Smartsheet Inc (SMAR) 2021 Q2 法說會逐字稿

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

I would now like to hand the conference over to your speaker today, Mr. Aaron Turner, Investor Relations. Thank you. Please go ahead, sir.

Thank you, Christine. Good afternoon, and welcome, everyone, to Smartsheet's Second Quarter of Fiscal Year 2021 Earnings Call. We will be discussing the results announced in our press release issued after the market close today. With me today are Smartsheet CEO, Mark Mader; and our CFO, Jennifer Ceran. Our Chief Product Officer, Gene Farrell, will also be available during the Q&A.

Today's call is being webcast and will also be available for replay on our Investor Relations website at investors.smartsheet.com. There is a slide presentation that accompanies Jennifer's prepared remarks, which can be viewed in the Events section of our Investor Relations website.

During this call, we will make forward-looking statements within the meaning of the federal securities laws. We have based these forward-looking statements largely on our current expectations and projections about future events, financial trends and our expectations around the impact of COVID-19 on our business. These forward-looking statements are subject to a number of risks and other factors, including, but not limited to, those described in our SEC filings available on our Investor Relations website and on the SEC website at www.sec.gov. Although we believe that the expectations reflected in the forward-looking statements are reasonable, our actual results may differ materially and adversely. All forward-looking statements made during this call are based on information available to us as of today, and we do not assume any obligation to update these statements as a result of new information or future events, except as required by law.

In addition to the U.S. GAAP financials, we will be discussing certain non-GAAP financial measures. A reconciliation to the most directly comparable U.S. GAAP measure is available in the presentation that accompanies this call, which can also be found on our Investor Relations website.

With that, let me turn the call over to Mark.

Thanks, Aaron, and welcome to our second quarter 2021 earnings call. Q2 results exceeded the guidance we provided on our Q1 earnings call. Revenue was $91.2 million, up 41% year-over-year, and billings were $97.3 million, up 22% year-over-year. These results are a reflection of the stabilization we're seeing in the market and the green shoot signals we're seeing from customers. We're confident in the value of our offerings, the investments we're making in our future and our opportunity to help enterprises adapt to a reality that demands rapid transformation.

We added 500,000 new users in Q2, the largest sequential increase we've seen in the last 8 quarters. That brings our total number of both paid users and collaborators to over 7 million. This reflects the fact that our value proposition is resonating with customers.

Expansion within our base included 235 companies increasing their annual recurring revenue or ARR by more than $25,000, up from 173 in Q1; 79 increasing their ARR by more than $50,000, up from 51 in Q1; and 19 increasing their ARR by more than $100,000, up from 15 in Q1. These expansions, despite the macroeconomic headwinds, reflect a wide range of customers leaning in on their use of Smartsheet to empower their people and teams to address critical challenges, including those presented by COVID. It reinforces the findings of a recent Harvard Business Review study that found that 80% of business respondents agreed that agile and innovative employees enabled by the right technology have played a big part in ensuring business continuity and success during the pandemic's disruption.

Global Medical Response, GMR, an organization with 38,000 clinicians and support personnel in more than 4,000 communities has increased its use of Smartsheet, specifically our dashboard capabilities, to communicate COVID-related treatment data to government agencies, track consumption of PPE and provide real-time information to their national communications hub in Dallas. Doing so enables GMR's leaders to make faster, more informed decisions that ultimately better serve critically ill patients.

One of the world's most disruptive companies, known for its on-demand transportation and food delivery businesses, leverages Smartsheet forms, control center and dashboard capabilities to drive their global marketing campaigns, including intake requests, launch and execution efforts and multi-stakeholder reporting. The global CRM campaign team reports dramatic benefits since implementing Smartsheet, including increased return on ad spend, shorter campaign cycle times, a reduction in tools required to execute thousands of campaigns and increased campaign volume per project manager.

In addition to expansion within existing customers, we saw some noteworthy new deals in Q2. For example, the largest network of pediatric medical practices in the U.S. invested in Smartsheet to drive a standardized process by which to manage a rapidly expanding portfolio of acquisitions. Our M&A Accelerator served as the foundation of the 6-figure deal in Q2 and provides the customer with consistency and visibility across their M&A projects and processes.

COVID and the challenges associated with it are simply another reminder that the only constant in the world is change. Businesses, regardless of size, are seeking new ways to address the pressures, changing expectations in a digitally transforming world. A significant part of the challenge is that many businesses continue to labor under the belief that simply digitizing or using cloud-based versions of their traditional collaboration, workflow and content management apps will solve the problem. We believe that is only a partial solve. A lack of integration between these apps means that critical information about the work being undertaken does not flow easily and quickly throughout the organization, inevitably resulting in missed opportunities and inefficiencies. These well-intended, but cumbersome solutions leave enterprises ill prepared for a reality that demands rapid transformation. To effectively compete, businesses must work more dynamically to simplify, streamline and integrate how work is initiated, managed and delivered by the people and by their teams.

The future of work is about creating impact from the edge, empowering individual users and teams to innovate for the company as part of a dynamic workforce. Achieving this means empowering people as agents of change by both enabling and integrating 3 key areas: one, the ability for them to dynamically act in the moment, not just collaborating with colleagues, vendors and customers, but having that collaboration lead to action in real-time; two, to create and shape flows that are right for the challenges and the teams involved; and three, to impact the business by bringing more than a project to completion, but making the most of change, actually improving and innovating processes in a way that creates true competitive advantage.

Successful businesses will achieve maximum impact by their ability to work dynamically in how they collaborate and build effective workflows. Among other things, those workflows are the means by which digital content is distributed through marketing activities, sales motions and nearly all other day-to-day business operations.

With our acquisition of Brandfolder announced on August 24 and its leading digital asset and content management capabilities, we strengthened our platform for dynamic work with a solution that both deepens cross-team collaboration and enables content workflows and distribution. In addition to supporting the logistics of digital content workflows, Brandfolder's capabilities provide insights and analysis on the discoverability and usage of assets throughout the entire content life cycle for both internal and external stakeholders.

Along with the resource management capabilities we offer via 10,000ft, Brandfolder deepens Smartsheet's ability to deliver a set of elite end-to-end capabilities for marketers to become the application for delivering excellence in marketing operations. By offering an expanding range of marketing-specific capabilities and solutions that integrate with our core platform, we enable marketing teams to dynamically execute, distribute and report on the effectiveness of their work.

We introduced other meaningful enhancements to our product this quarter. Among them, a new admin center, which provides an enterprise-class experience for our sys admin community and streamlines how our largest customers manage, govern and act on information regarding their accounts. Control Center is part of our Smartsheet Gov offering. Control Center now provides consistency and visibility at scale by automating project creation, aggregating portfolio reporting and managing change, while adhering to the federal government security and compliance requirements. And Bridge, a no-code business process automation engine that triggers actions and can enable cross-platform workflow orchestration. Soft launched in early July, Bridge has generated significant interest among our largest customers and will make a meaningful impact on how they connect their data across platforms. We look forward to unveiling additional product offerings and enhancements at our fourth annual ENGAGE global customer conference on October 1. Hosted as a virtual event, we have received over 25,000 registrations with almost a month to go. We are very encouraged by this early response, and we hope you'll join us again this year.

Finally, and before I close my comments, I'd like to touch briefly on our success attracting world-class leadership talent at all levels of the team. Since the beginning of the year, we've added several senior leaders with operating experience from companies such as ServiceNow, Amazon and Microsoft to help us scale the business. I'm energized by the new ideas these leaders are bringing to the table, and I look forward to the results they'll help deliver.

With that, let me now turn the call over to Jenny to provide additional details on our financial results. Jenny?

Thanks, Mark, and welcome, everyone. Overall, we delivered financial results above the guidance we issued last quarter, which reflected improving buying trends from customers. Revenue came in at $91.2 million, up 41% year-over-year, and billings were $97.3 million, up 22% versus last year. Our non-GAAP operating loss and free cash outflow also came in better than expected at $7.4 million and $4.4 million, respectively. We remain well capitalized with $546 million of cash on the balance sheet and no debt at the end of the quarter. Following our recent acquisition announcement, we plan to use approximately $124 million of our cash for the purchase of Brandfolder, which we expect to close this month.

Next, I'll provide more color on our second quarter financial results. Unless otherwise stated, all references to our expenses and operating results are on a non-GAAP basis and are reconciled to our GAAP results in the earnings release and presentation that was posted before the call.

As we mentioned, second quarter revenue came in at $91.2 million, up 41% year-over-year. Subscription revenue was $83.6 million, representing year-over-year growth of 43%. And services revenue was $7.6 million, representing year-over-year growth of 20%.

Turning to billings. Second quarter billings came in at $97.3 million, which exceeded our guidance as we saw a steady improvement in purchases from customers throughout the quarter. As a result, we ended our formal COVID accommodation program at the end of June. As a reminder, this program offered customers who were materially impacted by COVID extended payment or quarterly or semiannual billings terms. The estimated impact on billings from these special terms in the second quarter was approximately $2 million. And for the quarter, approximately 89% of our subscription billings were annual, with 8% monthly. Quarterly, semiannual and multiyear billings represented 3% of the total, and this is consistent with what we saw in the prior quarter.

Moving on to reported metrics. We now have 10,049 customers paying us $5,000 or more per year, 1,131 paying more than $50,000 or more per year and 433 now paying us $100,000 or more per year. These customer segments grew 31%, 78% and 92% versus a year ago, respectively, and now represent 78%, 41% and 28% of total ARR.

Our domain average annualized contract value, or ACV, grew 40% year-over-year to $4,156, and we ended the quarter with a dollar-based net retention rate of 128%, in line with the guidance we provided on our Q1 call. Full churn rate was stable and rounded up to 8%. We expect our dollar-based net retention rate to remain under pressure until we lap the headwinds we've experienced this year. As such, we expect our dollar-based net retention rate to trend down to the mid-120s in Q3.

Turning to gross margin. Our total gross margin was 82%, 1 percentage point higher than the prior quarter, driven predominantly by subscription revenue representing a higher proportion of our revenue mix this quarter. Our subscription gross margin was stable at 87%. During the quarter, we substantially completed our migration to the public cloud, which will help us to scale and plan for in-country data residency.

Moving to operating expenses. Sales and marketing expense as a percentage of revenue was 51%, approximately 7 percentage points better than the prior quarter and 4 percentage points better than the year ago quarter. The improvement was driven predominantly by lower marketing and travel expenses. Note, we expect to see an increase in marketing investments in the back half of the year for ENGAGE, our annual customer conference, and other marketing programs. Research and development as a percentage of revenue was 24%, in line with the prior quarter and approximately 5 percentage points better than the year ago quarter. General and administrative expense as a percentage of revenue was 14%, in line with historical ranges.

Operating loss in the quarter was $7.4 million, and free cash flow was negative $4.4 million. Cash burn was lower than expected due to stronger collections in the quarter, combined with cost management. Our personnel expenses represented 73% of our total expenses.

Let me move on to guidance. As Mark mentioned, we announced the acquisition of Brandfolder on August 24 for approximately $155 million in cash and stock. We expect Brandfolder to close later this month and to contribute approximately $2 million to revenue and $6 million to billings this fiscal year. Additionally, we expect the incremental impact to second half operating loss to be negative $10 million. Brandfolder has been operating at cash flow breakeven, and we expect to spend an incremental $2 million of free cash flow in the second half of fiscal year '21 to support their growth and integration into Smartsheet. For purposes of our guidance below, we are including the expected results of Brandfolder as if the transaction closes as expected in mid-September.

For the third fiscal quarter, we expect revenue to be in the range of $94 million to $95 million, billings to be in the range of $104 million to $106 million, operating loss to be in the range of $28 million to $26 million and non-GAAP net loss per share to be between $0.23 and $0.22 based on weighted average shares outstanding of 120.5 million. Our free cash outflow is expected to be in the range of $10 million and $8 million.

For the full fiscal year, we expect our revenue to be in the range of $367 million to $373 million, operating loss to be in the range of $66 million to $60 million and non-GAAP net loss per share to be between $0.54 and $0.49 for the year based on approximately 120 million weighted average shares outstanding. We expect free cash flow outflow to be at least $30 million for the full fiscal year.

And with that, I'll now turn it over to the operator for questions. Operator?

(Operator Instructions) Your first question comes from the line of Terry Tillman from Truist Securities.

It's nice to see the stabilization improvement. My first question, maybe, Mark, for you. Seeing these larger customers, $100,000 or $500,000 (sic) [$50,000], that's vastly different than $5,000,000 (sic) [$5,000]. I'm not that bright, but I can see the big difference there. I'm curious, though, what are the cohorts of those larger customers look like? Do they tend to be larger businesses or are they just more of like a mid-market business that's very digital and nimble and they just use a lot of the capabilities to power their business? Are you starting to see any kind of trend in terms of the type of business that is these more sizable ASPs? That's the first question.

Yes, typically, the larger transactions do map to larger entities. However, as you look to provide additional value to customers through capabilities, now with Brandfolder as well, there are companies that I would class as midsize, who could absolutely be 6-figure customers of Smartsheet. But to date, the mapping is largely size of customer typically trends with higher ARR.

Okay. And then, Jenny, just a follow-up question. I think you put it in the Q, but can you give us an update on international as a mix of total? And how do we think about the investments you've been making internationally now with public cloud and having that in-country? Could we start to see that even lift or accelerate?

Yes. Sure. So it's roughly 20% of our revenue right now. And we did start in the U.K. a couple of years ago, and we are doing well with the reps there. We have over 40 reps now in the U.K. With respect to Australia, we just got started this year. We're just finishing ramp of about 20 quota-carrying reps. And so it's still relatively small, but we see a big opportunity there.

Your next question comes from the line of Alex Zukin from RBC Capital.

I guess maybe the first one for Mark. Can you go through kind of what you saw specifically in the field around the improvements that you talked about on the call in terms of the deal cycles, the pipelines and kind of where as we are coming out of August, any update on kind of how that's trending?

And then for Jenny maybe, when do we, in your mind, start to trough on that dollar-based net expansion metric and ultimately start to kind of come back up?

Yes. I'll speak to what we saw in the quarter. We did see a month-to-month improvement throughout the quarter. As I shared on the last call, we had a healthy pipeline coming into the quarter. And while conversion rates against that pipeline are not yet at pre-COVID levels, we did see stair-step improvement throughout. So that was really good to see. We did have our largest pipeline build month just set again in August. So customers are engaging in conversation. They're interested in how we can add value. And we're hopefully looking to extend this pattern into the second half.

And then with respect to the retention rate, we are still kind of in the midst of some of the initial downgrades and expansion pressures we saw starting in April as a result of COVID. So we're going to need to get through the 12-month period before we start seeing dollar net retention rate improve. We do see that it will. It could improve. But we could see a dollar net retention rate kind of coming into the end of the year of somewhere in the low 120s to mid-120s.

Got it. And if I could just sneak one more in around Brandfolder. Is there any sense you can give us on kind of the before write-down what the size of the revenue was and kind of how that's going to ramp back up next year?

So did your question was around the revenues around Brandfolder?

Yes.

Yes. So right now their ARR is in the low double digits. We are not seeing that much revenue as we start off because of the accounting related to that acquisition. But next year, we expect it to continue to grow in the high double digits.

Your next question comes from the line of Ittai Kidron from Oppenheimer.

It's Ittai. A couple of questions for me. First, Mark, on the business side. Can you talk about accelerators and the Fed vertical, how did that look in the quarter? And then I have a follow-up.

Yes. On capability-based sales, it was a good quarter. So they remain an integral part of our go-to-market. It's one of the reasons why we're continuing with our strategy to add value with marketing solutions, Brandfolder now coming into the family. So that continued to resonate.

On the Fed side, we did have our best quarter to date, which was great for the team to see. In the grand scheme of things, it's still a small contributor, but it was really good to see the team take a step in the right direction.

Great. And then Jenny, on the billings, I want to dig into that. I mean, you had a nice outperformance here. Maybe you could talk about the components of that. And also with respect to your billings guidance, if I take Brandfolder out of it, somewhere around the $100 million, I guess, billings for your core Smartsheet growth excluding Brandfolder, which means low 20s growth. So you're not really assuming an acceleration again in billings, in year-over-year billings, right? It doesn't sound like you're seeing or you're not confident enough that billings will accelerate from this quarter that you just reported.

So Ittai, I think let's clarify that the $6 million we gave as their contribution, that's full year. And we're acquiring them sometime in the next 4 weeks. So if you think about their contribution to Q3 billings, it's actually quite small. So there is an acceleration in the organic business.

And then in terms of the contribution, just sort of the components of billings, I mean, we have a lot of strength in the enterprise, a lot of goodness going on there. SMB, still not quite back to where they need to be. They're still living some of the pressures of COVID, but we saw a really nice growth in our larger enterprises for sure.

Your next question comes from the line of Arjun Bhatia from William Blair.

And Jenny, I just wanted to follow up on that last point a little bit about strength in the enterprise. Certainly good to see the 79 expansions over $50,000. But I'm just curious when you're seeing these large expansions come through, are these new deals that are coming into the pipeline from customers looking to kind of urgently deploy Smartsheet or are these deals that were in the pipeline at the beginning of the year that are just now starting to close as customers get a little bit more confident on the macro outlook? Just maybe trying to understand the dynamics on the larger expansion deals that you closed this quarter.

Yes. This is Mark. And I mean, we continue to see a fairly short close cycle relative to businesses that maybe have a year or even extended time. So the discoverability of these opportunities are still in a fairly short fuse. I would say I wouldn't class them necessarily as urgent. People are being mindful about their business. I think there's extra scrutiny that they're applying and they're trying to have unlocks. So we're trying to be very responsive to those situations.

I think one of the things that's encouraging to see is, we talk about $50,000 opportunities and $100,000 opportunities, this was also a big quarter for us in the sense that we now have 10 customers who pay us over $1 million in ARR. And it's a testament to the team's ability to really elevate the value at substantial levels. And that's part of our ongoing strategy as we build this business.

That's great to hear. And then the other part that kind of stuck out in your prepared remarks, Mark, was the user growth. It seems like that's kind of staying at a healthy clip, and it seems like just from kind of what I can gather from what you said is that the free collaborative base is actually increasing a little more rapidly than the paying customers. Can you just maybe give us an update on how you're looking at converting those free collaborators over time? And is there in kind of this COVID environment where there's a little bit more cost sensitivity? Are you seeing customers trying to put more users into that free bucket and maybe convert them later over time? What are you seeing on the free user base?

Yes. I think it's a signal that people are needing to share right now. And we, since the very beginning of the company, have believed deeply in a low friction sharing model. And while we're thoughtful about how we can add value to those collaborators, our #1 job is to get people engaged with one another and add value. And we have a series of things that we're releasing at ENGAGE, where there will be opportunities to add more value to collaborators. But right now, it's about getting the community big and engaged. So we're really pleased to see.

And when we're talking about tailwinds, tailwinds can manifest themselves in different ways. It can manifest itself in a deal that you can book and you have ARR, you also have community size. So again, we're real pleased to see people coming to the platform right now.

Your next question comes from the line of Stan Zlotsky from Morgan Stanley.

Maybe just following up on some of the other ones that have been asked before. It's certainly great to see the step function improvements as you guys went through the quarter. But as far as what's embedded as far as macro improvements into your guidance for Q3 and for the rest of the year? And then I have a quick follow-up.

Yes. Thanks, Stan. Nice to hear from you as well. So we're not expecting a V-shaped recovery yet. We still think there's a lot of uncertainty in the back half, generally around the election, around when we will have the shots that will help us get over COVID. So in terms of our guidance, it's still guarded. We're kind of looking at what we just accomplished, what we see kind of right in front of our eyes, and that's how we're guiding.

Got it. And is that the rationale for not reinstating full year billings guidance, but giving us some free cash flow just directionally guide for the year?

Yes, exactly. I mean there's a bigger range of outcomes for billings in Q4. It could be quite positive. But until we really see us through Q3, we want to maintain no guidance.

Got it. And then maybe just if I could sneak in one more. Just on the customer metrics, certainly great to hear the 10 logos above $1 million now of ARR. When we look at the reported numbers, there's some deceleration that we're seeing as far as the metrics for customers paying more than $100,000 and $50,000 and $5,000. Is that just a function of net revenue retention and customers not "graduating" into those higher-tier buckets?

I think it's relative, right? We were in triple-digit zone for a long time, and our largest, I think, the over $100,000 is over 90% still. So I mean it's still a pretty impressive number. So we have to look at this also in the backdrop of the macro situation. And we continue to invest and cater to these customers to the best of our ability. We think there's still a huge upside to sell software and deliver value for our existing customers and new customers. So we're navigating through this to the best of our ability and we're going to keep the hammer down.

Yes. And maybe just to add on that. If you look at the change in the number of $50,000 and $100,000, they were actually slightly bigger than what we saw in Q1. So I think that's very encouraging.

Your next question comes from the line of Brent Thill from Jefferies.

Mark, on the pipeline build and some of the larger deals you closed, are there new areas that are opening that maybe you haven't seen before, new use cases that you're kind of getting more excited about that are starting to show good strength? And then, Jenny, just I think you'd mentioned off of Q4, you wanted to add more sales reps in fiscal '21 over last year. Is that still on track given how big this pipeline build is coming along?

Yes. On the use cases side, I would say we're still in the areas that have served us very well to date. So rather than sort of identifying new use cases, I would say it's deepening and then extending in the areas where we're already performing well. I think people are responding well to moving from -- we have solutions for marketers to looking at our vision and saying, we're going to be the elite provider for marketing operations. So the strength of those offerings is improving. And when we look at really like adaptive project portfolio management and marketing operations, those are 2 veins where we're really improving the hand right now. So I would say it's more of a deepening and improving than it is a new vector. And Jenny?

Yes. And with respect to sales reps, we continue to add where we see strong demand and a strong pipeline. And so we've been re-evaluating that every quarter and we'll continue to do so.

Your next question comes from the line of Michael Turrin from Wells Fargo.

Going back to some of the earlier comments, you mentioned stabilization on the large customer side. The $100,000 customer metrics still up more than 90% certainly seems to support that. Is there any more color you can maybe add on that upmarket stabilization and how that compares to what you saw across the other spend segments among customers, especially given some of the small business commentary last quarter?

I think the stabilization reference was made in the context of the broader market. And so what we're hearing from our peers, our fellow SaaS CEOs, other buyer sentiment from different categories. So it was not a statement specific to Smartsheet but more broader. And in terms of what we're seeing at the larger side, I think the mapping of higher dollar transactions to real business value, that is a fundamental requirement when you are selling at an enterprise level. So it is less about productivity wins, in general, feeling great about collaborating better, it's like what are you delivering for the business. And the company's ability to articulate that is, I think, directly mapped to whether they can sell high.

Okay. Great. And then the Brandfolder acquisition, is there any more you can tell us around that opportunity, what that could help open up going forward, whether it's cross-sell or reach into additional use cases as well?

Michael, this is Gene. I'll speak to the Brandfolder piece. When you look at Brandfolder, I think it's a continuation of the investment strategy we've had over the last really, call it, 1.5 years, starting with our Slope acquisition and then 10,000ft, to really build a set of capabilities to deliver elite experiences for marketing and marketing use cases. And we really chose that vein because we believe it's such a broad-based need across so many different industries and consistent with the signal that we hear from customers. So we think Brandfolder really brings a piece of the supporting marketing workflow, really bringing that content element into it, is a powerful piece that was missing before for us and we think really lets us kind of complete the play on end-to-end from creation through distribution. But more importantly, it brings content and digital asset management capabilities into our portfolio. And we are very bullish on opportunities beyond just marketing to extend those content management capabilities into our platform across a variety of other use cases.

Your next question comes from the line of Scott Berg from Needham.

Congrats on a good quarter. I guess the first one is for Gene. I just wanted to see if you can expand upon the Brandfolder comments a little bit, maybe more from a competitive dynamic. I guess what the acquisition bring to you that maybe other competitors don't have, in your mind, that can help create some further product separation?

Yes, Scott, I think there's a couple of dimensions to look at that. The first dimension would be in the collaborative work management space, where I believe that Brandfolder is a pretty unique offering compared to many of the other players that are trying to serve marketers. And we believe that it brings a first-class experience to our platform. And the addition of content and the way we can deeply integrate content creation workflows, content distribution workflows, the whole markup and approval process and the interplay between where content is managed, stored and shared, along with the workflow engine, we think will be differentiating.

And then beyond that, if you look generally at marketing and when we talk to marketing customers, what we hear is there are some very purpose-built, very kind of opinionated solutions out there that tend to not give them the complete solution, so they end up wiring together multiple platforms to try and make things work. We think that empowering a team to be able to configure end-to-end with our platform is going to be a differentiator for us.

Got it. Helpful. And then from a follow-up perspective, Jenny, I just want to ask a question on the third quarter guidance. Your guidance assumes about a, we'll call it, $18 million, $19 million step-up in operating expenses. I guess, how should we think about that difference? Some of it is obviously with ENGAGE. But maybe for the balance, how much of that is investment in maybe, I don't know, additional sales or marketing efforts given the improvement that you're seeing in the macro?

Yes. I mean we have our ENGAGE conference, so that's an incremental spend compared to what you see this quarter. We've got other marketing activities that we are involved in there. So that's a big part of it. We've also got some product things that we're doing. We're kicking off Brandfolder integration. We're spending on that. So those are kind of the major components, some operation and scale, continuing our efforts with SOX, another area of investment.

Your next question comes from the line of David Hynes from Canaccord.

Mark, I want to ask a high-level competitive question. So if I think about the platform, right, it's project management, it's data capture and dashboards, but I think the secret sauce is really in kind of the workflow automation. If that's the case and as you continue to have success in the enterprise, how do you view Smartsheet vis-à-vis the RPA vendors over time? Do you view them as competitive?

I think workflow is a huge category. And workflow is going to within businesses be utilized by a whole host of participants, core IT, business units, citizen devs. And what we're seeing is you have different offerings, which serve different participants most effectively. And what we've elected to do, I talk about impacting from the edge. We've been doing that for many years. The Bridge offering does really provide additional value to core IT and the citizen developer as well. So I think with RPA, it's a really great platform that targets usually very large workflows that are less nimble or requiring less dynamic work or change. It's more -- I shouldn't say set it and forget it, but it's much more heavy upfront investment on a very known, very deliberate process. And the CWM space is more dynamic. You have more fluidity in the process, the controls, how they need to respond to customer preference. And I would argue that, that is probably not best suited for a larger-scale, less-nimble platform.

Yes. Yes. Okay. That makes sense. And then maybe a follow-up, just in terms of the August pipeline build that you called out. Any change in the mix of new versus expand opportunities as demand continues to improve?

Not materially. No. We saw activity on both sides.

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

Want to go back, Mark, to a comment you made in your prepared remarks on kind of the difference between digitization versus digital transformation. Can you speak a little bit about the differences between those 2 and kind of how that pertains to you? And then I've got a follow-up.

Yes. I think I'll give you an example, which really builds on what Gene just spoke about with Brandfolder. So digitization might mean a digital asset that is stored in an online shared folder. It's digitized. It has a link and it can be given to somebody on the web team to post to a website. Digital transformation might be having an asset that you can deploy globally and be able to not have to actually ship product around. You can get insights into rep's activities. You can get insights into whether it's actually utilized. Those are the types of things that aren't provided by an online shared folder, which is what most marketers do today in managing their digital assets. So people might feel great about having that digitized asset, but is their process fundamentally different? Are they getting fundamentally different insights and able to change their flows accordingly? And I guess that's probably one that ties out to our most recent acquisition most directly.

Got it. That's really helpful. And then I want to just think, Jenny, about on the margin front. Operating margins clearly saw some. When I think about operating margins, right, you're getting some cost savings that I'm sure are coming through as a result of effectively having 0 T&E. As we kind of go forward and whenever there's a post-pandemic environment, how do you think about kind of the permanence of some of these COVID-related cost savings? Is some of that going to be permanent? Is it going to snap kind of back to a normal T&E budget and spending? Is there going to be some middle ground there? Any color there or direction would be helpful.

I mean, I think it's really too early to tell what it will look like kind of post-COVID. I think my own personal point of view is we'll gradually come back to certain levels. But clearly, with some of the different communication methodologies now that people are getting used to, there's a lot of efficiency to doing sales calls directly without having to travel. So I think there's going to be some benefits you see there. I think the one area that's going to be really interesting amongst companies is how they think about their workforce strategy and their facilities, whether they're all in office, whether there's a hybrid between work from home and in office. And I think generally, we could see some scale on that front post-COVID.

Your next question comes from the line of Walter Pritchard from Citi.

Two product-related questions for Mark, one on the free side. I'm wondering if you're being sort of more accommodative in terms of customers wanting to move people on the platform, but not having budget and if the free volume sort of represents traction that you're seeing in those types of users and an opportunity maybe even more so than in the past to monetize.

Yes. That is not a pattern that we've been observing. We haven't made accommodations to enable free users to have special privileges. So that is not something that we're observing today.

And then also just another COVID-related question, I guess. Are you seeing any of your customers look to consolidate multiple vendors in this category that they might have pockets of throughout their business as they just look to streamline things and sort of push towards more of a standard solution or are you still seeing sort of departmental and so forth, where it could be the norm in terms of initial footprint?

Yes. As we spoke to on our last earnings call, there were a couple of examples of some large-scale customers who did consolidate multiple vendors in our favor. But I would say we're still very early in this category. And I would expect that to be more pronounced maybe a year out, 18 months out. So again, we'll report out on notables when we see it, but I wouldn't say that's a huge emerging pattern today.

Your next question comes from the line of Steve Enders from KeyBanc.

I know you announced a couple of international partners in the quarter. I'm just wondering kind of what you're seeing within those efforts as you continue to expand in both the U.K. and Australia.

Yes. I think partners are a growing part of the business. When we think about being a leading company at global scale, it's not just about what you can deliver, but what does your ecosystem deliver and how does the ecosystem benefit. And one of the things that we're quite energized about is, as you look at what value a partner can bring to their customer when you do things like Brandfolder, when you do things like Bridge, when you look at the work we're doing that we announced at our last Analyst Day around enabling the building of no-code apps, these are all things that feed directly into what a partner value delivery looks like. So I would expect us to continue to lean here. We had a European partner do a significant expansion for us this last quarter, which was a great milestone. So we're starting to see that. We talked about some of these green shoot signals. That would be one of them. And we expect to continue to grow that footprint.

Okay. Great. And maybe for Jenny, just want to get a better sense. I think you said there was a $2 million impact in the quarter related to COVID on the billings front. Just wondering kind of what's built into expectations through the rest of the year there.

Well, as I mentioned, we ended our formal accommodation program. I also mentioned about 89% of our billings this quarter were annual, and my expectation for guidance is it roughly stays the same for Q3 and Q4.

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

Sorry about the delay. Mark, you had mentioned this healthy increase in the number of user adds in Q2, and I was just wondering if you can clarify. Did that seem to be boosted at all by the remote workforce trend? And maybe that drove some top of funnel and free collaborator seats? Or did you actually see a relatively more improvement in the paid user adds this quarter?

Yes. It's really tough to say, Mark, because when you're a business that runs multiple campaigns, makes a number of improvements, it's tough to attribute what caused it. So was it COVID? Was it the fact that our team substantially completed the AWS and the app performance increased dramatically? Like there are a number of factors that could influence it. So I think it's easy to sort of have revisionist history and say, this is what caused it. I think there are certain things that we did do that created a better experience, which may have served as a tailwind for us. But I would not say that -- I don't think we know enough yet to be able to say declaratively that COVID was the reason.

And in terms of the paid and the free collaborator, as you know, we report on an overall population. We don't break out on that dimension.

Okay. As a follow-up, Jenny, I understand it's very early to know with any kind of certainty. But just given what you can see today, would you think that fiscal '22 is shaping up to be a year of revenue reacceleration or do you think you'd still be kind of working through the lag effect of slower billings here in Q1 and Q2 and Q3, and therefore, maybe a deceleration is a little more appropriate thought?

Well, Mark, I don't think I can call the ball on that yet. It's really still early. I think we feel more optimistic that we saw the bottom in the last couple of months and quarter. And I'm optimistic that next year will be better, but it's too early to call the ball.

Your next question comes from the line of Keith Bachman from Bank of Montreal.

I wanted to ask one to Jenny and one to Mark. Jenny, I wanted to go back to net retention rate because I'm a little surprised that you expect it to decelerate from here. I'm not surprised that it came down in July at all. But if I think about the 2 drivers, churn and upsell, you've talked about the pipeline looks really promising and big deals, so I would assume that the upsell stays relatively constant. And while I appreciate that contracts will continue to roll over, I guess I'd be surprised and I am surprised that the churn rate might change. So can you just tie this out? What do you expect to get worse over the next couple of quarters between the 2 key variables of churn and upsell that would drive net retention lower?

Yes. Our churn has been stable. That's losing full logos. Where we've seen a degradation is on our expansion business. So net expansion, that would be upsells and downgrades. And it's still a very good number, but we've had more downgrades this year as a result of, for example, companies, like in the travel industry, who aren't generating any revenue at renewal. They're downgrading. Now I think there's a high likelihood they're going to come back when their business gets back. But it takes basically 4 quarters for that to flow through our dollar net retention rate because we look back 12 months ago. And so it stays in our calculation for 4 full quarters. I don't really know what Q4 is going to be yet, but I do feel that there's more downward pressure right now because of this phenomenon and how it's calculated. At the same time, when we get to Q1 of next year, I see there's potentially a tailwind on that.

Okay. Mark, I wanted to come back to you for a second on the competitive dynamics. And if you could talk about, a, what you're seeing as a consequence of the COVID economy in terms of any change of dynamics, particularly in pricing; and then b, I'm sure you know that Asana filed, and they seem to be growing quite a bit faster than you are and particularly, even if you just look at the April quarter, their results versus your results. And while that may not be the benchmark for the current quarter, just wanted to know if you wanted to offer any thoughts on because I'm sure we're going to get the question on why Asana is growing so much smaller, I mean, so much faster. It is a bit smaller than you are, but any thoughts there would be appreciated.

Yes. I think it's difficult without being in anybody else's boardroom or exec room to understand what the complexion of that revenue is. We have not seen a material change in who we see. We deeply inspect this. We look at our sales force comments. We talk to our sales team. We talk to our sales leaders. And the number of contested opportunities is still de minimis in the grand scheme of things. And I think partly that's a function of people flying at different elevations, right?

So as we go in to talk to someone about an enterprise workflow with Control Center, Dynamic View, our capabilities, and you compare that against another provider who, maybe, is more task oriented. They may be solving 2 different things, and we may never see that other person. So that's sort of the -- I think, when the diversity on what people are deploying, there has been such a dramatic shift in the last decade going from relatively few technology providers to a multitude of providers within a company. Over time, do I think companies will choose their winners and choose the people who they really want to go big with? I do think so. But we're still in this real proliferation when people are understanding what the possibilities are.

So on the growth side, when we look at -- I've spoken to the texture of revenue before. So are you getting a dollar of ARR from a Fortune 500 company with tremendous growth opportunity? Are you getting a dollar of revenue from a smaller business that maybe has lower growth prospects? We're really focused on continuing to pursue and cater all customers, but to be very mindful of how we serve those very capable firms that have long, long lives. And the penetration in our Fortune 500, Global 2000, it's very high and improving. And I think that's one of the things that we still remain very fixated on when we think about how we're performing relative to others.

And there are no further questions at this time. I will turn the call back over to Aaron Turner for closing remarks.

Great. Well, thank you for joining us, and we'll speak with all of you again next quarter.

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