Operator: Good day, everyone, and welcome to the Twilio Second Quarter Earnings Conference Call. At this time, I would like to hand the call over to Mr. Bryan Vaniman, for opening remarks. Please go ahead, sir.

Bryan Vaniman: Thanks, Lisa. Good afternoon, everyone, and thank you for joining us for Twilio’s second quarter 2023 earnings conference call. Our prepared remarks, earnings press release, investor presentation, SEC filings and a replay of today’s call can be found on our IR website at investors.twilio.com. Joining me today for Q&A are Jeff Lawson, Co-Founder and CEO; Elena Donio, President Twilio Data and Applications; Khozema Shipchandler, President, Twilio Communications; and Aidan Viggiano, Chief Financial Officer. Due to an issue with our external website vendor, the prepared remarks were only recently posted to our IR website. Thus, the team will be reading these live at the outset of the call. As a reminder, some of our commentary today will include non-GAAP financial measures and key metrics.

Reconciliations between our GAAP and non-GAAP results and further information related to guidance, definitions and key metrics can be found in our earnings press release and the appendix of our prepared remarks, both of which can be found on our IR website. The information provided and discussed today also will include forward-looking statements, including statements about our future outlook and goals. These forward-looking statements are subject to known and unknown risks, uncertainties, assumptions and other factors that are described in more detail in our most recent periodic reports filed with the SEC, including our annual report on Form 10-K and our subsequent quarterly reports on Form 10-Q, which are available on our website and at sec.gov.

Forward-looking statements represent our beliefs and assumptions only as of the date such statements are made. Actual results may vary significantly, and we expressly assume no obligation to update any forward-looking statements, except as required by law. I’d also like to highlight that following our recent field reorganization into two business units, beginning this quarter, we will be reporting our revenue and non-GAAP gross profit results in two segments, Twilio communications and Twilio Data and Applications. With that, I’ll hand it over to Jeff to open the prepared remarks.

Jeff Lawson: Thank you, Bryan. We closed out a strong second quarter, over delivering on both our revenue and profit targets, and generating record quarterly non-GAAP income from operations of $120 million. We begin the second half of the year energized by the progress we’ve made to date in Communications, confident that we’ve laid the foundation to reaccelerate growth in our Data & Applications business over time, and optimistic about AI’s potential to be an accelerant for Twilio’s vision. We also remain committed to continuing to deliver against our profitability targets in any financial environment. We’ve made substantial strides on our path to GAAP profitability and have substantially increased the operating margin profile of our business.

In Q2, we reduced GAAP loss from operations by over 50% year-over-year, drove a continued reduction in stock-based compensation, and delivered $72 million of free cash flow in the quarter. We’re executing well against our commitments, and as a result of our strong performance for the first half of the year, we’re raising our full-year non-GAAP income from operations guidance to $350 million to $400 million. A business transformation as big as what Twilio is taking on takes time. It requires tactical focus in the short term and a bold vision for what’s possible in the long term. Twilio’s Act 1, Communications, has been a success in terms of scale and efficiency. Our Communications business continues to deliver against the objectives we’ve set, driving efficient growth, while we target ongoing operating leverage in the coming years.

And we’re now building Act two based on our belief that Twilio’s data asset, when combined with the power and reach of our Communications platform and accelerated by AI, can unlock value for businesses that we are uniquely positioned to deliver through our innovative combination of product offerings. While I don’t expect the road ahead to be linear, we’ve embarked on a massive market opportunity, one that has the ability to transform the status quo for customer engagement. Now, to where we are today: In Communications, we delivered a strong quarter and are encouraged by continued signs of stabilization across our customer base. The efficiency actions and have proven to be the right ones and the business is delivering with a more streamlined operating profile.

Following our largest email deal in Q1, the team signed our largest ever messaging deal in Q2, an exciting milestone for Twilio at this scale. As a part of our efforts to focus on doing fewer things better, we also recently completed the divestitures of Twilio’s IoT and ValueFirst businesses. The usage-based nature of our Communications business makes it sensitive to macro conditions, so the team continues to manage towards gross profit growth and driving leverage. Khozema will share where the team is focused on driving further efficiencies, while capitalizing on our growth opportunities through the second half of the year and beyond. In Data & Applications, we are continuing to focus on executing against our go-to-market rebuild efforts. We now have sales reps ramped in our most critical areas and we are optimistic that our bookings will improve towards the end of the year and that revenue growth will accelerate during 2024.

Elena will share more about our progress here. In June, we previewed our vision for CustomerAI, which we have designed to layer predictive and generative AI capabilities across our platform at every customer touch point. As I shared last quarter, I believe the real value unlock for artificial intelligence will be pairing large language models with first party data sets . We believe this is where Twilio is most differentiated through our data asset segment Segment’s customer profiles will become even more data rich with AI, accelerating our data and communications flywheel. By training large language models for customers with their data that lives inside segment, Twilio will help customers enter the AI race multiple steps ahead of their peers.

Twilio’s ability to drive that level of differentiated customer value proposition has the potential to be a significant tailwind for our business. We’re also excited to be building an ecosystem of partners and integrations including Google, Databricks, FrameAI, and OpenAI to power some of CustomerAI’s generative capabilities as well as AWS to power predictive AI use cases within Segment. I can’t I wait to showcase several of the products that will advance our CustomerAI vision at SIGNAL on August 23rd just a few weeks away. I’m proud of the team for navigating through a lot of change as we reoriented the company over the last several quarters. This is a team that has executed well against our plans, as evidenced by the speed in which they have adapted to the new structure of the business, driving greater efficiency and having delivered over $220 million of non-GAAP operating income through the first two quarters of 2023, exceeding our financial targets and building a foundation that sets us up to continue to achieve our goals and capitalize on the tremendous opportunity ahead.

I remain confident we have the right team, the right plan and solutions to deliver meaningful value to our customers and look forward to sharing our progress today. Now I am going to hand it over to Elena.

Elena Donio: Thanks, Twilio Data & Applications delivered $125 million in revenue in Q2, up 12% year-over-year, with a non-GAAP gross margin of 81.7%. During the quarter we continued to execute against our plan to mature our sales organization, invest in new AI-powered products and capabilities, and expand our pipeline in an environment where buyers are facing increased budget scrutiny. I’m pleased with our progress to date, but we have more work ahead. Since last quarter we’ve announced several exciting partnerships and new product capabilities that reflect our unique position in the market. In July, IDC ranked Segment as the number one CDP by worldwide market share in 20221. We recently announced a partnership with Databricks to develop a bi-directional integration that will help Segment customers unlock even more value from their data.

Additionally, we are partnering with Google to bring generative AI into Flex and transform how brands personalize their customer interactions. Finally, we unveiled CustomerAI, infusing generative and predictive AI capabilities into Segment, Engage, Flex, and Communications. Our Signal conference is two weeks away and we plan to showcase new innovation and an exciting roadmap built around our CustomerAI vision. Our software products are resonating in the market as evidenced by multiple notable customer wins this quarter. A long-standing Communications customer that provides software solutions to health and wellness providers signed a deal in Q2 with Segment CDP to deliver personalized customer experiences, increase trial-to-paid subscription rates, and drive improved patient outcomes.

Follett, a leading provider of education technology, will leverage our entire suite of Segment products, including Connections, Protocols, Audiences, Journeys, and Unify. We won this competitive deal because of Segment’s faster time-to-value and ease of use in the future when the customer wants to leverage Segment’s APIs to connect to additional tools throughout their future as the customers of ours. Fortune Media, a multinational media company, was a competitive win due to the flexibility of Segment Connections and the power of our Profile API, allowing Fortune Media to obtain a single view of their end users, furthering the ability to personalize and improve the overall engagement experience. 5 A large financial services company based in Israel committed to a comprehensive contact center solution leveraging Flex and our Conversations API for a custom-built AI chatbot with seamless agent handoff, allowing them to scale while improving the customer experience.

A Fortune 100 property and casualty insurance provider that we signed an eight-figure deal with in Q3’22 scaled to over 15,000 agents during the quarter by leveraging new capabilities in Flex allowing for enterprise scale. This Flex scale initiative, which was launched in limited availability in February, allows Flex to support customers scaling up to 30,000 agents concurrently in a single account. As I mentioned last quarter, we’ve made good progress with our transition to a dedicated sales model for Segment and Flex, and have rebuilt a specialized sales motion with highly skilled reps. Training and enablement was a key focus area for Q2 and we delivered increased in-person training sessions and improved overall sales capacity across the board.

I’m excited that for the first time in over a year, the majority of our Segment sales team has been in-seat for at least nine months. We’ve seen early signs of traction with these efforts, including a strong increase in pipeline generation within Flex and significant improvement in Segment pipeline conversion from Q1. While I’m encouraged by our progress and some of these early signals, we continue to navigate a challenging macro, which has led to some instances of higher renewal contraction and lower expansion. Competitive churn has remained low and stable, but we are seeing instances of greater price sensitivity with some of our SMB customers. To address this, we are implementing initiatives designed to give customers, particularly small and mid-sized businesses, more flexibility to start small, deploy quickly, and expand to leverage more Segment capabilities as their business grows.

We feel good about the steps we’ve made to improve execution, but there is still more work ahead to get our Data & Applications performance back to where we believe it should be. Going forward, we’ll continue to focus on onboarding and ramping our teams, optimizing our marketing campaigns, and driving more top-of-funnel activity. We’ll also focus on giving our customers more accessible entry points to our products and delivering faster time to value. We believe we’re laying a solid foundation for long-term growth for the business, and I’m confident that this will lead to improved bookings towards the back-end of the year. With that, I am going to turn it over to Khozema.

Khozema Shipchandler: Thank you, Elena, Twilio Communications delivered $913 million in revenue in Q2, up 10% year-over-year, with a non-GAAP gross margin of 48.2%. As a team, we continue to focus on driving growth with a more streamlined cost structure, and generating meaningful profits. I’m pleased with our team’s ability to quickly adapt to the organizational changes we made earlier this year, which is evidenced by the results we delivered in Q2. Once again, Twilio was named a leader in IDC’s recent 2023 CPaaS MarketScape report. Leveraging this leadership position, our go-to-market team has been focused on proactively driving cross-sell opportunities across our broad portfolio of Communications products, and we’re seeing meaningful traction.

As an example, last quarter we highlighted our largest email deal in Twilio history, and this quarter we signed our largest messaging deal ever with the same leading marketing automation company, bringing their total commitment to Twilio to more than $100 million. Additionally, a Fortune 500 entertainment customer that has been using our messaging, account security and voice APIs, recently chose Twilio to exclusively power a critical customer onboarding initiative, increasing their ongoing messaging spend with Twilio by $1 million a month. We continue to see an exciting runway for efficient growth in our Communications business against a $50+ billion TAM, and we believe our innovations in AI can help accelerate market share gains in the coming years.

We are bringing AI/ML capabilities to life in our core Communications products, including the release of Fraud Guard for Verify In Q2 we signed an expansion deal with a leading employment company to enhance their multi-channel, high-touch customer relationship model via our messaging, voice, and email APIs. Fraud Guard was an instrumental component of this deal. We also piloted SMS Pumping Protection in the second quarter, which leverages AI to automatically detect and block artificially inflated SMS traffic via our messaging API. This product prevented meaningful losses on behalf of our pilot customers and as a result of the successful pilot, we’ve recently moved it into private beta. We also released Twilio Voice Intelligence into public beta, an AI-powered capability allowing our customers to extract data insights from their call recordings, unlocking process automation and data-driven decision making at scale.

A global financial services institution and a longstanding Programmable Voice customer is one of our first major customers to adopt this product. Leveraging Voice Intelligence has proven to continually increase the quality of their customer service and ensure robust compliance. We’re also continuing to focus on our sales assisted product-led growth motion, and in Q2 we made great strides in returning to our self-service roots. During the quarter we rolled out several updates to drive greater pricing transparency. We also implemented a decentralized solutions engineering team, removed layers of leadership and specialist teams, and arranged our international go-to-market team to be centrally managed. We are thoughtfully deploying our go-to-market resources to spend time on our larges existing and prospective customers to drive greater efficiencies and customer wins in the coming quarters.

We are encouraged by our growth trajectory in Q2, but still see a choppy macro, which also means we have less visibility in this environment. We’re seeing volume growth across a number of our verticals, but we are still experiencing volume weakness in a few verticals including Social & Messaging and Crypto. On balance, we remain hopeful about Q3 and beyond, and believe we have a good setup to continue to drive operating leverage and growth moving forward with a much more efficient go-to-market model. It’s worth noting that we have made a commitment to our carrier partners to block unregistered U.S.-bound 10DLC SMS and MMS traffic as of August 31, 2023. We expect this will have a modest negative impact on revenue growth in Q3 of up to 100 basis points, and it could yield a potential headwind of 200 to 300 basis points on growth in Q4.

While the majority of our traffic is already registered, we are actively working with customers who are not yet compliant to get their traffic registered in advance of the deadline. I’m excited by the progress we made during the first half of the year as the team successfully navigated the operational and organizational changes we implemented, together with a challenging external environment. We’re executing well, and as volume stabilization continues, we believe we’re in a strong position to leverage our scale, large customer base and leading set of Communications products to continue to win new business everywhere we can, while driving further efficiencies, and we are confident revenue growth will reaccelerate over time With that, I will turn it over to Aidan, to disucss our financials.

Aidan Viggiano: Thank you, Khozema. We continue to execute on our plans to drive greater efficiencies across our business and establish an accelerated path to profitability. We’ve made solid progress against our targets, delivering record quarterly non-GAAP income from operations in Q2 and continuing on our path towards GAAP profitability. While we have more to accomplish, I’m pleased with the traction we’ve achieved to date and the results our team delivered in the quarter. Second quarter revenue was $1.038 billion, up 10% year-over-year on both a reported and organic basis. Communications revenue was $913 million, up 10% year-over-year; Data & Applications revenue was $125 million, up 12% year-over-year; and IoT and ValueFirst revenue was $25 million and is included in our Communications revenue for Q2; adjusting for these recent divestitures, total Q2 revenue would have been $1.013 million, up 11% year-over-year.

While the market remains dynamic, we saw continued stabilization of volumes across our usage-based products throughout the quarter, which helped drive our revenue beat. As we referenced during our Q1 earnings call, our Q2 revenue growth rate was negatively impacted by headwinds from customers in the crypto industry. Total Q2 organic revenue growth excluding crypto customers was 14% year-over-year. We anticipate similar headwinds in Q3, after which the impact will start to moderate. Our Q2 Dollar-Based Net Expansion Rate was 103%. This is directly correlated to the overall growth trends we’re experiencing across the business. Dollar-based net expansion rates for the Communications and Data & Applications business units were 103% and 99%, respectively.

Q2 non-GAAP gross profit grew 13% year-over-year, representing a non-GAAP gross margin of 52.2%. This is up 130 basis points year-over-year and down 10 basis points quarter-over-quarter, driven predominantly by product mix. Non-GAAP gross margins for our Communications and Data & Applications business were 48.2% and 81.7% respectively. Q2 non-GAAP income from operations was $120 million, representing a non-GAAP operating margin of 11.6%. This was significantly ahead of expectations, primarily due to the revenue beat and our ongoing efforts to maintain cost discipline across the business. Q2 GAAP loss from operations was $142 million, which includes expenses associated with the February restructuring action, a loss associated with our ValueFirst divestiture, and real estate impairment charges, all-in totaling $55 million.

Stock-based compensation as a percentage of revenue was 14.7% in Q2 excluding approximately $3000 of restructuring costs, down 120 basis points quarter-over-quarter. Lastly, for Q2 we generated $72 million in free cash flow, and this is an area of focus for us as we drive greater profitability in the business. We’re delivering against the plans that we outlined in February, and the progress that we demonstrated in Q2 shows that the changes we’ve made in the business are yielding the intended efficiency gains and profitability results. We’ve also continued to execute against our $1 billion share repurchase program that we commenced in February. We completed the first $500 million of new repurchases in early July, ahead of our original six month target.

We intend to continue to make progress against the balance of our share repurchase authorization moving forward. While we feel confident about the strength of our competitive positioning and market opportunity, we’re continuing to plan and run the business prudently given the dynamic external environment. For Q3 guidance, we’re initiating a revenue target of $980 million to $990 million, representing year-over-year reported revenue growth of 0% to 1% and 3% to 4% on an organic basis. The organic growth rate excludes our ValueFirst and IoT businesses, both of which were recently divested. Also, as mentioned above, these growth rates reflect a few hundred basis point headwind from crypto customers, as well as the potential one hundred basis point headwind associated with 10 DLC registration changes that Khozema highlighted.

We expect Q3 non-GAAP income from operations of $75 million to $85 million. This takes into account approximately $10 million of expenses for our SIGNAL Conference, which will take place this month. Given our strong first half performance, we’re raising our full-year non-GAAP income from operations guidance to $350 million to $400 million. We’ve made meaningful progress over the first half of the year, but there is still more work to be done. I’m confident that we are taking the right set of actions that will enable us to continue to drive focused execution and deliver increased value to our shareholders in the quarters to come. With that, I’ll hand it back to Jeff for some final remarks before we transition to Q&A.

Jeff Lawson: Thank you, Aidan and team. I just wanted to close by reminding folks if you haven’t already heard enough to our prepared remarks, that indeed, our annual SIGNAL Conference is coming up on August 23rd. And CustomerAI, which we presume June, it’s going to be taking center stage, and I’m really excited to be sharing the product details behind customer AI at Signal, and customer AI, the set of capabilities that it brings will help bring together our leading communications platform and our leading customer data platform with AI in the middle. So I can’t ind customer’s bill on top of customer AI. And with that, why don’t we turn it over to your questions.

Operator: Thank you, sir. [Operator Instructions] We’ll go first to Meta Marshall, Morgan Stanley.

Meta Marshall: Great. Thanks. And Jeff, you may have just alluded to this, but we’ll hear more at Signal. But I just wanted to get a sense of how kind of the increase in AI visibility or capability has changed the road map for Twilio? And just where are customers and the knowledge of how they want to actually approach some of these AI projects? Are they to the point where they know what they want to implement? Or is it still kind of an education phase? Thanks.

Jeff Lawson: Yes. Thanks for the question, Meta. I talked to a lot of customers. And what I find is that customers are still very much in a learning mode and planning for the future mode, but not necessarily in deploying things actively most. And so I think it’s a really constructive conversation. When I look at customer AI and what we can do with artificial intelligence, I think this is the glue that brings together segments and Twilio communications into this one, customer engagement platform that we’ve been talking about for quite a while. And I think AI is arriving even sooner than we thought in terms of generative AI to be able to bring a lot of those benefits to the table. We’re already seeing the benefit of a bunch of AI, whether it’s Verify with a new broadband product, in some of our compliance on authentication products.

But I think this is like – this isn’t even the first inning. This is like still doing warm-up pitches in terms of the AI game here. And so we’re really excited, though, to bring some new products to market as well as to really speak to much more detail about the vision for customer AI at signal, but I think this is a massive accelerator and our ability to deliver value between data and communications and can become a great talent in the company.

Meta Marshall: Great. Thanks.

Operator: Next question is Taylor McGinnis [UBS]

Taylor McGinnis: Yes. Hi. Thanks so much for taking my question. Maybe just on the data and apps part of the story. So if I’m trying to bridge the gross margins were down 250 basis points year-over-year, and then you reported an NRR of 99% in that segment. So I know you talked about some greater renewal contraction and some price sensitivities. But just as we look ahead, like can you see, I guess, more risk to the gross margins in that segment? And then just in terms of the top line, when we think about the 12% growth you just reported, that’s still well above like the 99% NRR. So any direction or color you can just give in terms of how you see that business progressing throughout the year? And if there could be a trough in the level of growth that we could see. Thanks so much.

Elena Donio: Why don’t I start, Taylor, this is Aidan. I’ll go through gross margins, and then I’ll hand it over to Aidan to talk about DB&E and revenue growth. So you’re right that TD&A margins were down year-over-year. That actually primarily driven by accounting and in particular, accounting for capitalized software. So the initial capitalized software balance following the acquisition of segment was written off. And that’s typical post an acquisition. That boosted the gross margins in the 2021 and 2022 period. And as product development and innovation has been ongoing post-acquisition, that balance is building back up to a more normalized level. Now that we’re kind of three years or approaching three years post acquisition, that should start to normalize, but that’s really what’s driving the year-over-year decline.

The business is still obviously very high margins at 82%. And there will always be pluses and minuses period-to-period, but we feel pretty good about that gross margin rate. We don’t see anything materially in the future. So why don’t I hand it over to Elena with that.

Elena Donio: Sure. I’ll hit a couple of comments on growth. Our current growth is really reflective of bookings that have happened in prior quarters. And we’ve talked over the last couple of quarters about a deceleration in booking performance, which is now coming to bear in the revenue line, which we expect to inflect and turn back up as we see bookings improve this year. So we’ve talked a lot, I think historically about the work that we’re doing to improve that bookings trajectory, everything from building out, hiring, enabling and preparing that team to go out and win in the market and also working to make sure that we’re breaking through during a tough economic climate. A couple of other things impacting growth are trending to traction numbers.

They’ve been impacting us a little more than we lag in the near term. We have some segment customers that are rightsizing their spend levels. Mostly, as their own businesses have contracted over time, we see some instances of sensitivity, particularly in the SMB space where those customers at times have had some viability issues. And so all of that taken together, so some good traction in our bookings performance and increased customer contraction and churn, though not competitive, but it’s sort of a signal of what’s happening in the market. Our growth has been sort of moderated here in the near term. I want to reiterate that we do expect bookings to continue to improve as that team comes online and we break through the tough macro. And that revenue performance will follow into next year.

Taylor McGinnis: Great. Thanks. Thanks so much and congrats on the quarter.

Operator: Your next question is Mark Murphy, JPMorgan.

Mark Murphy: Yes. Thank you very much. So Khozema, just given that the messaging business is usage-based. And therefore, it is macro sensitive, as you noted. Can you just comment on the stability that you’re seeing there? Specifically, I’m just wondering, should we read that as stabilizing around 10% year-over-year growth or stabilizing around $900 million in quarterly revenue? Or do you mean something else there? And then can you just comment on whether that trending continued to improve at all in June and July?

Khozema Shipchandler: Yeah, Mark, good question. So maybe to start off with kind of the first part. So what we see overall is that volumes have stabilized. And we’re not trying to imply really either of the things that you said either that we’re going to turn in kind of regular 10% revenue growth quarters nor that we’re going to see the business kind of flat line. I’d say, it’s probably kind of closer to being in the middle of that somewhere — while we’ve seen volumes stabilize, we haven’t necessarily seen them inflect up. But obviously, we’re encouraged by the quarter that we just put up in Q2. I’d say across the board, we’ve generally seen that most of the sectors in which we operate have seen pretty good revenue and volume growth.

There have been a couple of downs, which we called out in the prepared remarks. Notably, we have seen some contracting activity in messaging and social meeting social messaging. And I think that had it not been for some of those items like we would have seen obviously a pretty decent growth in the quarter beyond where we ended up landing. I think we also called out some of the 10 DLC dynamics that are coming up in Q3, Q4. We think that’s kind of a good thing, obviously, for the industry over the long term. But that’s kind of the way that I would characterize it is that volumes stabilized. We’re not seeing them inflect quite up yet. But based on our execution against sales targets, we’re very encouraged about how that translates into financial results.

Mark Murphy: Just a super quick follow-up because you mentioned it, does that headwind from blocking unregistered traffic continue at 300 basis points into 2024. I’m just trying to understand, it seems like it widens from Q3 to Q4? And then does it presumably kind of moderate a little bit in 2024?

Khozema Shipchandler: Yes. Another good question, Mark. So the way to think about it is that basically, the way that we have made the agreement with the carriers is that 8/31 is the deadline. And so you’re just not going to see the impact in Q3 in the same way that you would in Q4. That’s kind of the discrepancy between 100 bps in quarter versus 200 to 300 bps in the next quarter. I think the other dynamic that you want to think about is that the vast majority of this traffic is already registered and compliant. And so I think as we get into 2024, like, we’re not really talking about the impacts, but we think it will kind of more or less normalized.

Mark Murphy: Thank you.

Operator: The next question comes from Michael Turrin, Wells Fargo Securities0

Michael Turrin: Hey great, thanks. Appreciate you taking the question. If we just look at the revenue upside you delivered in Q2, it’s more pronounced than we’ve seen in a number of quarters. I’m wondering, is most of that just tied to the stabilization commentary you’re making on the usage side and results that are coming in ahead of what you’re expecting? And then just if there’s any commentary you can add around if the usage trends at all changed as the quarter progressed, meaning, did we start at a lower point and potentially build back up? Or is that stabilization holding somewhat consistent, I think that color is just useful as we all just try to parse through what’s ahead here. Thanks.

Elena Donio: Thanks, Michael. So to answer your first question in terms of the larger beats, so we’re continuing about 5% a head of the midpoint of the guidance range. That is, as you say, it’s largely as a result of the volume stabilization that we noted. So we saw that we called it out in May. We saw that volume stabilization continued through the rest of the quarter, and that’s really what drove the outperformance. And we’re pretty encouraged by that. I mean, the market is still very dynamic. It’s still usage-based business for the vast majority of our business. So, we are susceptible to changes and we’ll continue to plan prudently as a result. In terms of the volume trends, so what I would say is relatively constant throughout the second quarter, but a different trend than we saw kind of the coming out of 2022 and in the early stages of Q1. And so we felt pretty encouraged by the fact that it was relatively constant across the months in the second quarter.

Michael Turrin: That’s helpful. Thank you.

Operator: The next question comes from Ryan Koontz, Needham & Company.

Ryan Koontz: Thanks for question. I have one for Khozema on the communications side. As you think about kind of the journey into more and more automation, can you give us an idea kind of where you are today in terms of automation, where you expect to be, say, a year from now in terms of deal screening, onboarding, delivery execution? Just any color on that journey would be helpful. Thank you.

Khozema Shipchandler: Yes. Hey Ryan. I just want to clarify one part of your question. Do you mean automation vis-à-vis the kind of description that we gave back to kind of our product line growth kind of self-serve roots?

Ryan Koontz: Yes.

Khozema Shipchandler: Yes. So I would say, for the most part, like we obviously took a number of like really significant headcount actions, right, in the latter part of 2022 and then the beginning part of 2023. And so the way that we think about the business going forward is that we continue to see like a lot of of growth potential for the business in the future, and we want to basically kind of stabilize our costs. And I think the way to do that is largely going to be through automation. Jeff talked about AI and the promise of a lot of the things that we could do from a customer perspective. I also think there’s a lot of those things that we could do internal to the company as well in terms of eating with some of that automation.

There are a number of areas that we’re starting to explore in currently, and I think that could be really interesting. For the most part, I would say that we’ve seen really good profit generation in terms of the business. I think we continue to see additional profit generation as we move forward. And I think in large part, that’s going to come through some combination of additional growth and then just being able to hold the cost line and probably generate some productivity in the cost line and the bulk of that will largely come through automotive — automation efforts.

Ryan Koontz: Sure. That’s helpful. Just a quick clarification. Would you say maybe you’re halfway there in terms of what you want to see operationally or for the most part, you’re there?

Khozema Shipchandler: I wouldn’t say we’re there. I mean, I’d be a little bit careful about qualifying exactly where we are in the journey. Personally, I mean I do see a lot more opportunity for us to drive volume leverage. And so I think we’ll just kind of play through and see where we go into next year.

Ryan Koontz: Excellent. Thanks so much.

Operator: Kash Rangan, Goldman Sachs has the next question.

Kash Rangan: Hi, thank you very much. Curious to get your take on how you characterize the outlook for potentially accelerating bookings growth or how that might translate the better revenue growth rate going forward. If you can talk about the demand signals that you’re seeing at the front end of the pipeline from an external perspective and some of the things that you’re seeing back from an internal perspective, of course, with the realignment of the organization even better footing with the internal [Technical Difficulty] that encourage you to see the demand signals outside in conjunction with some of the operational improvements that you’ve made internally, make you feel better about second half bookings and potentially a better growth in the years ahead. Thank you so much.

Elena Donio: Hey, Kash, just so we’re clear. Was that a question for one of the business units in particular?

Kash Rangan: You could take it for both units or in aggregate. Thank you, Elena. Appreciate it.

Elena Donio: Okay. Great. Yes, sure. Why don’t I hand it to Khozema and Aidan, they can cover their respective business units.

Khozema Shipchandler: Yes. I would say, Kash, like the way that kind of I answered the prior question, like we’ve done a lot, obviously, to make the sales motion a lot more efficient in the communications part of the business. We obviously took some material headcount actions. And I think on balance, like we’re seeing really, really strong profitability, which is what we committed to investors. And I think we’re at least encouraged by some of the growth that we’ve seen, particularly in Q2. I think the signal in particular that we’re watching inside the company to kind of more precisely answer your question is that we are hitting our sales targets. Sales targets obviously take some time to show up into revenue. Based on our ability to continue hitting sales targets, and based on what we’ve seen, I’m certainly more encouraged that, that translates into financial results into 2024, and I think ends up being a pretty good setup.

As Aidan alluded to, like it’s obviously a kind of a choppy environment. And this being kind of the usage side of the business, like we’re going to plan prudently in terms of that. Certainly not going to add any cost back into the business. But we feel pretty good about the setup based on the way that we’ve hit sales targets, the way that we’ve stabilized the team, the way that we have generated profit through a pretty tough external environment. And I’d say that’s a pretty good set up going forward. With that, why don’t I turn it over to Elena to talk about TDA.

Elena Donio: Sure. Let me hit a couple of high points. And then if there’s — your question had a lot of dimension to it. So, if we missed anything, please do feel free to circle back. But we’re really focused on the data and application side of the business on the implant to the things we can control. We’re focused on making sure that we’ve got the right folks in seat the right process, the right methodology and the right enablement. And I feel really good about our progress there. We are starting to see some improvement in the pipeline as well. Top of tunnel [ph] continues to be really strong. So, we think there’s a robust demand environment out there. We are starting to see some improvement in things like conversion through the pipe.

So, lots of work what to do. It’s not exactly where we’d like it. But again, I’ve talked in historical quarters about this being in a bit of a rebuild. And we feel good about our progress against that rebuild node. And again, we’ll see bookings continue to improve this year, which will translate into revenue next year in 2024. So, I think there’s reason to be optimistic here, but there’s also a long road ahead as we continue to work toward that improvement in net new business acquisition. At the same time, working on making sure we’re managing through churn and contraction and that we’ve got a lot of reasons for customers to embrace that to play it quickly and stay a good long time. And so we’re doubling down on our efforts there as well.

Kash Rangan: Got it. And would you consider hiring to meet the — what could be improving demand environment as you go to 2024.

Elena Donio: Firstly, in TDA, I’ll let Khozema talk about how he feels about that question from a comps perspective. We have just gotten to the point where our reps are largely onboarded and ramped. I really want to see those productivity metrics getting up to where we’d like them before we layer on the next degree of headcount ad teams expand into new markets and things like that.

Khozema Shipchandler: Yes. And I basically agree with the light on the Communications side think we’re in a spot where we like the way that we’ve sized the team, the efficiencies that we’ve gotten out of it as I alluded to earlier, I don’t think there’s additional volume leverage to be gained there. If we saw a really accelerated market opportunity. It’s not off the table, but it’s not the plan.

Kash Rangan: Thank you so much.

Operator: Your next question is Nick Altmann, Scotiabank.

Nick Altmann: Awesome. Thanks guys. Maybe one for Jeff or Elena. You guys had called out this $100 million customer, which is a pretty monumental deal. And a big theme this year is sort of around this notion of vendor consolidation. And historically, some of your larger customers had maybe multi-source CPaaS vendors. And so I wanted to ask two parts around this specific deal. One, was this sort of a deal where the customer sort of consolidated CPaaS relationships and kind of went all in on Twilio? And then maybe as a second part, is this sort of a strategy that you’re leaning into this year? And could you just provide maybe any color around what’s the sort of level of customer appetite for these sort of consolidation deals? I think that would be really interesting. Thanks.

Khozema Shipchandler: Yes. Hey Nick, this is Khozema. It was actually a communications customer. So, I’ll answer your question. I think the short answer to the first question is, yes, it was an opportunity for us to help one of our really important customers consolidate their spend all onto Twilio across a number of channels. I think what was particularly a differentiating feature of this deal was our ability to kind of optimize traffic patterns. Like — I think that’s a really important aspect of the way that some of these like really sophisticated customers want to do business, they want to make sure that the right signals are reaching their customers at the right times, and that effectively ends up being like a kind of prioritization and queuing process that we’re really good at.

I think in terms of strategy going forward, we’re certainly looking at any opportunity where we have the ability to consolidate spend and constantly take share. I think we do have a lot of those opportunities across the board, frankly, whether it’s with different customer segments or even internationally. And so I think that is going to be a part of the strategy that you’ll see from us going forward. And let me add one other point, actually, but not at the risk of price. Like I think that’s one thing that we’ve done a pretty good job of holding firm is making sure that we don’t take price down, making sure that we show discipline in terms of gross profit so that we’re always hurdling so that we generate op profit. I think you can kind of see that in our gross margins.

And I think you’d find that we’re generally a price higher than the competition.

Q – Nick Altmann: Thanks, guys.

Khozema Shipchandler: Thanks, Nick.

Operator: We will now hear from Derrick Wood, TD Cowen.

Derrick Wood: Great. Thanks. Khozema, I’ll stay with you and maybe kind of on that last topic around gross margins. And just wondering kind of within your restructuring efforts, if you’ve made any notable changes around kind of incentives for sales teams or other business leaders to focus on driving gross margins? And I guess, whether you have or not or — are there levers you can lean on to help drive more improvements in gross margins in the near to medium term?

Khozema Shipchandler: Yeah. Hey, Derrick, the way that we’ve reoriented our sales comp is basically to pay on a gross profit basis. Now there’s one caveat to that. We’re only going to take a gross profit deal if we can see that it hurdles and generates op profit. So we’re clearly not going to take margin that ends up resulting ultimately in a bottom line loss. And so that is an important change that we made in the compensation plan for our reps I wouldn’t say necessarily that we’re biasing the business, especially on the communication side to necessarily generate higher gross margin. Like I think we do have opportunities in terms of cross-sell, for example, I mean, I think there’s a lot that we can do, for example, in terms of selling more voice or e-mail as just as examples in divesting customers.

We’ll continue with that as part of the strategy. I think the idea, though, really is ensuring that the unit economics of every one of these customers is solid, that those of the business overall are solid. And as long as we can go and efficiently get incremental gross profit dollars, we’ll do that in the future.

Derrick Wood: Great. Thank you.

Khozema Shipchandler: A>: Thanks, Derrick.

Operator: Up next is Matt Stotler, William Blair.

Q – Unidentified Analyst: Hey, guys. This is Alex [ph] on for Matt. One for me on the international strategy. With the new SaaS first strategy, what, if any, implications are there for the international business? And how do you expect international revenue to trend as a percentage of total revenue going forward?

Elena Donio: What you mean by SaaS first.

Q – Unidentified Analyst: Yeah, just the software – the split of the business and the software focused strategy.

Elena Donio: So I’ll take a crack at this line and then if anyone else wants to jump in, they count at the late and I’ll speak first to our data and applications business. We operate in a number of international markets. We haven’t seen market change in the balance between US versus international bookings growth, for example. And we’re committed to the markets that we serve. We’re not necessarily looking to open up into new markets in the very near term. We think there’s an enormous TAM right here in our core markets. And the good news is that there’s demand across all of our international markets. We see improvement in performance across sort of each of those theaters. And so — and we’re able to service those markets as well from a software perspective in terms of sort of everything from functionality and capability to our standards on privacy and data protection and things like that. I don’t know how or anyone else to have anything else to add?

Khozema Shipchandler: I’ll just add on the communication side. I mean, we continue to see a lot of opportunity internationally. I mean, that’s historically been a set of markets that we’ve been under-penetrated in from a communications perspective. And so there’s a lot of additional growth. And I think with we found is that a lot of the customers in those markets are actually not being serviced by anybody. And so I think there’s a lot of open field running there. In addition to that, as you may remember from our Investor Day last year, the unit economics are actually quite good as well internationally. And so we think there’s a lot of gross profit dollars out there to go and consume. And so I think similar to Elena, like it’s not like we have to open up and necessarily in 10 more markets. We want to be very cost efficient about the way that we do it. But we do see a lot of opportunity out there. We’re going to continue winning it.

Aidan Viggiano: Maybe I’ll just add one more thing. This is Aidan. If you’re asking because you’ve seen the international percent of revenue come down slightly quarter-over-quarter, that’s just really largely a function of the crypto dynamics that we’ve been talking about, a lot of that volumes concentrated internationally. And so I wouldn’t read too much into it if that’s where you were going.

Q – Unidentified Analyst: Got it. Perfect. Thanks guys. That’s helpful Operator Next question is Alex Zukin, Wolfe Research.

Alex Zukin: Hey, guys, thanks for taking the question. I guess maybe Jeff or Elena for you. You called out reacceleration in revenue for next year. Is that attributable to First, is that aspirational? Is that a comment on a particular quarter that you see that happening next year? And if we look at the data and apps business, like do you see — is that business going to grow in Q4 given the bookings commentary from before? And do you see that reaccelerating in the early part of next year? And how much, if any, would you expect kind of driven revenue or products or initiatives to kind of contribute to that next year? I have a quick follow-up.

Elena Donio: So let me take a point here. And then as Jeff wants out a thing on the AI side, can o that as well. So we’re not committing to specific time lines on the reacceleration in terms of when in 2024, it happens. But what I will say and growth is always aspirational. We definitely are looking forward to that happening. But I’ll say that it’s — it will be reflective of bookings improvements that we’re going to see this year. And that is a big — it’s a function of the rebuild that we’ve been undergoing and the addition of our round reps and the coming up the curve with those individuals that are newly in seed. And so the bookings are happening now happening towards the back half of this year as well, that will translate in 2024. So hope that’s clear, but we’re not doing a quarter-by-quarter view.

Jeff Lawson: And then I can speak to the AI part of your question. Look, segment is the centerpiece of our customer AI strategy, because that is where the proprietary data sets of our customers live, it is the sum of what they know about their customer, and therefore, how they’re going to unlock the value in that data to go personalize like every touch forte with their customers. And now with generative AI, you can do it so much more efficiently and so much more in an individualized basis that it opens up tremendous new opportunities. Now that said, I think that AI as a monetization like vector for the company, I think it follows, right? I think that’s probably what you’re seeing in most companies out there, which is AI is in its earliest stages now, buyers are interested in hearing what we have to say.

They are interested in the products we’re bringing to market, but obviously, those products are brand new, because generative AI really started hitting a stride of utility in the last six months, right? And so no one’s got mature product set really to speak of. And so that speaks to sort of the whole market is in this journey. But from my conversations that I and our customers, they are liking our vision, and I think that can turn into sales of segments as companies start to get their data ready for what the coming AI future has for them. And that will be a key part of our selling value proposition going forward.

Alex Zukin: Got it. And then Tim, maybe for you, just on free cash flow. You guys are doing a great job on the operating income front. You raised that number for the year. How could we think about that op income to free cash flow conversion, both this year, but realizing this year has some onetime issues, maybe even more so next year. That would be super helpful.

Aidan Viggiano: Yeah. Thanks, Alex. It’s Aidan. So as it relates to free cash flow, so maybe just talk a little bit about the performance in the quarter. So we generated $72 million in the quarter. That number actually included $30 million of restructuring payments. So adjusting for those nonrecurring payments, we generated about $100 million, and that’s a record free cash flow quarter for us. So really proud of really posting those results. And it’s really a function of like when you look at the drivers, it’s really the higher profitability, both the non-GAAP line, as well as lower restructuring costs. As you think about going forward, so we’re not going to put out any new framework in terms of how to think about it. I will just say there’s always some level of timing and variability in cash flow.

So I wouldn’t expect that performance is necessarily linear. But it’s a huge focus for us. We’ll continue to look for avenues to both drive efficiency from a cost perspective, as well as growth free cash flow profile of the business over time.

Alex Zukin: Perfect. Thank you.

Operator: The next question is Phillip Leytes, Mizuho.

Siti Panigrahi: Hi. This is actually Siti Panigrahi from Mizuho. My question is, Elena, when you look at data and application, you have products catered to different LOEs. You have flex more on customer support and engage more marketing. Are you seeing any demand specifically in any particular segment? Are you more optimistic about any particular segment? And as you’re executing on your go-to-market, how are you rebuilding your sales folks? Is it more one — same sales guys targeting all these products? Or are you building different verticals? Any color would be helpful.

Elena Donio: Sure. So we — when I — let me just start with little bit of a history. We started talking, I think, four, five quarters ago about the need to rebuild the sales team in a specialized manner. And so that meant having individuals that were very, very familiar with each customer and who they are, what they need from us, what they expect in the software offerings, how they think, how they buy. And so we have a team specific to segment in the CDP space. That organization focuses predominantly on through the data buyer, which is oftentimes part of a product organization in the consumer space and the marketer. And that’s really sort of part and parcel of who the segment buyer is in flex. We’re talking about a contact center buyer.

But more and more, we’re excited about how these two themes come together in a customer experience umbrella and how segment is really positioned so well to operate within the context of Flex to provide, for example, a world where an agent has access to the latest and greatest customer information as they’re doing their jobs. So while we have teams that are focused on those specific buyers, we think underneath the hard where everything comes together in front of that end user, they’re both really, really useful. And so we spent time over the last couple of quarters, making sure that they’re interoperable and connected. And we’re starting to see that pay off in terms of customer interest and demand in that capability. I think you started off a little bit with what that rebuild has looked like.

And so again, we started this a number of quarters ago, essentially going out to the market and rehiring for these specialized sales organizations that we just, for example, in segment across the threshold where the majority of those reps are now what we consider ramp sales equivalent and are sort of beginning to operate at full quota full quota potential. So again, this is really the key to making sure that we reaccelerate bookings as we’ll see here in the back half of the year. And again, that will translate into revenue next year.

Siti Panigrahi: Thanks for the color. Operator Our Final question today comes from Rishi Jaluria, RBC Capital Markets.

Rishi Jaluria: Wonderful. Thanks so much for squeezing me in. I wanted to go back to the topic of AI and your opportunity there. Maybe can you drill a little bit into how you feel you’re more differentiated versus your peers to really capitalize on the AI opportunity, both when it comes to kind of the pure play communications providers as well as others within kind of the broader CDP landscape when it comes to segment. Thanks.

Jeff Lawson: I just think the combination of communications workloads and the data asset of the CDP is the killer combination, right? When I think about communications alone, right, communications needs to get smarter. Most of our customers do not want to just spend up more communication. They want to send more effective communications. And so as we move the company from a company that sends communications to one of the sense more effective communications, that requires data and that requires personalization understanding of who the recipient of all those messages are. Now you go look at segment and segment is the leading CDP in the market for IDC it has amazing real-time technical capabilities. It has ETL, reverse ETL profile capabilities.

It is really the composable CDP, every part of that composability is right there in the segment product. And so we can address a great many parts of that market while customers are building up their data assets that are going to power AI. And so we’re bringing together these two parts of the company in a way that is extraordinarily differentiated. I mean I don’t see any other communications company with a CDP. And I think to go forward to build value as a company, communications has to have data, and it has to be unlocking better communications, not just more communications. And on the flip side and the CDP, we have the most bank CDP of the market. And so I think on both sides, we have a very differentiated product, and then you bring them together and nobody has that capability.

Rishi Jaluria: Wonderful. Thank you, so much.

Operator: And everyone, that does conclude today’s Twilio earnings call. We would like to thank you all for your participation. You may now disconnect.+

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TWILIO INC

Q2 2023

Earnings Transcript

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