability to both engage and move between channels with the swipe of a finger.

Five9 omnichannel enables consumers to seamlessly engage with all modern channels fully integrated: voice, video, website, mobile, chat, email, click to call, call back, social, and messaging. This release not only enriches the experience with modern channels of engagement like website, video, and web RTC-based click to call, but also ensures that as customers move from channel to channel, their context and history move with them. For example, website to chat, chat to voice, voice to video.

Second, customer journey analytics and lifetime journey mapping. Full customer journey insights across all channels that treats online presence just as important as any other channel for both buying and customer care use cases.

Third, proactive engagement. Consumers' expectations have shifted from reactive resolution to proactive care. With Five9 proactive engagement, businesses can see what visitors are doing live on their website, in a mobile application, or in interactions with their agents. It combines analytics and context in real time to predict customer behavior patterns and recommend next-best actions, guiding agents to provide an optimal customer experience.

Fourth, personalized service. Consumers are often left asking if businesses really know them. In traditional legacy systems the lack of seamless integration and context flow from system to system. Primarily CRM and UC to contact center leaves the consumer in a one-size-fits-all, disjointed experience, trying to fill the gaps by repeating information over and over as they move from step to step.

With deep CRM and UC integrations, Five9 leverages customer data across all systems, delivering to the modern-day consumer exactly what they expect: a personalized experience delivered seamlessly across systems and channels.

Now I would like to share with you highlights from some of our second-quarter key enterprise wins and expansions. The first example is a global provider of satellite broadband and wireless services, infrastructure, and technology. They had been using a legacy solution which was being hosted by their carrier. They wanted to move to a system where they could take advantage of recent innovations, while also taking control and managing interactions handled by over 500 in-house and outsourced agents spread across six contact centers around the globe.

After looking at the entire marketplace of competitors through an extensive RFP process, Five9 was selected as the only provider who could fulfill their complex requirements with the required reliability for their mission-critical operation. They required a complete replacement of speech-enabled self-service IVR, plus visual IVR; two-way SMS messaging to broadcast updates to thousands of their subscribers in real-time; a complete WFO suite of capabilities, including voice and screen recording for quality management, all fully integrated with their salesforce CRM. We estimate that this customer will generate over $2.5 million in annual recurring revenue to Five9.

Another recent win is a consumer lending company which provides loans primarily for home improvement projects. They were using another cloud-based solution and experienced several service interruptions which were handled very poorly. Five9 was introduced by one of our master agents. Once engaged, Five9 conducted several on-site discovery sessions to design the optimal solution to fulfill their needs.

The customer is now leveraging our end-to-end offering, including IVR, ACD with intelligent routing, integration to their proprietary CRM through our powerful APIs, and is able to manage and optimize its business by utilizing the powerful real-time dashboard analytics and the Five9 workforce management solution. We estimate that this customer will generate over $500,000 in annual recurring revenue to Five9.

A third win from the quarter I would like to share is a leading retail energy company. They had made several acquisitions over time to incorporate more services in the energy industry. This created an environment where they have several premise-based siloed technologies from different providers.

The initial implementation is to replace one of the existing premise-based solutions which was due for a costly upgrade. The customer and Five9 both anticipate this being the beginning of a transformation of many business units to transition over to the Five9 cloud solution. This is yet another example of our land-and-expand opportunity that we seek within most large enterprises.

Speaking of land-and-expand, I would now like to share an example where this is playing out very nicely for Five9 within an educational services company comprised of nine brands, 43 campuses across 11 states, and over 16,000 students that has been a Five9 customer for over two years. Recently they decided to migrate 35 college campuses from their existing legacy call center solution to Five9's fully-featured contact center solution. This will result in a doubling of their seat count on Five9 from approximately 250 to 500, demonstrating the ongoing value of our solution and this customer's commitment to Five9.

In conclusion, we could not be more pleased with how Five9 is positioned in this customer service market that is still in the early days of a massive push toward modernization, which includes a shift to the cloud for both CRM solutions, like Salesforce and Oracle, as well as contact center solutions, like Five9. Our cloud contact center software is tightly integrated with these leading CRM solutions and we are going to market together to help our joint customers modernize their contact centers.

This modernization is enabling our enterprise customers to deliver a better customer experience to their customers, which is resulting in a strategic and tangible value proposition of driving up customer satisfaction, driving up customer retention, and driving up revenue.

In addition, the power of our business model has never been so clear, as we have delivered accelerating revenue growth coupled with extraordinary marginal profitability. More specifically, our LTM enterprise subscription revenue growth accelerated to 41% and we delivered 6% adjusted EBITDA margin, up nearly 34 percentage points since our IPO eight quarters ago.

I will now turn the call over to Barry to provide more color on the second-quarter financials.

Thank you, Mike. Revenue for the second quarter of 2016 was $38.9 million, up 28% year over year. This growth is all organic and reflects the continuing strong growth in our enterprise business that now makes up 67% of LTM revenue.

Our commercial business, which represents the other 36% of LTM revenue, continued to deliver steady and consistent growth of around 10% as it has for many years. Recurring revenue accounted for 94% of our revenues in the second quarter of 2016. Recurring revenue is made up of monthly software subscriptions, which are based on the number of agencies, plus usage, which is based upon minutes. We enjoy a high retention rate on these recurring revenues.

We are pleased to report that our annual dollar-based retention rate in the second quarter increased to 100%, our fourth sequential quarterly increase, and up from 94% in the second quarter of 2015.

The other 6% of our second-quarter revenue was comprised of professional services fees generated from assisting clients in implementing and optimizing the Five9 solution.

I will now discuss gross margins and expenses, both of which I will address on a non-GAAP basis. Gross margins of 61.9% were up 50 basis points sequentially, up over 300 basis points versus the second quarter of 2015, and up 1,000 basis points versus the second quarter of 2014.

Gross margins on our recurring revenue increased sequentially, mainly due to leverage on the cost of subscription revenue. Professional services margins, while still negative, also improved sequentially helped by higher revenue, which was sufficient to overcome the increased hiring we are doing in this area to build and train a talent pool to meet the demands of our enterprise customers. We expect gross margins to remain at approximately this level in the current quarter and increase modestly in the fourth quarter.

We continue to expect to close the remaining 560 basis point gap to the midpoint of our intermediate-term model of 65% to 70% via two main drivers. First, subscription margins continuing to increase as we continue to scale revenue on fixed and semi-fixed costs and, second, professional services margins continuing to improve and turn positive as investments we are making in this area pay off.

Before turning to expenses, I would like once again to stress an overarching point on gross margins relating to revenue that comes from usage. To avoid any misconceptions it is important for investors to realize that while usage revenue generates gross margins below our subscription margin, usage revenue comes with very minor incremental operating expenses and, therefore, generates on several bottom-line leverage.

Turning now to expenses, which I will discuss in order of the remaining gap to close to reach the intermediate-term 20%-plus adjusted EBITDA model. G&A expenses in the second quarter of 2016 were $4.6 million, or 11.9% of revenue, down 4 percentage points of revenue from the second quarter of 2015 and down 9.5 percentage points of revenue from the second quarter of 2014. The remaining gap to the midpoint of our intermediate-term model for G&A is now only 4.9 percentage points.

R&D expenses in the second quarter of 2016 were $5.1 million, or 13.1% of revenue, down 3.8 percentage points of revenue from the second quarter of 2015 and down 7.3 percentage points of revenue from the second quarter of 2014. The remaining gap to the midpoint of our intermediate-term model for R&D is now only 3.1 percentage points.

Sales and marketing expenses in the second quarter of 2016 were $12 million, or 31% of revenue, a decrease of 2.4 percentage points from the prior year. As a reminder, we continue to invest in our enterprise go-to-market efforts, including sales capacity growth of 30% to 40%, and investments in new channels, which are together driving our impressive growth in the enterprise subscription revenue.

In addition, our second-quarter sales and marketing expenses again included a meaningful increase in commission expenses, driven by a record bookings performance in the quarter. Looking ahead we are already within our intermediate-term target for sales and marketing expenses, which remains at 28% to 32%.

We expect our operating expenses, as a percent of revenue, to continue to decline towards our intermediate-term target as we continue to grow and experience increased operating leverage.

We are extremely pleased with our third consecutive quarter of positive adjusted EBITDA. We generated positive adjusted EBITDA of $2.3 million in the second quarter of 2016, or 6% of revenue, compared to adjusted EBITDA loss of $2.3 million, or 7% of revenue, for the second quarter of 2015.

As Mike mentioned, this improvement continues to be driven by strong enterprise gains, which deliver high marginal profitability. Specifically, in the second quarter LTM marginal profitability was 58%, measured by the percentage of revenue growth that drops to the adjusted EBITDA line. In the third quarter, we expect adjusted EBITDA to be slightly positive. In the fourth quarter, seasonally our strongest quarter, we continue to expect to generate strongly positive adjusted EBITDA and we continue to expect that our adjusted EBITDA will be positive for the year.

Returning now to the quarterly results, as Mike noted, we also reached our first non-GAAP operating profit which was $346,000, a significant improvement from the $4 million loss in the second quarter of last year. GAAP net loss for the second quarter of 2016 was $3.5 million, or $0.07 per share, compared to a GAAP net loss of $7.4 million, or $0.15 per share, for the second quarter of 2015. Our non-GAAP net loss for the second quarter 2016 was $839,000, or $0.02 per share, compared to a non-GAAP net loss of $5.1 million, or $0.10 per share, for the second quarter of 2015.

Finally, before turning to guidance, some balance sheet and cash flow highlights. Our DSO performance remained strong and DSOs for the second quarter of 2016 were 23 days, compared with 22 days in the second quarter of 2015. These low DSOs reduce the incremental working capital required as we grow and, thereby, helping to generate operating cash flow.

With respect to this metric, for the second quarter of 2016 we generated $2.2 million in cash flow from operations, markedly improved from the $4 million operating cash outflow in the second quarter of 2015. Capital spending in the second quarter of 2016 was $2.3 million, of which $2 million was financed via capital leases and the remaining $316,000 was paid for in cash.

Free cash flow, defined as operating cash flow less capital spending paid for in cash, was $1.9 million for the second quarter of 2016 compared to an outflow of $4.2 million in the second quarter of 2015. As of June 30, 2016, our cash and short-term investments totaled $57.6 million, compared to $57.8 million as of March 31, 2016.

As we announced earlier today, we refinanced our various debt facilities into a new three-year $50 million revolver facility from City National Bank and Silicon Valley Bank at a considerably lower interest rate. This refinancing is estimated to result in cash interest savings of approximately $200,000 per quarter and these savings are reflected in the bottom line guidance I will provide in a moment.

To elaborate on the refinancing, on August 1 we paid off $32 million in debt via a $32.6 million drawdown from the new revolver facility. The $32 million debt that was paid off was made up of $12.5 million in prior revolver debt and $19.5 million in term debt.

The interest rate on $18 million of the term debt that was paid off was 10% and on the $1.5 million balance was 5%, for a weighted average rate of 9.6%. The interest rate on the new revolver is currently prime plus 50 basis points, or 4%, significantly lower than what we were paying. The full details of the new facility are in the 8-K filed earlier today.

I would like to finish today's prepared remarks with a brief discussion of our expectations for the third quarter and for the full year 2016.

For the third quarter of 2016, we expect revenue in a range of $38.6 million to $39.6 million. GAAP net loss is expected to be in the range of $5.9 million to $6.9 million, or a loss of $0.11 to $0.13 per share. Included in this GAAP net loss guidance is an estimated $1 million in write-offs of unamortized fees and discounts, as well as a prepayment penalty on the termination of our prior-term debt facility.

Non-GAAP net loss is expected to be in the range of $2.2 million to $3.2 million, or a loss of $0.04 to $0.06 per share.

For 2016 we expect revenue to be in the range of $155.8 million to $157.8 million versus prior guidance of $151.5 million to $154.5 million. GAAP net loss is expected to be in the range of $17.8 million to $19.8 million, including the estimated $1 million in write-offs of unamortized fees and discounts and the prepayment penalty, versus prior guidance of $19.8 million to $21.8 million, or a loss of $0.34 to $0.38 per share, versus prior guidance of $0.38 to $0.42 per share.

Non-GAAP net loss is expected to be in the range of $6.5 million to $8.5 million versus prior guidance of $10.1 million to $12.1 million, or a loss of $0.12 to $0.16 per share versus prior guidance of $0.19 to $0.23 per share. I would like to add that the profile of the GAAP and the non-GAAP net loss in the second half should mirror the pattern of the adjusted EBITDA that I outlined earlier.

For modeling purposes, we would like to provide the following additional information. For calculating EPS, we expect our shares to be 52.6 million for the third quarter and 52.1 million for the full year. We expect our taxes, which relate mainly to foreign subsidiaries, to be approximately $137,000 for the year.

As a reminder, we have substantial NOL carry-forward balances. As of December 31, 2015, the NOL was $124.4 million at the federal level and $85.2 million at the state level.

Our capital expenditures for the full-year are expected to total approximately $9 million to $10 million, compared to the $8.7 million to $9.7 million range provided on May 10, 2016, of which approximately $3 million are planned for the third quarter. In summary, we are very pleased with our second quarter. We will continue to be focused on driving solid revenue growth and driving towards an intermediate term model of 20% plus adjusted EBITDA.

Lastly, before we turn to your questions I would like to mention our upcoming conference participation. We will be presenting at the Pacific Crest Annual Global Technology Leadership Forum in Vail on August 9 and at the Canaccord Genuity Growth Conference in Boston on August 11.

Now we would like to open the call for questions. Operator, please go ahead.

(Operator Instructions) Richard Baldry, ROTH Capital.

Given one of your primary competitors was acquired recently, could you talk maybe about any changes to the competitive landscape you have seen since then, sort of in head-to-head engagements or the amount of times you are seeing them in deals versus prior to the acquisition? Thanks.

Sure, Rich. It is an interesting time in our space and I think the acquisition of one of our competitors recently I think, in general, shines a nice spotlight on our space.

From a competitive standpoint, we view this as a very, very positive development. It is not often that a company is acquired that doesn't get distracted and end up losing people and partners and customers through that process. So we are already seeing the beginning of the benefits of that transaction and I expect most of the benefits to actually be in the future, but we think from a competitive standpoint this is a very good development.

Then just on the new revolver facility, can you talk about if there is any restrictions on that in terms of your flexibility now, whether it may be improved to do acquisitions and fund it either out of that facility or out of cash, but with no need to hold certain amounts of restricted cash against those balances? Thanks.

Rich, we are very happy with our new facility. We do have two covenants in there: liquidity coverage ratio and a minimum cash and undrawn portion of the revolver commitment of at least $25 million. We have done these models very carefully and we have ample, more than ample, room to meet those covenants.

In terms of the specific question with respect to flexibility in acquisitions, that is identical to what it was before.

Great. Thanks and congrats on a great quarter.

Raimo Lenschow, Barclays.

Congrats on a great quarter. I had a couple of questions. First of all, Mike, could you talk a little bit about the strength in the enterprise business? It seems to keep accelerating here.

I am just wondering was it just a good execution quarter or are we actually growing even higher on the growth rates than what we have seen before.

Raimo, I would be happy to comment on that. Our enterprise business is continuing to accelerate and has been accelerating for several quarters, as you have seen in our subscription revenue metric. A big part of that, as I have said before, is just the payoff of our ongoing investments in sales capacity at 30% to 40% year-over-year growth. We have been making those investments at that pace since our IPO eight quarters ago.

There is a lag in terms of the payoff from those investments, but we are also getting layered benefit on top of that from the channel expansion that we are beginning to benefit from. So as we do a little bit more and more through channels on top of that, we expect that to be layered growth on top of the growth in enterprise bookings and revenue.

There is also a market phenomenon here. It is not just our ability to execute very consistently and scale that sales organization and scale those channels, but we have also hit a very, very important inflection point in our market of customer experience and adoption of cloud. We are at the intersection of both of those trends.

If you look at Salesforce and Service Cloud, companies like Zendesk, these are the CRM partners of ours that are helping enterprise customers provide a better customer experience. We are tightly integrated with them. These enterprises are very, very focused on raising the bar for customer experience and we are one of the two major technology components in any customer service equation.

Okay, perfect. That is very clear. Then can you maybe talk a little bit about the drivers for the dollar-based retention improvement that has been coming a few quarters now? And like talk a little bit about drivers, but also where that can go or is the 100 that you achieved there at that level?

So we have seen our annual dollar-based retention rate increase from roughly 94% I believe four quarters ago to 100% this past quarter. That is a very good increase; most of that is coming from our enterprise business. Again, part of it is the mix shift.

More and more of our revenue is in the enterprise category. We have talked for a long time about the fact that our dollar-based retention rates are significantly higher in enterprise than they are in our commercial business. So part of it is just formulaic, but even within that enterprise business we have seen nice increases that are driving that number north. Again, we don't guide on that number going forward, but at the same time the trajectory or the trend in the rearview mirror here has been very, very good.

Then one last question for Barry maybe, if I am allowed. Obviously, I like the leverage and it is amazing; it is really good to see what you do on G&A and R&D. But the other question that comes in obviously with it, and I'm sorry to ask it, is if you look on a dollar basis you are declining G&A and R&D, but you keep growing the business at a faster rate.

Do you expect at some point that will turn around? In other words, how much leverage can you get out of here with that before this has to start turning? Thank you.

Raimo, just to clarify your question is in terms of turning around on G&A and R&D, is that right?

Correct, correct, yes.

So you are right; we actually have had a very minor, in fact, reduction in the case of G&A and flat R&D basically. And in terms of G&A we will keep those increases in the very low single digits, extremely low. We have the management in place. We have got the systems in place and there will only be basically transactional increases.

In R&D, it's much the same, although we have got a pretty big R&D organization. But there will be some more growth on that side of the equation.

Good, perfect. Thank you. Well done.

Mike Latimore, Northland Securities.

Great. This is [Nick Altman] filling in for Mike. Just a couple of quick questions. One, are you guys still on track to grow your enterprise sales headcount by 30% to 40%? And then I guess if you guys could provide any color as to where in that process you guys are that would be great.

Happy to do it, Nick. Yes, we are on track to continue to grow our quota-bearing sales capacity in enterprise at 30% to 40%. That is our strategy, that is our plan; it has been the plan since IPO and will continue to be our strategy going forward.

Again, we don't hire in a perfectly straight line, but we have been very consistently growing that sales organization at that rate and continue to do so. And expect to continue to do so in the future.

Okay, thanks. Then in terms of bookings on the quarter, what percent of wins were against cloud competitors versus on-prem?

I track that actually as a percent of opportunity. So we look at all the opportunities out there that we see in a quarter and about half of the opportunities we are in, we see one or two of our key cloud competitors, and the other half, they are not there. It is a great indication of the size of this market.

It is, as I have said on the prepared remarks, a massive market that is still around 10% penetrated in terms of the cloud. 15.8 million contact center agents around the world and we are in the very, very early days, in the first inning of a nine inning ballgame, if you will.

Great, thanks.

Nikolay Beliov, Bank of America.

This is Joyce Yang for Nikolay. Congratulations on the great quarter, guys.

I wanted to ask a quick question, Mike, on how you are thinking about the go-to-market mix going forward. You are obviously ramping up on the sales team, as well as the channel seems like it is doing very well as well. So where are your investing priorities among those pieces?

Joyce, I will give you a little insight here. Again, enterprise versus commercial is the first breakdown I should give you. As we have been doing for several quarters in a row, enterprise is the area of investment.

Our commercial business has been growing in and around the 10% rate for quite some time. It is now 33% of our revenue and we will continue to invest in and around 10% sales capacity growth for that commercial business.

On the enterprise side, our direct salesforce will continue to grow at 30% to 40% year over year and we will layer on those additional channel partners. An individual by the name of Wendell Black joined us a few quarters ago and he is absolutely hitting it out of the park. He is doing a great job of signing new master agents and resellers into the equation.

I talked on the prepared remarks about some of the growth in that channel, as well as the bookings in that channel. Again, it is early, early days, but we are making significant investments there. The good news is there is leverage in those investments and the ROI we are getting in that channel is pretty significant.

Got it, sounds good. And just one more, please. Can you give us an update on your international growth strategy there and if you are seeing any impact from Brexit from the recent quarters?

Yes, happy to, Joyce. International continues to be a great opportunity for us. We have made the initial steps to go into Europe. We have also made some initial steps in Latin America. Those are both performing very, very well.

Again, it will be a game of small numbers for quite some time here, but I really like what I see in terms of our traction to date.

Great, thank you.

(Operator Instructions) David Hynes, Canaccord Genuity.

Good quarter. Mike, wanted to ask you about the change in WFO partners with NICE buying in contact folks. How material is that to your business? How does it affect the go-to-market strategy? Just kind of any color; how easy was that to do? Help us think about that.

As you saw, we announced a partnership with Calabrio. We have already had partnerships with companies like Authority and CallMiner. You will continue to see further announcements from us in terms of partnering with additional WFO solutions.

The good news for us is that we are the contact center of choice in the cloud to some extent for most of these WFO solutions. Now that NICE and inContact have paired up, it actually creates a great opportunity for us to be the partner of choice amongst many WFO companies. They are leaning in hard and we will continue to sign more and more of them as partners.

Okay. And then maybe one on the professional services side of the business. It is increasing a bit as a percentage of revenues, which tells me the new deal flow is obviously healthy, but also maybe suggests you are seeing some pricing leverage as you sign larger customers. I know you have a relatively new leader in that team, so just curious what you are seeing on the professional services side.

And then the follow-up to Barry would be at what percent of revenue does the professional services business become profitable?

I will take the first part. Yes, you are right; I mean the deal flow, that PS revenue growth, is a good indicator of our deal flow and the increase in our bookings. But, again, part of that is volume driven, part of it is just pricing driven.

As I think I have mentioned in the past, not only have we increased our implied or imputed hourly rate for our professional services, we have also increased the number of hours that we are bidding and including in SOWs with enterprise customers. So we have seen the percentage of our bookings that are PS go up dramatically over the last, I would say, six quarters and that is really what is behind a majority of that growth in PS revenue.

In terms of the attainment of profitability, let me both answer the question that you asked and the timing. It is good progress that we are making. It is actually, as you referred to, we've doubled our percent of revenue in the last couple of years from 3% to 6% and the profitability has improved despite making very considerable investments.

We will take some time to get that to breakeven and then into the single digits of profitability. And that period is measured in quarters and years, not months. In terms of the percent of total revenue, it's never going to be a very material part, maybe a high single digit, at best low double digits.

Got it. Okay, great. Thanks, guys. I will pass the line.

Jeff Van Rhee, Craig-Hallum.

Good evening, guys. This is Ryan sitting in for Jeff. Just a couple of questions and first to start with, can you just comment on the trend in the price per seat? I know before it was around $200. Have you seen any changes in that price in the recent quarter?

Yes, in general, that price per seat or the revenue per seat as we talk about it, Ryan, has gone up about I think around 5% in the last four quarters. Is that accurate, Barry?

That's approximately right, yes. And continues to remain firm as we add -- remember we are talking here about revenue per seat and, as our enterprise sales team adds a host of different products, we see that revenue per seat remaining firm and increasing.

Great, thanks. Then just on deal count, any commentary you can give there about how the deal count -- the absolute number of deals has trended?

That number continues to go up and to the right, Ryan. Again, as we grow our salesforce for enterprise, we continue to do more and more transactions every quarter. They are growing in size and those are a dual benefit, so to speak, in terms of what is driving our bookings growth.

Great. And just lastly, have you seen any changes in time to go live on, say, a 100-seat deal?

No, we actually have had very, very consistent -- in fact, I looked at a dashboard yesterday that my PS team gave me that showed time to go live. We have had very, very consistent number of days to go live across our enterprise customers in general.

Okay, great. Thanks, guys.

Brendan Barnicle, Pacific Crest Securities.

Thanks so much. Mike, in your prepared comments you talked a little bit about the legacy vendors that are still out there. Clearly you guys are taking share from them pretty dramatically.

What are they doing? We saw NICE do an acquisition; that was maybe one response. What are some of the other responses you are seeing out of some of the legacy vendors right now?

I think the number one legacy vendor is Avaya and they continue to go through just a huge transition. As I am sure you know, have retained some bankers to figure out their strategic alternatives. They have got $6 billion in debt and they are going in the wrong direction, from my perspective. Again, that is good for us; it is very good for us. They are not moving to the cloud.

Genesys is really the next in line. They have made a number of acquisitions that are still trying to be put together into a cloud platform that delivers scale and reliability. From our perspective, we don't think they are making very good progress.

And if you look at Cisco, they continue to focus on other parts of their business. So it is a -- again, it continues to be a very, very good time because most of the legacy players, the ones that really matter, the ones that have large share, are really under investing in terms of shifting to the cloud.

The other thing, Mike, we have seen people like Zendesk and some of your other partners investing in bots and machine learning and looking at some of the ways that will apply on some of the CRM side. Do you envision a role for some of those technologies in some of the call center things that you are building out now?

Yes, we definitely do. In fact, we see an integration opportunity with all those technologies. In some respects, we view our job in the contact center/customer service market as the routing engine. And we can route really any type of interaction, whether it is a phone call, an email, a chat, a message, for example.

But also, when you talk about artificial intelligence and bots and machine learning, again we have an opportunity to leverage our predictive analytics, our natural language processing engine. We are doing that for a lot of enterprise customers these days and helping them really predict next-best actions, for example, for live agents. And so we do see an increasing role for bots and artificial intelligence in the contact center.

Terrific. Thanks a lot, guys.

Scott Berg, Needham & Company.

Mike and Barry, two quick ones for me. First of all, Mike, if you look operationally at the business and how you are trying to go into Europe, with all the changes that will happen with regards to the Brexit, what do you have to do operationally different there?

My first assumption is there is probably a mainland datacenter that has got to come online. But outside of that would there be any other changes to foresee over the next 12 to 18 months?

Scott, if you don't mind, I am going to take that one. Currently we do have a mainland backup datacenter in Amsterdam, the primary one in Europe is in Slough outside of London.

To be perfectly candid, we don't see any major impact in the near term. First of all, Article 50 has not yet been triggered so it is going to be quite some time before anything concrete happens. Our focus was always in the UK and the Nordics; at least two of the Nordics will not be affected.

In the fullness of time, as that business grows, both in terms of direct and in channel, we will establish a further presence, as we always planned to, in the continent probably in Germany.

Okay, great. A follow-up question. Sales capacity; certainly understand the 30% to 40% growth in your sales results recently speak to your effectiveness there. But Barry, just trying to understand why your sales and marketing expense on a non-GAAP basis for the second quarter was actually sequentially lower than Q1.

Just didn't know if there was some abnormality in that quarter. I would have expected it to be sequentially higher at least.

Q1 is -- overall, not just in sales and marketing, has the headwind of the recalibration of FICA and other employment taxes and it is pretty material for a company of our size. That is the biggest single factor in the sequential decline.

And I will layer on one more comment here, which is the timing of sales hires. That is a significant impact on our sequential sales and marketing expense. Again, as I said, earlier on the call, it is not a straight line. If we have compensation expense for enterprise reps that's starting the very first day of a quarter versus toward the end of a quarter that is going to impact the sequential numbers.

And I would say the other impact is marketing. Marketing is also not growing in a straight line.

Great, that is all I had. Thanks for taking my questions.

We have no more questions at this time, so I turn the call back to management for any additional or closing remarks.

Thank you, everyone, for joining the call today and for the opportunity to share our optimism around Five9's future. The market appears to be genuinely inflecting, as I said before, as contact centers modernize and as legacy vendors continue to under invest and struggle to some extent.

With our fully-featured and trusted solution, Five9 is increasingly viewed as the safe choice by enterprises. We look forward to continuing to update you on our progress in the future. Thanks for joining us.

That does conclude today's conference. We thank you for your participation.