Good day, ladies and gentlemen, and thank you for standing by. Welcome to the Fourth Quarter 2023 8x8, Inc. Earnings Conference Call. [Operator Instructions] At this time, I would like to turn the conference over to Ms. Kate Patterson. Ms. Patterson, you may begin.

Thank you, operator. Good afternoon, everyone. Today's agenda will include a review of our fourth quarter results with Sam Wilson, our Chief Executive Officer; and Kevin Kraus, our Chief Financial Officer. Following our prepared remarks, there will be a question-and-answer session. Before we get started, let me remind you that our discussion today includes forward-looking statements about our future financial performance including our increased focus on profitability and cash flow as well as our business, products and growth strategies. We caution you not to put undue reliance on these forward-looking statements as they involve risks and uncertainties that may cause actual results to vary materially from forward-looking statements. As described in our risk factors in our report filed with the SEC, any forward-looking statements made on this call and in the presentation slides reflect our analysis as of today, and we have no plans or obligation to update them. Certain financial metrics that will be discussed on this call, together with year-over-year comparisons, in some cases, were not prepared in accordance with U.S. generally accepted accounting principles or GAAP. A reconciliation of these non-GAAP measures to the closest comparable GAAP measures is provided in our earnings release and earnings presentation slides, which are available on 8x8 Investor Relations website at investors.8x8.com. With that, I'll turn the call over to Sam.

Much appreciated, Kate, and thank you for joining us today. Financial results reflect our company's ability to meet expectations and balance priorities. One year ago, we made the decision to turn our focus from near-term revenue growth towards expanded profitability and cash flow while continuing to invest in innovation for the future. Our fourth quarter and fiscal 2023 results are a reflection of these priorities. Let me walk you through the highlights of our performance. Service revenue growth was 2% in the fourth quarter as we anniversaried the Fuze acquisition and saw the expected year-over-year decline in CPaaS revenue. ARR mix continues to shift to enterprise customers with XCaaS deployments. Enterprise and XCaaS ARR were both up year-over-year with XCaaS increasing in the mid-teens percentage year-over-year. Furthermore, our CPaaS business was up quarter-on-quarter in the fourth quarter, a first step in the right direction. We invested more than $109 million in non-GAAP R&D in fiscal 2023, an increase of 42% from fiscal 2022 and nearly double what we spent in 2021. About 60% of the R&D spending is focused exclusively on innovations to drive revenue growth, including deep integration with AI technology across the platform, advanced analytics, UI/UX improvements, broad developer APIs and other efforts to expand functionality. We invest the remaining 40% of R&D in our best-in-class communications platform to deliver the quality of service, high availability and security our customers expect. This is much more than maintenance work. We see multiple opportunities to lead the industry forward in areas like platform flexibility, usability, simplified administration, self-service, accessibility and anything that results in the greatest possible reliability. These advances are often delivered automatically through our modern cloud-based architecture. Despite the lack of [ fan floor ], these micro innovations at the platform level are crucial to differentiating our solutions…

Thanks, Sam, and good afternoon, everyone. We remain financially disciplined and delivered solid revenue in the fiscal fourth quarter, exceeding our guidance range for non-GAAP operating margin and our expectations for operating cash flow for the fourth quarter and for the full year. We have now delivered positive cash flow and non-GAAP operating income for 9 consecutive quarters. Total revenue for the quarter was $184.5 million, and service revenue was $176.6 million, both increasing 2% year-over-year and within our guidance range. Our revenue performance reflected strong customer retention and renewals partially offset by a year-over-year decline in our CPaaS business in the Asia Pacific region as expected. However, revenue from our CPaaS business modestly increased sequentially from Q3 '23. Other revenue for the quarter was approximately $8 million, about $600,000 below the prior quarter driven by lower physical device shipments. We have seen a trend to increase use of soft phones versus desktop hardware over the last two quarters. It is still not apparent if this is a permanent or temporary change but our guidance assumes this trend will continue throughout fiscal 2024. Fuze accounted for $26.7 million of service revenue and $26.9 million of total revenue in Q4. Fuze's performance remains strong and the business continues to outperform our initial expectations. Please note, as stated on our previous earnings call, Q4 will be the last quarter we will provide separate Fuze revenue as the 1-year anniversary of this acquisition has passed and the businesses are now integrated. We have started upgrading Fuze customers to the 8x8 platform, making legacy Fuze revenue less relevant. As we mentioned in our previous earnings call, we continue to review our metrics to provide enhanced insight into business trends. In that vein, I would like to share the annual usage numbers in our service…

[Operator Instructions] Our first question or comment comes from the line of Matthew VanVliet from BTIG.

I guess, Sam, as you look at the overall trends you're laying out for the year, it seems like enterprise will continue to march a little bit higher, although the enterprise logo count did decline quarter-over-quarter. So wonder if you could just sort of connect for us what levels of churn you're seeing? And then what levels of sort of net new business you're assuming coming in? And how much you think is sort of purely attributable to the macro versus other factors that you're seeing in the market?

Thanks, Matt. So a few answers to your question. So first off, yes, we expect Enterprise to continue to grow. And overall, we're hoping that as our new products, which are mainly in beta right now and exits start to hit, we'll start to see back half of the year revenue acceleration. That's kind of what we're focused on. None of it's in the model right now. Kevin is always very cautious about it, and I appreciate that greatly from him. But we do hope that in the back half of the year, we'll start to see that and predominantly on the Enterprise side, because most of our -- as we said in the script, most of our innovation's on the contact center side. In terms of macro and some of the things that are going on, new logo versus installed base. Retention was, as Kevin mentioned in his script, at very high levels. Very happy with the retention numbers that we have right now. We are seeing some reduced new logo business. Is it macro? Is it the world? Is it shift to on-premise or whatever, I'm not 100% sure. There is just a little bit less right now. We've adjusted accordingly in the model, so I'm not too stressed about that. I'm more concerned -- actually have more focus on the fact that we have very high retention rates. And the macro will come and go. I think once the economy picks up, we'll probably see a bounce back in new logo. And as our new products sort of exit beta and hit GA, we should see an acceleration of new logo also.

All right. Very helpful. And then when you look at the R&D spend, obviously, getting to a more flattish mix of revenue as you gain more leverage there and have a number of new products in the market. How should we think about that rate, though, on maybe a 5-year horizon? Is it getting to the point where maybe similar dollar levels will be spent and that as the top line grows, you see leverage there? Or are there projects that are on sort of the tail end on the innovations side, whether it's some of these new contact center products or integrating AI that will give maybe incremental leverage over the top than just top line growth as we look ahead?

So Matt, let me answer the question as well. I would very much like to see our R&D translate into revenue growth, and I'd like to continue to grow the amount of money I spend on R&D. I would expect to spend around 15% with some variability based on various things going on, on a quarter-to-quarter basis. But as we grow revenues, I'd like to continue to grow the R&D. And let me tell you why. I don't view R&D necessarily as a place to get leverage anywhere in the next 5 years. The contact center market is a $220 billion, Mackenzie's number, labor market opportunity for us to go after. The customer experience and customer retention notion is really just that shift has just started in the last year or 2. And so I think there's such tremendous opportunities for value-add to enterprise customers. I don't want to -- I think I want to go after all those opportunities. That being said, I think we get continued leverage on sales and marketing, G&A and gross margins over time. So it's not that I'm implying to the Street that I plan on lowering my op margins at all. I just want to say, I think I get leverage on all those other lines while continuing to invest in R&D and grow revenues through innovation.

Our next question or comment comes from the line of Ryan MacWilliams from Barclays.

This is [ Damon ] sitting in for Ryan MacWilliams. Good to see that UC and CC traffic is increasing, can you provide any insight how your renewals are in the first quarter compared to the fourth quarter? And have you seen any changes in these customer renewals as a result of macro?

Okay. So Kevin can provide probably details. And I just want to -- I'm going to be careful how I answer this because you use the calendar quarters, I'm going to use my fiscal quarter, so my fiscal fourth quarter ended March 31. We had record high retention rates. So we've got really solid data given Fuze and everything else going back about 4 or 5 years, and we've had the highest retention rate. So our retention rates are even better than they were pre-pandemic and those kinds of things. And so I think that's -- a lot of that's driven by the fact that as enterprise becomes a greater mix of the business, we should be seeing higher retention rates, and we are seeing that. Kevin, I don't know if there's any you want to add here.

Yes, I'd just emphasize that. And I think we're seeing a lot of that improvement in the customer retention rates because we are making the right amount of investment in our customer success organization. So we're seeing that play through in customer retention. So good ROI on that investment.

All right. So I'll add maybe one more thing. Our collections and our DSO were absolutely fantastic. So not only are we seeing high retention, our collections, our aged receivables, our credit card default rates all of the things that you would expect to see that could be leading indicators to retention, all remain at just pristine levels right now. So knock on wood because I'm always nervous about that stuff, but all the leading signs we see around retention are also good.

Got it. Perfect. And then could you provide some insight into the linearity of operating margins over the course of fiscal year '23? Just wanted to try to understand what's factored into the 12.5 to 13 1Q guide versus the 12 to 13 fiscal year '23 guide?

Sure. So typically, what we see is -- it varies by quarter based upon calendar quarters. So you'll generally see more expense headwind in our January through March quarter, our Q4, as in the U.S., we have the restart of employer taxes for FICA and things like that and the 401(k) match we start at the beginning of the calendar year. Then starting in Q2, the July time frame, we also do our annual merit increases. So you'll see -- typically, we'd see a bump up in OpEx during that particular quarter then offset as we go throughout the calendar year of the things like employer taxes and so forth, gradually falling off. So that's basically the seasonality we generally have in our P&L. There are some other things in sales and marketing related to some -- maybe some industry conferences and trade shows that we attend, but generally, that's our seasonality on the expense side.

Our next question or comment comes from the line of Siti Panigrahi from Mizuho.

Very impressive margin expansion I understand you're benefiting from some of the restructuring or headcount reduction earlier. But as we look forward, I know you talked about you're going to spend on R&D, but what other initiatives you are taking that we can expect some kind of sustainable margin expansion going forward?

So on the gross margin side, we're continuously looking at our COGS costs, the carrier costs and bandwidth and things like that. And we've got a great underlying program of looking at various carriers to get the best rates, the best quality, et cetera. So that's a continuous process within the company for us on the gross margin side. On the OpEx side, I mentioned in my prepared remarks that we're continuously looking at automation of back-office processes sales and marketing. We're doing some interesting and innovative things there with lead gen efficiencies, conversion rate improvements from lead gen to convert it into an order. So there's constant improvement going on in those areas that we would generally refer to as efficiency to keep our operating margins at a flat or upward trajectory over time.

That's great color. And then, Sam, we keep hearing about small businesses in this environment, not ready to commit to any investment kind of thing. So what are you hearing in your different segments, small to mid-market and enterprise segment?

I think the small business segment, look, as I mentioned earlier, our credit card default rates and those kinds of things that we would look at because small business more likely to be on a credit card are all fine. So I think in general, small businesses are relatively healthy. That being said, I do think there's economic headwinds. I mean I can read the news as much as you guys can. So I do think there are some economic headwinds. And so I do think there's some reluctance to invest in that segment. I would also say that we're reluctant to invest in that segment. So that's the second factor. I mean, we've reduced our digital marketing spends and those kinds of things that drives that segment. I think in that enterprise side, you definitely see digital transformation, continued movement from on-prem to cloud. As I've mentioned at the NASDAQ market site and in other places recently, I mean, everybody is talking about MLAI technologies and the effects it can have on the contact center. We obviously have opened up our platform. We announced Converse360 this week on our platform and other leading MLAI vendors are integrating with our contact center platform. So I think that's a big opportunity for us to bring best-in-class MLAI solutions to market for our customers to go after sort of the opportunities around customer retention and the overall labor market around contact center.

Our next question or comment comes from the line of Meta Marshall from Morgan Stanley. Mr. Marshall, your line is open.

Maybe just a question for me. I know it's kind of hard to discern, but do you feel like it's your pipeline is still as healthy and it's just longer deal cycles? Or are you kind of seeing any changes to pipeline as well, maybe as a first question. And then the second question, I think what you guys are doing with the platform and opening it up is interesting. I guess just in your seat, how do you determine with your kind of $100 million plus R&D budget, how much of that to kind of focus on internal development versus utilizing partners for other things that could -- and kind of focusing on core competencies?

Thanks, Meta. So first, on your pipeline question, look, our pipeline numbers be planned for the quarter, so that's always a positive. So that bodes well, I think, for the future and potentially getting the revenues to reaccelerate a little bit more from on an organic side from 0% to 2% sequentially that they did that we can do better and the pipeline suggests we are. Obviously, there's timing. So as we go through this transition from small business to enterprise, small businesses can close deals in 30 to 45 days versus 6 to 12 months for a larger enterprise deal. And we are closing TCV deals over $1 million. Actually, it's not total contract value, more than $1 million in ARR per year from customers. I mean, they're like $5 million TCV deals. So those just take time. And so we are in the midst of a bit of that transition.

Sorry to jump in. I would also say that we're really focusing on higher -- like the highest quality pipeline as well. So that -- we believe that doing so, obviously, will help improve our close rates there.

All right. And then on internal versus external R&D, I think it's a great question. It's actually a really insightful question, Meta, to push it even further. So Sand Hill Road or the venture capital communities allocated like $130 billion to various segments around the contact center. That's our best guess based on a whole bunch of third-party analysis. And I think in areas where Sand Hill Road has dedicated a lot of money, it would be foolish for a company to try to develop these in-house. And I know that's what some of my rivals are doing in the space. Good luck to them, but I think they're going to get beaten by the specialists, and we're going to want to open our platform up to the specialists. And so areas like chat bots as an example. There are -- Gartner has 400, 500 different chatbot vendors. We want to partner with all of them. We're not going to build our own chatbot internally. The main areas, I think, that we have to own internally is omnichannel, UI/UX, data and analytics, which is the bot actually working and what's the outputs from that and then intelligent routing. I think those are the key workflow areas around the case. And we offer incredible capabilities for this ecosystem of venture-funded companies to ride on. The best example I can give you is Converse360 or Cognigy or the other chatbot vendors we're working with, we can deliver a case, a chat case to a bot. And if the bot fails to answer the question, we can pull it back and escalate it to a live agent including all the information. So if you've authenticated, if you've answered the simple questions, none of that stuff has to be repeated. And all the metadata gets passed to the live agent and then that can also feed an agent assist model from a different vendor. And so I think these are pretty intricate advanced technologies that are a real benefit to the ecosystem. So places where they benefit, we fund that. Places that we need to own that case management, the routing, the channels, those kinds of things, we'll invest our money there.

Our next question or comment comes from the line of George Sutton from Craig Hallum.

So your retention, your cross-sell and your win rates have all begun to improve. I'm curious if you can give us an extent and kind of a time frame to that.

Well, those are all based on last quarter. So last quarter, quarter-on-quarter, we saw retention better quarter-on-quarter. We saw the amount of sales to our installed base relative to what we've done in the past, better. And in particular, one of the things that I mentioned last quarter that we have not done exceptionally well on that we're starting to get some traction around is cross-selling our contact center to UC only customers. And then overall, our win rates are improving. That's driven by, I think, innovation, right? So you're seeing the first signs and they're very preliminary signs, George. I don't want to overstate these, right? They're very preliminary signs. But quarter-on-quarter, on those 3 key metrics, we saw improvement.

Got you. So I know that CPaaS has caused you great angst for some time, and it has now started to stabilize. I wondered if you can just tell us why has it stabilized? What are you doing to try to get it to actually see some growth?

All right. So I would say, first and foremost, we have a new General Manager there. He's phenomenal and he's really rallied the team. He's made some changes to various people, objectives, structure, leadership, all those kinds of things. But at the core, leadership matters, and we have a great new leader running our CPaaS business, and I think that's the first big step. And he's really focused on the right things and getting the right direction on a very tactical day-to-day basis. Taking a step back, we're in a good position with our CPaaS business, and I'll just loosely refer to it as the Wavecell business or the CPaaS business. It's got brand recognition in Southeast Asia. It's got market presence. It's got competitive pricing advantages and it's got great technology underneath it. It just needed to focus in those key areas and bring it to bear for more success. And I think that we're starting to see the benefits of having a new leader. It's in the 3, 4-month mark now but I'm already seeing tangible benefits, including the stabilization of revenue. His next objective now he needs to grow the revenue.

Our next question comment comes from the line of Catharine Trebnick from Rosenblatt.

Sam, can you give us more detail around Microsoft Teams? You said it grew 100% year-over-year. But can you punch in on where you're seeing that you're successful versus some of your competitors were also saying that they're very successful doing Microsoft Teams integration?

Yes, I've heard some of my rivals claim growth rates similar to mine. I've just been growing them with those growth rates for a heck of a lot longer. So I'm sure my [indiscernible] count is significantly larger. And that's purely a function of investing early and partnering with Microsoft and not being adversarial against them. So we would -- our key things are we partner with Microsoft. We don't try to build technologies to purposely avoid E5 licenses to upset Microsoft or those types of things that would [ roil ] the channel also. And so I think what our key advantage -- and I think Kate put a slide in the IR deck that's really important, which is our leading Microsoft Teams customers running it flawlessly in 35 countries. And I don't believe anyone else can say that. And if you wanted to run that using Operator Connect, it would take you 6 different carriers, 6 different carrier contracts, 6 different setups and configurations and issues. We run direct routing, 35 countries flawlessly and that -- and let me tell you, that customer is a great reference for us for more big Microsoft Teams wins. And so we continue to grow. Now are we going to grow at 100% forever? No, the law of large numbers will catch up with us eventually. But right now, the growth rate remains very high. We've invested early. We invest aggressively in teams, and we have a lot more opportunity in front of us. The next big step is to improve our go-to-market on the Microsoft Teams side, and that's what I think you'll see over the next few quarters.

Our next question or comment comes from the line of William Power from RW Baird.

This is [ Yani Simonis ] on for Will. Just one question from us. So as we look to fiscal '24 revenue growth that you guided to, is one of the components of that. Does a lot of it come from XCaaS? Does more of it come from CPaaS? Any broader trends you could hit on there would be great.

Yes. So we -- obviously, we're focused on XCaaS. There is a little bit of CPaaS not much, but a little bit of CPaaS growth in the back half of the year for that. But primarily, it's our -- we're focused on our ideal customer profile and enterprise customers contact center.

All right. So I'll add just a little bit of color. I think it's -- so there's a couple of variables here, right? So we would expect to see continued slow growth, no growth type of area in our small business and continued higher growth in enterprise. So we're going to continue to see that mix shift over to the higher valued enterprise and correspondingly, I hope we start to see -- we continue to see, I shouldn't say we hope, we continue to see better improving retention rates, along with that. The other thing I would -- and Kevin is being conservative and I love him for it, is nothing around new products is really based into our model right now. And that's really just a function of -- most of them are in beta right now or they're releasing next quarter, and we just don't want to be too aggressive and those types of things. So I think the other thing you have to realize is there's not a lot baked in, in terms of any type of new product uplift going in through this year.

Our next question or comment comes from the line of Peter Levine from Evercore.

Maybe the first one, Sam, is what's your level of confidence that you could see revenue accelerate here in the second half of your fiscal year? Like what has to go right? And then what do you think could go wrong for that not to play out?

You're not going to give me one question with 20 parts to begin with. I love you, Peter, for doing that. Thank you. All right. So from 2% revenue growth, I would say don't screw it up. I think the plan is there. The stars are aligning to see accelerating revenue. Now how high is that revenue acceleration? I would -- I'm not going to stick my neck out too far on that. Kevin's got a pretty accurate grasp with the numbers around those things. But I think what's my level of confidence? High. What can go wrong? Honestly, I think the only thing could go wrong is that the U.S. Fed drives the economy into a recession that's deep and nasty. I mean we're seeing banks collapse and get sold to at firesale prices and those kinds of things. That does cause some ripple effects in the confidence of CIOs that we're selling to. When we're selling to enterprises and those kinds of things, especially when they're signing 3- and 5-year deals, confidence does matter. You see our RPO increased. You see our ARR increased I think the signs are there for further growth. I think the only thing that can crack it is confidence in making those investments.

And then if you think about all the process innovation, the investments on the R&D side, all the products that are coming out, how much of that is a function of retaining customers versus seeing like an ARPU uplift?

Most of the 60% that we're talking about is all ARPU uplift. And then the 40% of R&D is more focused on retention et cetera. I mean obviously, the lines blur, right? Because things like high reliability or accessibility or those kinds of things also drive new sales also. But I would say there's very little that is on retention. We don't -- I mean to sort of, Peter, to say kind of bluntly, I don't get a lot of feature requests and I'm sort of nervous to say this on a call because I don't want to start, but we don't get a lot of feature requests from existing customers that are like, "You need to do this or else." I get some feature request would be nice if you could do this, and that's where a lot of our ecosystem is coming in. But really, it's about we love your product. We want to take it to the next level. We want to do the next thing with it. We want to expand.

Our next question or comment comes from the line of Taz Koujalgi from Wedbush.

I have a question on pricing trends, can you comment on pricing trends for UCaaS and CCaaS, how is it for the quarter and what do you expect going forward?

Yes. I would say UCaaS pricing was maybe a tad more aggressive this last quarter. It's always hard to tell in the first calendar quarter of the year. Maybe a little tad more aggressive, all at the low end, the midrange of UCaaS, I really didn't see much movement, but at the low end and more of it's a function of Microsoft Teams Operator Connect solution. That's a relatively low feature, low-priced product. And as I've said many times, we're selling a lot of Microsoft teams almost every time. In our Microsoft Teams, it's us versus a direct routing solution versus a Microsoft Teams generally a carrier with an Operator Connect solution. I don't see a lot of other traditional UCaaS vendors in those deals, and we do a lot of them. And so that's where I'm seeing a little bit at the low end. On the contact center side, I don't really see much pricing pressure there. I think the conversation at contact center is all about capabilities.

Got it. And one follow-up. The gap between your operating margin and free cash flow margin expanded a little bit in fiscal '23 or '22? How should we expect that to trend in '24? You gave us the guide for operating margin, any comments or color on what to expect for free cash flow margin?

Yes. So the free cash flow margin will trend with the operating margin over the course of time. We do have various things that we'd [ say ] there's some timing effects and so forth. But it's really the interest expense, things like that because we do have some interest expense that's paid semiannually and some that's paid quarterly, and that helps you with the timing. But we think that...

And Kevin, I mean, the biggest difference between the 2 is interest, right? So as Kevin was able to do this week, he prepaid $25 million on our high-interest term loans. And so as we further pay off our term loans over time, our operating margin and our free cash margin should narrow significantly.

Our next question or comment comes from the line of Austin Williams from Wells Fargo.

This is Austin Williams on for Michael Turrin. I wanted to touch on the Fuze side. It looks like it was another really strong quarter for that business. Is there anything that you'd call out that's just making that perform better than expected?

We love our Fuze customers. We love our Fuze customers. If you're listening, we love you. And we continue to sort of put them on a good path. We treat them as first-class citizens. We have a fantastic customer support operation that's taking care of them. And I think we're showing them a good path for the future. And so the idea that people would just be able to come in and I heard all the rumors, they're going to RFP and then other people are targeting them and all those kinds of things, I think just has to come to pass. Now that being said, I think we can do better on some of the cross-selling in particular. And so that's an area we're focusing on. But in terms of retention, we've done absolutely fantastic and huge credit to the finance team and to my customer support success teams around that. They've done an absolutely fantastic job on that.

Thank you. I'm showing no additional questions in the queue at this time. I'd like to turn the conference back over to management for any closing remarks.

Thank you, everyone, for joining us today. We'll be at a number of conferences over the next 30, 60, 90 days. Kate will be more than happy -- she's going to put out a press release on all the places we're visiting. So come see us at a conference. If you can't make it to a conference, just always feel free to call Kate Patterson at Investor Relations if you have any follow-up questions. And with that, enjoy your Thursday.

Thanks, everybody.

Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may now disconnect. Everyone, have a wonderful evening.