Good day, ladies and gentlemen, and welcome to the Vonage Third Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time [Operator Instructions]. As a reminder, this call may be recorded. I would now like to introduce your host for today’s conference, Hunter Blankenbaker, Vice President of Investor Relations. Hunter, please begin.

Okay, great. Thank you, David. And good morning and welcome to our third quarter 2016 earnings conference call. Speaking on our call this morning will be Alan Masarek, Chief Executive Officer; and Dave Pearson, CFO. Also joining us are Joe Redling, our Chief Operating Officer and Tony Jamous, President of Nexmo. Alan will discuss our strategy and third quarter results, and Dave will provide more detailed view of our third quarter financial results and guidance. Slides that accompany today’s discussion are available on the IR Web site. At the conclusion of our prepared remarks, we’ll be happy to take your questions. As referenced on slide two, I would like to remind everyone that statements made during this call may be forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on management’s expectations, depends on assumptions that may be incorrect or imprecise, and are subject to risks and uncertainties that could cause actual results to differ materially. More information about those risks and uncertainties is highlighted on the second page of the slides and contained in our SEC filings. We caution listeners not to rely unduly on these statements, and disclaim any intent or obligation to update them. During this call, we will be referring to non-GAAP financial measures. A reconciliation to GAAP is available in the third quarter earnings press release or the third quarter earnings slides posted on the IR Web site. With that, I’d love to turn the call over to Alan.

Thanks, Hunter. Good morning, everyone. Thanks for joining us. I am pleased to share the results of the strong Q3 with you. We generated consolidated revenues of $248 million and 11% year-over-year increase, and we delivered adjusted OIBDA of $41 million, a 21% year-over-year increase. Given these results, I am pleased with our team’s performance. But perhaps, more important than these results, is the progress we’ve made executing on our strategy to be the clear leader in business cloud communications. So before I dig deeper into results, let’s review our strategy and how we are creating a long-term differentiation in business cloud communications. First, restoring the integrate Vonage business, our UCaaS solution, and the Vonage API platform, our Nexmo CPaaS solution. Our ultimate goal is to use our solutions to seamlessly integrate the entire business communications value-chain to create the most vertically integrated communications company in our industry, with scale and capabilities that deliver better outcomes to our business customers. This is only the beginning. We’ve just begun scratching the surface of the opportunities we can create from integrating these solutions. Second, we target the full range of perspective business customers from small SMBs up through very large enterprises. This approach gives us the largest total addressable market in our industry. Our customer strategy is to deliver a unique value proposition where our customers can choose; first, their desired cloud PBX features; and second, their choice of quality and service guarantee, raising from an unmanaged solution running over the top of the public Internet, through a fully managed solution using our private MPLS network and/or smart WAN tools; and third, our customers can choose their level of integration into other cloud-based productivity of CRM tools, like office 365, Google from Work, Salesforce, Zendesk, NetSuite, and many other cloud tools our…

Thanks, Alan and good morning everyone. I am pleased to review our financial results for the third quarter of 2016. Before I begin, I would like to note that the quarterly growth rates reflected in our presentation slides, including our prepared remarks, are on a year-over-year basis, unless otherwise noted as sequential. Let’s move to slide five, consolidated revenues for the third quarter were $248 million, up $25 million. Total Vonage business revenue was $106 million, an 86% increase. UCaaS revenue was $82 million, a 44% year-over-year increase on a GAAP basis. Nexmo revenue for the third quarter was $24 million, a 35% increase on an organic basis. Third quarter consumer revenue was $142 million, down 15%. The decrease is slightly higher than in the second quarter due primarily to lower USF, which is a pass-through. Third quarter Vonage business average revenue per seat, excluding the revenue contributed by Nexmo, is $45.50, up from $41.56 due to acquisitions and organic growth in the mid-market and enterprise space. Average revenue per line in consumer was $26.36, down from $27.38 in the year ago quarter. Moving to side six, revenue churn for Vonage business was 1.4%, up from 1.3% year-over-year and flat sequentially. Vonage business grew total seats to 616,000, up 20% from the year ago quarter. This represents a sequential increase of 24,000 seats versus the 21,000 added in 2Q. Let me note that our ending business seat KPI was previously understated by immaterial amount for the previous three quarters. The earnings press release contains the ending seat count and corresponding reconciliation. Customer churn in consumer was 2.2%, down from 2.3% a year ago quarter and up from 2.1% in 2Q. We ended the quarter with 1.8 million consumer subscriber lines consistent with our plans to increase investments in business as…

Thank you, Dave. David, let’s go ahead and turn it over to Q&A please.

[Operator Instructions] Our first question comes from Dimitry Netis with William Blair. Your line is now open.

Couple of the questions, so I just looking at the guidance for VBS, it was a nice raise there, 70 or so million from what you had originally. It seems like the Nexmo it came in right in line with the $24 million this quarter. So, can you elaborate, is it just -- and if I look at -- actually, if I look at the business revenue, it actually beat my estimate and consensus by about 1.5 million. So, it seems like the UCaaS, the organic UCaaS business was up over expectations, or was above expectations. Nexmo came in line, raising the full-year Vonage business revenue. So just comment, I guess, on Vonage business organic UCaaS side of business. Whether that indeed came in better than expected? And then what we will see in December, whether the upside of 7 million to 8 million there is really coming from the Vonage business UCaaS side or is it a combination of both Nexmo and UCaaS, or maybe its tilted towards Nexmo? Thank you.

Sure, thanks Dimitri, its Dave. So, within our guidance, obviously, the CPaaS and UCaaS, to answer your first question in the third quarter, UCaaS grew 20% on an organic basis. And CPaaS, as we talked about, grew 35%. CPaaS or Nexmo put on more revenue on a dollar basis in the third quarter than it did in the second quarter. And that business, which is very dynamic, the sequential differences are probably more important than the year-over-year. Embedded in our guidance is continued success in CPaaS, but also potential volatility in CPaaS, which we and our competitors see, given some of the larger customers are very, very sophisticated and very dynamic. And then continued success in UCaaS.UCaaS did see in the third quarter some benefit from USF. We adjusted our USF approach across the entire complex. That was a bit of a -- led to a bit lower revenue on consumer because the USF rate went down and USF rate went up a little bit on our UCaaS customers. So, there is some of that and that was of a one-time nature. But the guidance reflects the trajectory we’re on.

So just to clarify, 20% was the organic growth of the UCaaS side, and then you did sell-out the 1,000 seat customers, which grew 26% year-over-year. Is that correct?

Correct.

One other question on the gross adds in consumer, can you tell us what that number was this quarter?

Gross adds in consumer we are 57,000.

Okay, so up from 55,000.

Exactly.

And then the last quarter on the churn for VB, it was about flat with last quarter but it's up from the quarter before. Anything to read into that, I mean as far as maybe focusing more on the mid-market enterprise, which potentially could drive-up the churn on the low-end of the business. Anything you can comment on, where that churn will be, or whether it's -- should we expect it to go down from here?

Dimitry, this is Joe. It's been in the same 13%, 14% range for several quarters. So, we are focused on the mid-market, which, as you know, is predominantly contracted business. So, we feel really good about that trajectory. So, the 1.4 obviously incorporates the SMB side of the business, as well, which is typically a higher churn rate because there are smaller companies without contract. So, we feel the range is direct range as we move ahead today, and as we continue to change our mix of market. We should start seeing some improvement.

Thank you. Our next question comes from George Sutton with Craig-Hallum. Your line is now open.

Joe, just to keep you on the churn concept relative to the consumer business. How low do you envision that can go over the next couple of years? What would be the best bar that we could expect?

If you look at our tenured customers, obviously, the churn rate is well below our total churn of Q2, it's typically in the high 17% to 18% range. So I think as that base continues to mature, you will start seeing continued improvements there. We're still brining in, as Dave mentioned, 57,000 new lines this quarter at a very effective investment rates for us. So as that continues, you will see that continue to stabilize in the low 2s. But as the base ages overtime I think you will see that churn rate continue to go down.

And Alan relative to the former Nexmo, as you attack the U.S. market more aggressively, you are obviously learning quite a bit. And I'm curious when you first started to look into this. There was a pricing umbrella that you were looking at, the obvious advantage of Vonage brand, and some of the things that you can bring. Can you just give us an updated sense of where do you finding as you attack that market how available is that market to you relative to your original expectations? And how much importance do we drive from the 175,000 developers versus 130, for example? Thanks.

Sure, George. We remain very bullish in the opportunity in the programmable U.S. voice market. You cited to your question many of the elements of how we’re attacking the market. Whether it is as we push the brand and market more aggressively, the product itself, which has a higher quality ability to deliver voice at lower costs, the way we’re pricing it on a per second basis versus our competitor on a per minute basis. Our customers are finding to be a fair solution. But the market is vast and we really haven’t it's been and it's very substantially. So we think there is a great deal of upside there, and we’re just attacking it very methodically. And as you should read into something about the growth in developer registration, it's a very positive sign because for that for us that's the top of the funnel, that's what’s begin the long-tail business customers for us, they have to start initially registering as a developer.

If I can just sneak one more in relative to iCore, you obviously have some challenges initially with the sales team there. You've made a number of changes. Is that now fully behind us in your view?

Yes, it's behind us. Again, there isn’t anything any longer in iCore. It’s simply there to direct sales force. Now we have built a core direct sales force. That direct sales force is selling today our UCaaS products across Vonage Essentials and Vonage Premier. We’ve had expanded the number of sales people, the number of sales territories, and then we're continuing to press, as I put in my prepared remarks, forward on some improving processes, integrating systems, training, et cetera, et cetera. So, I think you begin to see some of the early for green sheets of that this quarter that we just announced. And what we're seeing in terms of numbers of logos out at across the board, the strength that we’re seeing in bookings among mid-market and enterprise, et cetera.

And our next question comes from Rich Valera with Needham & Company. Your line is now open.

Alan you just referenced a growth in developer registrations for Nexmo. Could you put a little more color around that? How those numbers are shaping up, and you know how you think about those as a leading indicator for the overall business for Nexmo?

Let me start and then I'll turn it over to Tony. Nexmo pursues a hybrid distribution model. So, we have a direct sales effort, which is comprised of sales people in markets and inside sales, and sales engineers and account managers, sort of classically organized direct sales model. We also work or generate business as a pole, so it's not being pushed by sales people, it's a pole so that developers out there in companies, large and small everywhere, will come to our Web site, hold down the API and then begin to play with it, embed it in their application and their Web site, what have you, because, they have this desired embedded communications into their solution. As I mentioned on the earlier question, that’s the top of the funnel for us for that long tail of business customer. They have to initially register as a developer. They have to therefore be aware of us as solutions. Nexmo's footprint was much more of a global foot print, much more oriented towards SMS, and now we're pushing things to bounce it out into voice and domestically. So we have to build that awareness. And that’s some of the value of Vonage brand. So, again, getting greater numbers of developers is an important element for us because that’s the top of the funnel. Tony, do you want to answer that?

Yes, sure. I'd like to add that, we doubled the rate of inbound leads since the acquisition. So, that's actually the sign of plus, the contact sales on our Web sites and that's, as a result of the increasing awareness and marketing investment we're making around the developer community. And the developer persona is important in our business, because what we offer is programmable objects that required to be built by a developer, whether developer is a start-up company, where they are more influential in making decision, or they are in an enterprise setting where they're being asked to develop the solution. So, overall, we continue to invest in increasing and developing our awareness within developer community, and we've already see early result of that since the acquisition.

And Tony, I just want to clarify. Is an inbound lead equivalent to a download?

So, the inbound lead that sign-up on our Web site and starts using our platform, meaning it might be a device, and you can consider that as a download, but essentially they don't download anything, right. So, this is not a piece of software you install on your computer. It's really an API, which mean that you’re connecting to the platform and interacting with the platform to build the communication application you want to build.

Appreciate that clarification, and one more, if I could. Dave, could you talk about what drives the increase in OIBDA guidance on the flat revenue? Are your investment levels, you’ve talked about previously, particularly with respect to Nexmo, and Vonage business intact? And where does that increased profitability coming from?

They are in fact, in fact, we talked last quarter about accelerating investments into Nexmo. And we continue to do that, whereby Nexmo, if you think about our OIBDA guidance for the year, within that, Nexmo is going to be negative in the $5 million to $7 million range as we talked about on the last call. So, our OIBDA is actually up more than what’s implied in guidance that we updated. That delta is coming from consumer. And it's really two areas. It's slightly less spend in consumer than we earmarked because we were able to put that in the business, and then the spend in consumer being much more efficient than we had planned. And so, we’re just getting more banged for the buck. So we -- consumer there is a little bit less revenue in there and a lot more cash flow. And part of that revenue was also USF as I talked about. So, there is no change to our capital allocation plan.

Our next question comes from Greg Burns with Sidoti & Company. Your line is now open.

Within the growth in Nexmo, could you give us any -- maybe additional color on whether that growth is primarily coming from new accounts or growth within existing accounts?

Yes, well, somebody can provide any color. But yes, it was -- we talked about -- our strategy is to diversify the customer base and diversify the product and geographic mix. And that strategy is going to take time to execute. But we are trying every quarter to lengthen the tail. Our competitor Twilio has talked about this base versus variable revenue concept. And we clearly see that. Once a customer gets to be very large, they’re sophisticated and they tend to look at this as a dynamic business. So what we saw consistent with that is continued volatility amongst those very large sophisticated customers. Although, they did grow in the quarter on a sequential basis, and much higher growth than the average in the, everybody else, category.

Could you maybe quantify that customer concentration like what percent of revenue is coming from those very large accounts that might provide some volatility to the numbers?

If you think about, Twilio, which is the pure play, which I think did a very good job of defining this. They talk, I believe, about variable revenue it's up 20% using the same definition on a dollar size basis. We have the same dynamic on a sub-20% very large accounts that again approached the business differently with our strategy to make the other part the tail longer and more stable.

And then looking at your gross margins versus Twilio, is that gap strictly a function of messaging versus voice and are you going to close the gap as you grow your voice business?

Yes, it is a mix difference. So it's SMS where we are 90% SMS, and it's outside the U.S. where we are about 70% outside the U.S. So, we have no intention of pulling back at all on SMS or outside the U.S. It's really about creating that counter-weight and that diversity in voice globally, and a presence in the U.S. across the products that we think will lead to that to gross margin increase overtime as we execute the strategy. We also feel like our advantages on the peering side and termination side big play to the U.S. market, they don’t really play to the international SMS market.

Our next question comes from Catharine Trebnick with Dougherty. Your line is now open.

What percent of the 175,000 developers are paying customers? And then the follow-on question is, what's gestation from once you dial into the online platform to revenue generation? Thank you.

I think I'll turn over to Tony. You said, what's the gestation period between...

Yes, how long does it take ones you start working on it before you actually start getting remuneration from the platform, rent generating revenue for you.

We've disclosed in the past that we have roughly 5,000 business customers, but we don’t break it down simply between a developer who registers. And so we had 100 developers register today who is paying and who is not. We more think of it as the top of the funnel as you’re going to convert an element of those over-time in to pay customers. So when we bought the company, it was 130,000 roughly registered developers and about 5,000 business customers. We’ve really worked on improving those ratios, but that’s an overtime phenomena. Tony, you want to add to that?

I'd like to add that we are going to start measuring the time to first payments. And typically, you we can sign-up online and start testing today and we’ll give you the credits. And then when you just see [indiscernible] you go and pay online to replenish your code there essentially. And that time could be as short as a day. But depending on a holiday customer, as testing and how long they need to test, it could take over months from sign-up to first production pay the transaction.

[Operator Instructions] Our next question comes from Will Power with Baird. Your line is now open.

[Technical Difficulty] and UCaaS offers. And I guess as part of that, I think, you referenced one of the cross-sell where you will...

Will, excuse me. You clipped at beginning, why don’t you start your question again?

Can you hear me now?

Yes.

So I guess what I really want to understand is where we are in the UCaaS, CPaaS integration process, effectively what inning? Have you started cross-selling those platforms across the existing basic customers on the UCaaS and CPaaS side, respectively. And I guess, I am just also curious as you go to new customers and look at RFPs out there. How effective has it been thus far to have both of these offers? I mean, have you seen that start to bear fruit as a differentiator?

Well, this is Alan, let me take that. I mean, I think, we're still singing the national anthem. We haven’t even started beginning yet. Clearly on the VAPI release, we’ve integrated in with our industrial strength network, and that's proving to be very, very attractive. But the opportunity of an integrated solution, that's still being planned. And we’ll begin being executed probably in meaningful pieces until the next year. That's in the physical integration of the platforms from a lead-gen point of view. However, it's becoming very, very important. What it making also where views evermore as a foul leader, our customers we find very, very frequently use CPaaS tools in addition to UCaaS based solution. We’ve sided one example on the call of an initial -- an existing UCaaS company who now has switched from our competitor to us because they want to buy from a single vendor. So, very early days, but we're seeing all the right indications that what we’ve done is the exact right thing from an acquisition perspective, and how we're going on executing this are the right things as well, so, very, very helpful there.

And then maybe this as just a follow-up as you think about the VAPI product. I guess I’d be interested in any other reactions you've gotten from customers rather, although I recognize that's early. And I don’t know, but Alan for you or may be for Tony. But just trying to better understand the differentiators of your voice API product versus what the competitors are offering?

Let me have Tony answer that.

Sure thanks, Alan. And hi Will. Well first when you look at the combined Vonage and the Nexmo platform with the voice API provide a unique offering to the U.S. market specifically. Because, in the past customer needed to make a trade out. Either they go with easy to program platform or they go as a carrier grade heavy or telco. Now, together with Vonage, we offer the best of both. We offer the easy to program voice and backed by the underlying carrier grade network, which is 59 up-time 15 billion minutes from voice terminated a year, so customers don’t need to make a trade-up anymore. That's one of the key advantages that the combination of the asset provides. But specifically even without the combination, the new voice API provides higher level of programmability in a much easier way. It's built on more modern Web framework, we call adjacent. And it has a number of co-control objects that provide this higher functionality for the developer and enable any developer. You don’t need to be a telco developer to be able to build the next generation of voice application. And third it would be the international reach. So the new voice API has two times more inbound reach as you can provide in phone number and two times more countries than any other close competitor in the market.

And our next question comes from Michael Latimore with Northland Capital. Your line is now open.

The 20% UCaaS growth, I think, you mentioned. Was that an improvement from the growth rate in the second quarter?

Yes, it was close. I think the second quarter was high-teens.

And the on the voice API, does it, in terms of bookings over the next 12 months, I would say. Is it clear that more bookings will come from developers, or the direct sales? Or is it early to say, which will be the bigger bookings generator?

Dave, why don’t you take that?

Yes, I think it's still too early to say. I mean, clearly, we’re seeing anecdotal evidence of the ability to cross-sell simply by putting the products into the suite of Nexmo products into the sales bag of the sales person. But we’re going through our planning process now. So we’re not in a position to comment how much will come from that. I would also just note, we talked about bookings, and I think that is -- it’s a good short-hand forward. But it does, since it's not a subscription business, it does tend to be more volatile than a booking, both up and down and usage based.

And then I know the VAPI opens a big new opportunity. But on the text messaging side of things, can you talk a little bit more about where you’re seeing growth? Is it new customers coming online? Is it an increase in use your current customers, or is it new regions? Well, more sort of color around where the text messaging growth coming from would be helpful. Thanks.

Tony, why don’t you nail that?

Yes, sure. So the text messaging market has as big as a programmable voice market. And we see similar growth rate in those markets when you look at it from a CPaaS point of view. There is really three levels of growth if you think about it. So there is the existing business, the expansion and the exiting business, and that’s two-fold, which is a natural growth of these companies, and also be competitive win as well when you specifically on the top accounts that have multiple vendors. And then you have the new business, the new accounts. Today, we see growth across the board. There is the volatility that Dave mentioned on the top accounts and that volatility is being replenished by the natural growth of the other accounts and also the addition of new business. So overall we continue to see growth in the business on SMS and the new business is an important driver to manage this volatility in the existing business on the top accounts.

Our next question comes from Michael Rollins with Citi. Your line is now open.

Two if I could please, the first is, I was just wondering if you take, for the UCaaS product that you are offering for the medium and larger size businesses. And you look at the sales force you invest in, the acquisitions that you've done. What proportion of the country can you now effectively go after to sell into? And as you look at the future growth for this business, how do you think about the growth coming from getting more decks of share where you have the sales capability built-out versus expanding the breadth of your sales force and getting more growth that way? Thanks.

So, we have a completely national footprint right now. It's an omni-channel approach. So clearly our inside sales grew sales nationally. Our channel sales grew sales nationally. Our enterprise grew sales nationally. Within our field sales teams, which has grown dramatically over terms of numbers of sales people and numbers of sales territories, we often speak about it as we want to be in all the NFL cities, which has roughly 30. I always get in trouble with the people from St. Louis when I say that. But the -- roughly 30 cities and we’re going to half of that today and growing. Our focus in terms of cities has been more east coast and south west. But we are pushing west as you'll see more of that in the coming quarters.

And does this still, in your mind, a land grab for a much larger opportunity? Or are you starting or run into competitors more often as companies are evaluating which solutions to choose?

Well, it is a land grab in the sense that we are -- it is a land grab, and we are competing against the other cloud players. And let me break that down. The land grab is that we’re stealing share from the on-prem solutions that are out there. In the mid market and the enterprise, you are almost always seeing the names you would expect that you compete against, because those mid market enterprise customers are certainly not going to go with the first, there’ll be knocks on the door. Down market, that was very different. Down market where the lead-gen is generally starts from a buyer doing a Google search. It's the person who -- so therefore the buyer is generating demand intent. It's the vendor who gets there first who generally wins because they don’t usually do a competitive process. And we have found, given the strength of the Vonage brand that has gave us the ability to source those leads less expensively than others, because we have so much domain authority in our space. And that's why the down market side of our business, the small company side of our business, continues to grow so well. So, if you look at the total numbers, the percentage of business above 250 seats to a 1,000 seats, the percentage of total revenues, is comparable. But the total base is growing. And that's because we’re growing at all of that.

And our last question comes from Tim Horan with Oppenheimer. Your line is now open.

I have about couple of them, but I’ll wait later on. Maybe just focus us on the UCaaS market. Obviously, you grew 20%. One of your peers list night grew 30%. And you had a bunch of improvements to the business. Do you think this business can accelerate back to 25% you were doing, or the improvements basically behind you with this point? And I also know that you had a lot of feed-add in that business. Is that sustainable, maybe a little bit more color around growth of degree?

We have a lot of improvements, and I think we talked back in the first quarter about integration and we talked about rationalizing the sales force and all that stuff that’s behind us. So we are seeing the benefits of that. I would say though that I don’t see the model that we're pursuing today, growing at 30%, just given again in the mid market and up market. It is a longer sales cycle. It is a more sophisticated sale, and it's a longer install cycle. And that market continues to tick to the cloud, whereas in the SMB market, it already has. So it's going to take time for the average to go up given that percent I talked in the out market. So, that I think the growth that we're seeing is where we are right now.

And just clarification on Nexmo I think when you acquired the company, we're thinking may be $120 million in revenues for '017, if I remember that correctly. I know there is a lot of puts and takes, a lot of moving parts. But are we still thinking we're in that range for ‘017?

Yes, there is no change to the way we're looking at 2017. As I mentioned, we're in the budgeting process. And there is capital to grow that business as fast as possible when we talked about the long-term strategy. But there is no change to the view right now for 2017.

Great. And Alan, happy to your anniversary, and great job, congratulations.

Thank you very much.

Bye guys.

And at this time, I am showing no further questions in the queue. I would now like to turn the call back over to Hunter for closing remarks.

Okay, great. Thanks David, and thank you everyone for joining us this morning. We appreciate your support. We look forward to speaking to you again next quarter. Thank you.

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